Bonds and fixed deposits are fixed-income instruments that bring assured returns through interest & principal repayments. Both the investment instruments have a fixed tenure. Despite their similarities on these lines, these two instruments vary across several other parameters.
Bonds are a way for governments or companies to borrow from investors. These borrowed funds help entities in business operations or expansion. Bonds are sold at face value. The interest or coupon payments are made against the face value at a fixed or adjustable rate. Fixed Deposits (FDs) are long-term deposits with a bank or financial institution. The interest depends on the money deposited and the lock-in period.
Bonds offer fixed returns if not redeemed before maturity. The interest earned will depend on the predetermined coupon rate. However, gains from the trading of bonds will depend on price movements in the market. If the sale price is higher than the buy price, a profit can be earned and vice versa. The interest at which a deposit is fixed remains the same throughout the lock-in period. Hence, gains on fixed deposits are safe from market fluctuations. However, as bonds can be traded in the secondary market, investors can benefit from market movements by selling when prices rise. Fixed Deposits do not have this feature as the interest rate does not change throughout the tenure.
The difference between fixed deposits and bonds is explained concisely in the following table.
| BONDS | FDs |
|
Bond is a safe instrument as the investor has a legal claim over funds invested. However, there is a credit risk. The borrowing entity may default on interest or principal payment. Credit ratings become a valuable guide for investing in bonds |
FDs are considered to be the safest instruments. Under the deposit insurance and credit guarantee scheme, deposits up to Rs 1 lakh are protected by insurance. |
| Bonds can be traded in the secondary market to make capital gains. | FDs have predetermined returns and cannot be traded to make capital gains. Moreover, FDs come with a premature withdrawal penalty. |
| There is less or no flexibility with the frequency of interest pay-outs. | Depositors can choose from monthly, quarterly, half-yearly, or annual pay-out options. |
| At Least one rating agency from CRISIL, CARE, or ICRA should have rated a bond. | NBFCs have a credit rating mandate. There is no such requirement for registered commercial banks. |
| Different types of bonds have different tax rates. There is a tax-free bond option for investment. | Interest income on FDs is tax-deductible as per the depositor’s income slab. |
| Capital gains can be made by trading in the bond market. Moreover, bonds like inflation-indexed bonds can be helpful in hedging against inflation. | FDs have inflation risks, and the possibility of a loss of capital if real interest rates reach negative territories. |
Types of bonds available for investment
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Government bonds
The bonds that the government issues to borrow from investors are called government bonds. They are low-risk instruments since the risk of the government defaulting on its payment obligation is minuscule. Government bonds offer regular interest payments on a semi-annual basis.
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Corporate bonds
The bonds issued by private organizations to borrow funds from investors are called corporate bonds. Investing in these bonds extends an interest plus the principal on maturity. Corporate bonds offer higher interest than government bonds or fixed deposits, but they also have a higher risk attached.
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Zero-coupon bonds
Zero-coupon or discount bonds do not come with a coupon payment. However, they are sold at a deep discount and redeemed at face value on maturity. Hence, an investor profits from the difference between the discounted price and face value.
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Inflation-linked bonds
These types of bonds provide security against inflation. The principal and interest rates are adjusted with the inflation rate in the economy.
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Sovereign gold bonds
Sovereign-gold bonds are denominated in grams of gold and are great substitutes to purchasing physical gold as an investment. There is an interest component to these bonds. The ongoing market prices of gold determine the price of redemption.
Investing in bonds used to be a tedious process involving several intermediaries, a lot of paperwork, and time. Technology has revolutionized the process and made investing in bonds straightforward and efficient.
Bonds can be purchased in primary and secondary markets. For investing in the primary market, investors can purchase bonds from the issuer directly during the public issuance of corporate bonds. An application and payment can be done electronically. On allotment, the bond is deposited in the investor’s Demat account. Primary issuances are done in different lot sizes to be more suitable for retail investors.
How to invest in bonds in India?
Stock exchange
Investors can buy or sell bonds online through stock exchanges. Like other securities, stock exchanges list the different government and corporate bonds available for investment. BSE Direct and NSE goBID are web-based apps by the national stock exchange and Bombay stock exchange for investments in government securities.
Stockbrokers
Investors can invest in bonds through stockbrokers who act as intermediaries between investors and issuing entities. Bonds can be bought/ sold through these stockbrokers via their official websites or smartphone applications. Investors can also use the services of various online stock brokers and trade using their online trading platforms.
Mutual funds
Investors can indirectly invest in corporate and government bonds through debt and hybrid mutual funds. These mutual funds pool the funds of various investors and invest in an extensive portfolio of debt instruments. Since mutual funds have dedicated fund managers, investors can benefit from professional expertise. Unlike a direct investment in bonds, debt mutual funds do not have a lock-in period or interest payments.
Debt exchange-traded-funds
Just like other ETFs, debt ETFs invest in a basket of debt instruments that matches a correlating index in the same proportion. The correlating index can be the bond market index or a benchmark government bond. Like mutual funds, debt ETFs are great alternatives for investing in the fixed-income segment.
Online bond platforms
Online bond platforms offer a one-stop solution for investment in fixed-income securities. Requirements for trading in bonds like the opening of a trading account, seeding of a bank account, etc., can be done online. Moreover, an extensive roster of bonds from corporate to government and sovereign gold bonds are available for investment on these platforms. It’s especially attractive to retail investors who have not been adequately serviced for reasons like inaccessibility and high minimum investment requirements to invest in bonds online. Transactions on these platforms are secure and are either done via the stock exchange or through the services of clearing corporations.
RBI retail direct scheme
This online portal by RBI serves as a one-stop solution for trading in government securities in both the primary and secondary markets.
Benefits of investing in bonds online
- Diversification of portfolio and capital preservation.
- Higher returns and tax savings
- Assured returns and a steady income stream
- Variety of fixed-income papers to meet different investor requirements
- Efficient and ease of trading using online brokers and bond platforms
Conclusion
More investors today are moving out of traditional investment vehicles like FDs to diversify their portfolios. Features of bonds like safety, higher returns, tax savings, and ease of trading, have made them lucrative additions in investment portfolios of active and passive investors alike. Technology has played a major role in revolutionizing the bond market and has made trading in bonds exceedingly convenient and accessible. Investors today have several avenues for investing in bonds online.
RURASH is amongst India’s tech driven investment management companies, providing financial solutions to augment the client’s wealth and facilitate building a legacy.
For any guidance regarding financial instruments, please reach out to us at invest@rurashfin.com or call us at +91 85918 01411.
Also Read: All You Need to Know about T+1 Settlement in the Stock market.