Recently, the Reserve Bank of India announced that retail investors will be able to open an account directly with the central bank and bid for G-Secs in auctions. G-Secs are government issued bonds that pay interest.
Until now, buying g-secs was only possible through aggregators like stock exchanges, brokers and banks. On a similar note, stock brokers are also ramping up their services by allowing retail investors to easily buy corporate bonds. Axis Direct recently launched ‘Yield’ – an online platform to buy and sell bonds & debentures in the secondary market.
The trend is clear – retail investors are being enticed to participate in bond markets. This move is expected to improve the liquidity in the retail bond market and give investors a new way to invest their money. But should you be buying bonds when there are so many other products that offer similar or better features?
In the table below we compare the features of bonds versus other similar products.
Bonds/debentures Debt mutual funds Bank deposits
Therefore, dealing in bonds is definitely not as attractive as made out to be. The benefit of buying bonds (compared to debt funds) is that you have total control over the returns that will be made from the purchase. For example, let us say you buy an 8% per annum interest bearing bond for 10 years at its face value price. In this scenario, your 8% return is fixed for the next 10 years.
Comparatively if you invest in debt funds, the fund manager will invest in several bonds of different maturities and keep churning them periodically. Due to this we cannot predict the returns from debt funds as accurately as with bonds directly.
The other benefit is the variety of choice in bond markets. There are several companies issuing bonds as well the government and institutions as well. This mix of issuers gives the bond buyers the advantage of finding good investments.
But the downsides outweigh the benefits easily. The main downside with bonds is not even liquidity issues – it is taxability of interest. Unless your bond offers tax-free interest, for everyone else the interest is added to income and taxed at the highest rate. Clearly the highest tax payers will pay a third of the interest earned toward taxes. Even if you do find a high interest paying bond, the risks will be high too.
Secondly, bond markets for retail investors and those for institutional buyers are different. Retail bond markets are small and there are many bonds listed. Due to this most bonds barely see any trading activity, not to forget the huge bid/ask spreads on bond prices. There is also brokerage to be paid along with demat charges.
Lastly, most retail bond purchases happen in the primary market when companies announce public issues. Such bonds are usually held till maturity and therefore reduce the need for a secondary market.
It is true that secondary markets for bonds should be as liquid and efficient like equity markets. But in the current state it is only suitable for those who do not mind putting away cash that they will not need at all. Besides, debt funds are still efficient due to their better tax treatment, investment choices, diversification and liquidity.
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