invest in Bonds – My Money Streets

When to invest in a debt fund and how to invest in debt fund is a tricky one. Fixed income can be pretty volatile.

What are the ever green Debt funds? or how to ensure, you are always above the yield-curve? How to earn some extra interest income from debt funds?Are debt funds really safe now? Which debt fund will give best returns? How to choose a debt fund? What is ‘interest rate risk’? What is the safest debt fund? This post is very relevant to July 2020.

After Equity Mutual fund, debt MF has managed to catch the fancy of retail investors. Besides the popular Bharat Bond ETF and liquid mutual fund category, retail NCD issues have also made to our homes very actively in past few years. Especially with higher interest rates compared to Bank Fixed Deposits, it is indeed irresistible.

In this post, I intend to share some factors on debt market investing and how to navigate through it. To achieve the right context, I will use some real life examples to make this topic more relatable.

Bharat Bond ETF Series II IPO is very fresh in our memory with over-subscription, so let’s begin with that. Launched in 14th – 17th July,2020 – the 7 years ETF with 5 years maturity offering 5.46% and 11 years maturity ETF yield is at 6.54%. So, this very safe (almost Government backed) Bond Fund/ Bond ETF is offering a little bit higher interest than SBI Fixed deposit (approximately 5.3% between 5 years – 10 years) So, the interest rate offered by Bharat Bond ETF Does look attractive comparatively and it is.

But, let us assume a scenario, – This is a hypothesis, for explaining how debt instrument works – In 2021, RBI Monetary policy scheduled in the Month of April RBI decides to increase the interest rate by 50 basis point or 0.5% followed by in 2022 April, another 0.5%. Again in April 2023, 0.5%, as a Bank, SBI will have to pass on this rate to the depositors, and the fresh deposit rates are 6.75%. So, a savvy investor is likely to close the deposit now, and book a new deposit with higher interest.

Similarly, this will trickle down in bond market, the new bonds which comes in market, will offer a higher interest rate. So, the bonds issued during low interest regime (we are now in a low interest rate regime) will be sold for higher yielding bonds, and it will cause the bond rates fall, so in this scenario, if anyone sells the ETF unit, likely to earn less interest than the maturity yield or interest income.

In low interest regime, it is a good idea to invest in liquid funds, ultra-short term debt funds. These category funds have no to very low interest rate risk. If someone wish to opt for debt funds replacing savings or fixed deposits, these funds are low risk ones. Because these funds invest in money market instruments, treasury-bills, ultra-short term government securities, so these debt assets have a low maturity and dont get affected by interest rate up or down.

If you want to make a little extra money and ready to study a little more, it is a good idea to check the Banking and PSU funds, check out the secondary bonds in the market. They are the next best options.

If you wish to earn good interest on debt, you should wait for higher interest circle, and buy debt fund or AA+ and AAA rated bonds, if you choose to stay invested for longer term.

In current scenario, of low interest rate, buy debt for shorter terms, and stick to funds like Bharat Bond ETF, liquid funds or Ultra-short term debt fund and review portfolio every quarter.

Yes, unlike equity Mutual Fund, Debt investments like Mutual Funds or Bond should be reviewed every quarter. Debt as an asset category is risky for long term. Unless you are able to lock-in for a really attractive/ high interest rate, investment horizon should not be more than 1 year or should reviewed periodically.

I am not a SEBI registered advisor. This blog is based on my understanding on the subject. This should be interpreted or used for making an investment decision.

NCDs generates high returns. The Financial advisors push you to buy them. How to decide what to buy? Let’s see what are bonds or debentures and should we buy them?

What is NCD?

NCD is a fixed income instrument. Apart from taking bank loans Corporates, NBFCs raise money through issuing debentures. It is a financial instrument issued by corporates to support their business needs. There are two type of debentures, convertible debentures and non-convertible debenture. Convertible debentures are unsecured bonds and can be converted into equities or stocks at a future date as specified by the issuer.

NCD is financial instrument used for taking loan from the financial market. It cannot be converted into equity shares of the issuer in a future date, hence it offers higher interest rate. The NCD offers atleast 1.5 – 2% higher interest than any fixed deposit by a reputed bank and company deposits. NCDs come in both secured and unsecure form, secured #NCDs are backed by assets. Unsecured NCDs entails higher risk.

Added Edge

1. What makes it more attractive is, in the falling interest regime, the bond prices may surge, hence the value of the funds.

2. No TDS deducted on the demat form of investment (physical form does)

Points for the new investors

1. Once you come to know about a new NCD offer, check with your stock broker for online application.

2. Like any other IPO, it has a NCD comes with opening and closing dates

3. NCD offers coupon rate. Coupon rate is the interest rate paid on a bond by its issuer for the term of the security. For example, if a NCD issue comes with a face value of Rs. 100 and coupon rate 10%, the interest earned will be Rs. 10 per annum. However, in the tenure if the NAV price falls or surge, it will have no impact on the interest pay out, it will continue as Rs. 10 per year throughout the tenure. Hence, coupon rate is fixed on the offer price and continue through maturity

4. Check for the credit rating allotted by #ICRA, #CRISIL, #CARE (triple A rating Suggest good financial health of the issuer, double A may give higher coupon rate, triple A ensures safety of your capital)

5. NCDs are also traded on stock exchanges. Apart from the new offers, investors can also buy exiting NCDs through stock exchanges, however, one need to be double careful and seek guidance from financial planner.

6. Interests are generally paid through direct credit, RTGS, ECS and NEFT mode. It may offer monthly/ quarterly/ annually/ cumulative options.

7. Tax – The investment is taxed at short term (less than a year) and long term capital gain (debt investment more than 3 years are taxed at 10%) depending on the holding period. The interest will be taxed as per the tax bracket of the investor.

8. This is as liquid as a bank fixed deposit. However, there is no penalty fee for pre-mature withdrawal of this investment

9. Additional Features – Some NCD public issues offer special rate of interest to Senior citizens or to shareholder.

Pros

1. It’s #liquidity is as good as any fixed deposit in bank, which has a specific tenure but can be withdrawn any time. However, FD may charge a penalty fee on interest accrued.. but incase of NCD, there is no penalty.

2. If it is compared with company fixed deposit, company deposits (a popular instrument in the senior citizen segment with 0.25- 0.50% extra interest)comes with various conditions for pre-mature withdrawal, for eg – lock-in periods, penalties etc.

3. NCDs come with Rating from #ICRA #CRISIL #IndiaRatings #CARE which gives a clarity to the investor on the risk involved, higher the rating, lower is the risk (AAA being the highest category, followed by AA, A, A-, BBB and so on)

4. Incase of bankruptcy,Secured NCD holders get preference over shareholders

Cons

1. Incase interest rate increase, the value of the NCD may fall, sometimes even below the Face Value. But this is only applicable for secondary market transactions

2. Though, the instrument can be traded on the exchanges, one may not find a buyer for NCDs if the trade volumes on bourses are low.

Tag: invest in Bonds

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