The Role of Bonds in Modern Wealth Management Strategies in India

When exploring investment opportunities in India, bonds are a notable option, especially for individuals seeking steady income and relatively low risk. Bonds are debt instruments where the issuer borrows money from the investor (bondholder) and agrees to pay interest, termed the coupon, at regular intervals until the principal is repaid at maturity.

In this guide, we’ll dive into the meaning of bonds, how they work, the types available in India, and the benefits of including them in your investment portfolio.

Table of Contents

What Are Bonds?

The bond represent a formal contract between the issuer and the bondholder. The issuer whether a government body or a corporate entity borrows money and agrees to:

Pay periodic interest: At intervals such as semi-annually, annually, or monthly.
Repay the principal: At the bond’s maturity date.

Bonds differ from stocks:

Bondholders are creditors, earning fixed interest income, while stockholders are equity owners, enjoying voting rights and profit-sharing.
Bonds have a fixed tenure and are repaid at maturity, whereas stocks remain outstanding indefinitely.

Governments and businesses issue bonds to raise funds for long-term projects or operational expenses. Bonds are often considered safer investments due to their lower risk compared to equity, making them an appealing option for risk-averse investors.

Types of Bonds in India

Here’s a breakdown of the different bond types available to Indian investors:

1. Capital Gains Bonds

Allow investors to reinvest profits from selling long-term assets (e.g., land, property) into specified bonds.
Offer tax exemptions under Section 54EC of the Income Tax Act, 1961.
Issued by entities like:

NHAI (National Highways Authority of India)
RECL (Rural Electrification Corporation Ltd)

2. Government Securities (G-Secs)

Issued by the Central and State Governments, carrying zero credit risk.
Offer steady interest income on a semi-annual basis, making them one of the safest investment options.

3. Corporate Bonds

Issued by companies to meet financing needs
Provide higher returns than bank fixed deposits or government bonds but come with credit risk.
Ideal for investors seeking a high interest rate investment, this option provides the potential for higher returns compared to traditional investment avenues, making it an excellent choice for those looking to maximise their income through interest-generating assets.

4. Inflation-Linked Bonds

Indexed to inflation, ensuring the principal and interest payments adjust with rising prices.
Help protect investors against inflationary erosion of purchasing power.

5. Convertible Bonds

Allow bondholders to convert their bonds into equity shares based on pre-determined terms, offering potential capital appreciation.

6. Sovereign Gold Bonds (SGBs)

Issued by the Government of India, these bonds track gold prices and offer regular interest income.
An excellent alternative to physical gold, eliminating storage risks.

7. RBI Bonds

The 7.75% Taxable Bonds, 2018, are open to resident citizens and HUFs with no upper investment limit.
Offer fixed returns, making them a reliable income source.

How to Invest in Bonds?

Investing in bonds can be done through:

Primary Market: Subscribe to public bond issues directly.
Secondary Market: Purchase existing bonds traded on stock exchanges.

While bonds are typically held until maturity, secondary market trades provide liquidity for premature exits. Before investing, it’s crucial to evaluate the issuer’s creditworthiness by:

Checking credit ratings by agencies (e.g., AAA-rated bonds are deemed safest).
Conducting research or consulting financial advisors.

Returns From Bonds

The coupon rate (interest rate) determines the bond’s annual return. For example:

If a bond has a face value of ₹100 and a coupon rate of 7%, the investor receives ₹7 annually.

Returns vary in the secondary market based on whether the bond trades above or below face value. The Yield to Maturity (YTM) is a key metric to assess returns from such trades.

Benefits of Diversifying With Bonds

Diversification reduces unsystematic risk in your portfolio. Here’s how you can diversify within bonds:

Invest in a mix of government and corporate bonds to balance safety and higher yields.
Include inflation-linked or convertible bonds to hedge against specific risks.
Consider SGBs for exposure to gold-backed securities without holding physical gold.

Why Consider Bonds in Your Portfolio?

Low Risk: Compared to equities, bonds provide predictable returns with lower market volatility.
Steady Income: Regular coupon payments make them a reliable source of passive income.
Tax Benefits: Certain bonds, like capital gains bonds, offer tax-saving opportunities under Indian tax laws.

Conclusion

Bonds are a versatile investment option, offering stability, regular income, and diversification benefits. They are particularly appealing for conservative investors seeking predictable returns without exposure to high-risk market fluctuations.

If you’re considering investing in bonds, start by evaluating your financial goals, risk appetite, and the issuer’s creditworthiness. Diversifying across bond types can further enhance your portfolio’s stability and returns.

Need help crafting a robust bond investment strategy? Contact an expert today and make informed decisions about your financial future.