There are a few aspects to factor in before considering G-Secs as an investment option, advises Bindisha Sarang.
A major announcement in the recent monetary policy review was that retail investors will now be able to invest in government securities (G-Secs) directly by opening a gilt account with the central bank.
The facility, called ‘Retail Direct’, will provide them online access to both the primary and secondary G-Sec markets.
There are, however, a few aspects to factor in before considering G-Secs as an investment option.
Do G-Secs carry credit risk?
This refers to the risk of an issuer defaulting on the payment of interest or return of principal.
G-Secs, issued by the Government of India, carry zero credit risk.
Do investors run any duration risk?
Any revision in interest rates within the economy affects the prices of existing bonds.
In a declining interest-rate scenario, prices rise, and vice versa.
G-Secs are subject to duration risk.
Changing interest rates have a bigger impact on longer-duration bonds.
Since many government bonds have a longer duration than corporate bonds, their prices tend to decline more when rates head north.
One way investors can circumvent this risk is by holding them till maturity.
“If someone is okay with a biannual payout of interest for the next 20 years, these bonds are good for them,” says Kiran Telang, a Mumbai-based certified financial planner.
If you try to exit them in a rising interest-rate scenario, you could sustain losses.
How liquid are these bonds?
Government bonds are listed on the exchanges.
So, theoretically, you can sell them whenever you wish to exit.
T-bills aren’t listed, so a premature exit isn’t possible.
Liquidity tends to be low in these instruments.
Sometimes, finding a buyer may not be easy, especially if you wish to sell a small number.
If the seller needs to exit urgently, s/he could be forced to sell at a considerable discount.
Do they carry reinvestment risk?
Yes. If interest rates within the economy are low when these bonds mature, the investor will have to reinvest at a lower rate.
Deal with this risk by laddering your purchases: Buy in a manner that your bonds mature at periodic intervals.
Who should invest in G-Secs directly?
They are for investors who understand how bonds and bond markets function.
“Savvy investors, who understand what causes the volatility in gilts and are prepared to hold them till maturity, should take advantage of the direct route,” says Tarun Birani, founder and chief executive office, TBNG Capital Advisor.
G-Secs allow investors to lock in rates for the long haul.
“If you buy them when rates are attractive, you could lock in rates for up to 40 years,” says M Barve, founder of MB Wealth Financial Solutions.
You will earn the coupon rate on a G-Sec if you hold it till maturity.
With a horizon of more than 15 years, retirees can use them in their retirement portfolios.
What’s the alternative?
You can also invest in G-Secs via gilt MFs.
These funds have high average duration, and hence tend to be volatile.
Investors need to enter them with an investment horizon that at least matches the average duration of these funds.
How are these bonds and funds taxed?
Interest from G-Secs is taxable at the slab rate.
If sold after 12 months, the gains are treated as long-term (short-term if sold earlier).
“Long-term gains are taxed at 10 per cent without indexation. Short-term gains are taxed at the individual’s slab rate,” says Gopal Bohra, partner at NA Shah Associates.
In case of gilt funds, capital gains are treated as long-term if sold after three years.
Long-term capital gains are taxed at 20 per cent with indexation, and short-term gains at the slab rate.
- MONEY TIPS
Feature Presentation: Aslam Hunani/Rediff.com
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