The Securities and Exchange Board of India (Sebi) and the Reserve Bank of India (RBI), alongside the government, have been actively implementing measures to fortify India's bond market ecosystem. Building upon these foundational efforts, Finance Minister Nirmala Sitharaman unveiled a series of strategic announcements in the Union Budget 2026 aimed at further strengthening the bond market and attracting a broader spectrum of investors.
Market-Making Framework and Total Return Swaps on Corporate Bonds
In a significant move to enhance liquidity, the government will introduce a market-making framework specifically for the corporate bond market. Market makers are intermediaries that consistently provide buy and sell quotes for bond securities, thereby facilitating smoother transactions.
In markets characterized by limited liquidity, buyers often struggle to find willing sellers, and vice versa. Even when counterparties are located, there can be a substantial gap—known as the bid-ask spread—between the fair market price and the price offered for the trade. The introduction of market makers is designed to bridge this gap, making it easier for buyers and sellers to connect and narrowing the spread significantly.
This framework directly tackles the persistent liquidity challenges plaguing India's bond market. By ensuring continuous price quotes, market makers will not only improve liquidity but also foster more accurate price discovery. Their presence is expected to boost investor confidence, encouraging greater participation and contributing to the overall growth and depth of the bond market.
Additionally, the government will introduce total return swaps on corporate bonds. A total return swap is a sophisticated derivative instrument that allows an investor to receive the benefits of a bond's coupon payments and any capital appreciation without actually owning the underlying security. This instrument serves as a powerful risk management tool, and its introduction is anticipated to enhance market liquidity by attracting new categories of participants who may seek exposure without direct ownership.
During her Budget 2026 address, Finance Minister Nirmala Sitharaman stated: "I propose to introduce a market-making framework with suitable access to funds and derivatives on corporate bond indices. I also propose to introduce total return swaps on corporate bonds."
Incentives to Boost Municipal Bond Issuances
To stimulate the municipal bond segment, the finance minister announced a substantial incentive. The government will provide ₹100 crore for any single bond issuance exceeding ₹1,000 crore by a municipal corporation. This measure is strategically crafted to encourage larger-scale issuances from urban local bodies.
The incentive is expected to motivate municipal corporations, particularly those in major cities, to launch bond issues of more than ₹1,000 crore to capitalize on the financial benefit. This initiative aims to deepen the debt market for municipal bonds and draw in a wider pool of investors.
It is important to note that alongside this new incentive, the existing scheme under the Atal Mission for Rejuvenation and Urban Transformation (AMRUT) will continue. The AMRUT scheme incentivizes municipal bond issuances of up to ₹200 crore, thereby continuing to support smaller and medium-sized towns in their fundraising efforts.
The new ₹100 crore incentive will complement this by specifically targeting larger cities, encouraging them to undertake substantial bond issuances. The funds raised through these larger issues are earmarked for critical urban infrastructure projects. These projects can have a transformative impact on residents' quality of life, focusing on areas such as creating sustainable urban environments, ensuring tap water supply, installing sewage treatment plants, developing green spaces, promoting non-motorized transport, and rejuvenating water bodies.
This budget announcement underscores the government's strong commitment to developing a robust municipal bond market. The incentive is designed to assist local bodies in improving their access to capital markets. The resources mobilized can then be effectively deployed for developing essential urban infrastructure and related developmental projects.
Elaborating on this during her speech, the Finance Minister said: "To encourage the issuance of municipal bonds of higher value by large cities, I propose an incentive of ₹100 crore for a single bond issuance of more than ₹1,000 crore. The current scheme under AMRUT, which incentivises issuances up to ₹200 crore, will also continue to support smaller and medium towns."
Broadening Funding Channels and Market Participation
The comprehensive measures outlined in Budget 2026 are poised to open new and efficient funding channels for bond issuers. Both corporate entities and municipal corporations will gain enhanced ability to raise capital directly from the bond markets.
This shift is significant as it can help alleviate some of the funding pressure currently borne by banks, which are heavily involved in financing infrastructure and other large-scale projects. By diversifying the sources of capital, the financial system can become more resilient.
Overall, the Budget 2026 initiatives are expected to broaden participation in the bond markets, substantially improve liquidity conditions, reduce bid-ask spreads for securities, and lead to more efficient and transparent price discovery mechanisms. These reforms represent a concerted step towards a more mature, liquid, and accessible bond market in India.
