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Bonds/Non-Convertible debentures (NCDs)

Bonds

A bond is a fixed-income instrument that represents a loan made by an investor to a borrower (typically corporate or governmental). A bond could be thought of as an I.O.U.(I Owe YOU) between the lender and borrower that includes the details of the loan and its payments. Bonds are used by companies, municipalities, states, and sovereign governments to finance projects and operations. Owners of bonds are debtholders, or creditors, of the issuer.

Types of Bonds.

  • Corporate Bonds

  • Treasury Bonds

  • International Government Bonds

  • Municipal Bonds

  • Bond ETFs

Advantages of Bonds

Investment in bonds is advantageous to customers in extensive ways. Due to the dependability of interest and principal returns, bonds have proved to be a stable investment option for customers averse to excessive risk in the market.

The advantages thus include-

  • Stability: Bonds are long-term investment tools that accrue assured returns in comparison to other investment options. They provide a low-risk avenue to investors apprehensive of the volatility of returns from equity. Even though dividend incomes from equities are traditionally higher than coupon returns, bonds are comparatively inelastic as compared to cyclical market fluctuations.
  • Indentures: Bonds grant a legal guarantee that binds borrowers to return the principal amount to the creditors in due time. They serve as financial contracts which contain details such as the par value, coupon rates, tenure, and credit ratings.
  • Portfolio Diversification: Investors massively rely on investment in fixed-income debt instruments such as bonds to diversify their investment portfolio as they offer superior risk-adjusted returns on investment. Consequently, portfolio diversification reduces the possibility of short-term losses due to increased allocation of investment funds to fixed-income resources instead of solely depending on equities.

Limitations of Bonds

Even though bonds are a low-risk investment option, they come with specific limitations that investors should be acquainted with. 


The disadvantages include -

  • Inflation's Influence: Bonds are susceptible to inflation risks when the prevailing rate of inflation exceeds the coupon rate offered by issuers. Debt instruments which accrue fixed interests face risks of devaluation too due to the impact of inflation on the principal value invested.
  • Limited liquidity: Bonds, although tradable, are mostly long-term investments with withdrawal restrictions on the investment amount. Shares precede bonds in terms of liquidity, as bonds are liable to several fees and penalties if creditors decide to withdraw their debt amount.
  • Lower Returns: Issuers offer coupon rates on bonds which are usually lower than returns on stocks. Investors receive a consistent amount as interest over the tenure in a low-risk investment environment. However, returns are much lower than on other debt instruments

Non-convertible debentures (NCDs)

Non-Convertible Debentures (NCDs) are debt instruments issued by corporates through a public issue with the aim of raising capital for the long term. It has a fixed term for maturity and people buying NCDs get predefined interest declared at the time of issue.

Some debentures feature the option for conversion into shares after a certain point in time. It is done at the solo discretion of the NCD owner. But in the case of NCDs, it cannot be covered and so it is called non-convertible.

Types of NCDs.

  • Secured

  • Unsecured

Secured

It is considered safer in comparison to unsecured NCDs because secured NCDs are backed by assets of the company issuing the Non-Convertible Debentures. Investors in the condition of the company failing to pay on time can recover their due payment by liquidating the assets of the company. The rate of interest offered on NCDs are generally low.

Unsecured

Unsecured NCDs as the name suggests are riskier as they do not come to you with company-backed assets. In the case of unsecured NCDs, if the company fails to make payment, unsecured NCD holders have no choice then to wait until they receive their due payments. The interest on unsecured NCDs is higher in comparison to secured NCDs.

Features of Non-convertible Debentures(NCDs)

Interest  - Non-Convertible Debentures (NCDs) come with different maturities. You can earn a high interest rate ranging from 7% to 10% if the NCDs are held until maturity. It provides you the option to earn interest income at different interval. You can get the interest pay-out monthly, quarterly, half-yearly or annually depending on your need. You do have the option to receive cumulative interest payment. If you can take risk, unsecured NCDs can offer you higher rate of interest.

Taxation - NCDs do carry tax implications. It will be applicable to you depending on the tax bracket you fall into. NCDs if sold within a year STCG (short-term capital gains) as per the income tax slab rate will be applicable. LTCG (Long-term capital gains) at 20% with indexation will be applicable if NCDs are sold after a year or before the maturity date.

Credit rating – NCDs come with different credit ratings. The higher the rating the lower is the risk. You can choose to buy NCDs considering credit rating provided by the credit rating companies in India like CRISIL, CARE, etc. Credit rating feature help you take better investment decisions.