Of all the investments instruments available in India , Bank Fixed Deposits - commonly known as FDs - are the simplest and most prevalent. It is "almost" risk free and hence preferred by retired and senior citizens for growth and preservation of their life long savings.
Primary reasons for such universal acceptance are as follows -
Of all sectors or industries , banking is considered the safest and most credible when it comes to guarantee of money lent to be returned. Banking is generally the most regularized and conservative sector , so as to ensure proper and smooth running of all activities economic.
Primary reasons for such universal acceptance are as follows -
- Fixed Interest rate i.e fixed returns
- Guarantee of payment by banks
Of all sectors or industries , banking is considered the safest and most credible when it comes to guarantee of money lent to be returned. Banking is generally the most regularized and conservative sector , so as to ensure proper and smooth running of all activities economic.
Similar to FDs is another debt instrument known as Bonds. A Bond is a debt instrument which is used by an institute (known as issuer) like government, corporate, municipalities etc. to raise capital. Issuer provides a coupon (fixed or variable) on regular intervals (monthly, quarterly, half yearly or annual) to the Subscriber (buyer of the bond). A Bond has below features to define it-
- Face Value/Principal/Nominal/Par - It is the value of one 'unit' of Bond on which 'coupon' is calculated. It is generally in the denomination of 100 units of the currency of the bond, e.g. 100$. A Subscriber pays amount equivalent to the Face Value of all the units that he intends purchase from the Issuer to buy Bonds.
- Coupon - It is the interest rate that the issuer pays to the subscriber on a regular interval like monthly, quarterly , semi annual or annual. It is generally fixed for the tenure of the bond or in some cases can be bench-marked against an index (like LIBOR) as well.
- Tenor/Tenure - It is total 'duration' of the bond after which Bond 'matures' and Issuer pays back Face Value of the Bond to the Subscriber.
- Rating - Almost are Bonds are 'rated' by third party Rating Agencies (supposed to be impartial in their workings) based on the credibility and financial standing of the Issuer.
So based on above terminology , one can infer that bonds are a tool of money lending by which Issuer raises money and Subscriber earns Coupon by buying those Bonds in the form of interest. But in addition to interest , there is scope of capital gain/loss as well. Lets see how that can happen with the help of below example-
Ankit buys a Bond at a coupon of 10%/Year with a maturity after 10 years. After one year Interest rates are down in the market and similar Bond is available in the market at a coupon of 9%/Year. So if Saurabh wants to buy such Bond , he will earn a coupon which is 1% less than what Ankit earns. So over a period of next 9 years, Ankit will earn 9% more than what Saurabh will earn if Saurabh subscribe to Bond available in the market today. So Saurabh can easily offer Ankit any amount less than 9% over Face Value to buy his Bond and still he will be at same or more benefit as he will be if he subscribe the new bond in the market. So Ankit stand to gain a capital appreciation of upto 9% over his investment. Similarly if Interest rates increase, there will be Capital Loss for Ankit.
What above example proves is that Bonds have potential to be 'traded' throughout their 'Tenure/Tenor', hence the title "The Tradable FDs".
Bonds are preferred because of an assured stream of income in the form of coupons. They are one of three chief investment assets along with 'equity' and 'cash equivalents'. In India Bond market is in nascent stage at Retail level , but quite mature at institutional level in the form of investments made by Corporate and Mutual Fund industry into them.
Below are major forms of Bonds available in India -
- Non-Convertible Debentures (NCD) - Unlike Convertible Bonds which can be converted into equity at maturity , NCDs can not be converted into equity and are instead paid along-with accumulated interest at the time of maturity.
- Capital Gains Bond - They provide tax exemption from the capital gain earned by selling property. Capital gains need to be transferred into these bonds within six months of selling the property. Two such Bonds are notified by Government of India.
- Rural Electrification Corporation of India (RECL)
- National Highway Authority of India (NHAI)
- Tax Free Bonds - Coupon earned on these Bonds is not taxable and hence these Bonds are preferred by those investors who want risk free and zero tax income stream.
Like all other Asset Classes, Bonds have their own unique features which have relevance for a specific set of investors. There are very few avenues available for Retail investors to invest into Bonds. Debt Mutual Funds surmount the problem of high ticket sizes and high investment horizon for retail investors by aggregating retail money and bringing benefits of scale and professional expertise, for investing into Bonds.
