Corporate bonds/NCDs are a type of debt instrument issued by companies to raise funds for financing their capital requirements. They include fixed coupon payments and a fixed maturity date on which the principal amount is repaid. The issuer can be anyone, such as the government, state governments, trusts, companies, municipalities, etc.
Buying bonds is an investment in securities. To make money, stocks need to provide expected returns, which gives investors an incentive to buy them. Bonds, on the other hand, do not always guarantee higher returns and are often purchased with the expectation of getting the principal amount back at maturity.
As bond prices rise, yields decline. For example, suppose we sell a bond with a 10% coupon that matures in 2 years at par value. The yield is 9.9%. At the end of year 1, if it is sold for ₹101, it provides an 11% return (₹1 price gain + ₹10 coupon). By the end of the next year, the buyer receives ₹100 as principal and ₹10 as coupon payment. However, this does not mean a 10% gain—it is actually around 9%, because the buyer paid ₹101 to acquire the bond. If you buy when yields are low, there is a chance you may not earn higher profits, because rising yields usually mean falling bond prices.
Tax-free bonds and capital gain bonds provide long-term tax-saving benefits along with better liquidity.
These bonds are largely considered an asset class for high-net-worth individuals who want to take advantage of tax exemptions under Section 54EC.
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Is Investing in Bonds Safe?
Bond investments are generally considered safer than equity investments, but there are certain factors that should be checked to understand their safety.
Advantages and Disadvantages of Bonds
Advantages
Bonds are relatively predictable in terms of returns and are considered a safer investment because they offer fixed rates of return. Since bondholders know exactly when they will be repaid, they carry lower risk compared to stocks. Additionally, bonds usually have lower volatility than equities.
Bonds provide investors with stable returns over the long term, making them a safer option compared to equities. Corporate credit ratings are provided by agencies such as Standard & Poor’s, Moody’s Investor Service, and Fitch Ratings. Higher ratings from these agencies indicate safer bonds.
Disadvantages
Bonds are financial instruments used to fund projects such as building roads, bridges, and water reservoirs and even repaying debt. One of the most common drawbacks of bonds is the cost of acquiring them.
Large investment requirement: One credit risk is that if a company goes bankrupt, bondholders may lose a significant part or even all of their investment.
Lower liquidity compared to stocks: While most large companies have strong liquidity, bonds issued by smaller or financially weaker companies may have lower liquidity because fewer investors are willing to buy them.
Suitability: Investing in bonds/NCDs is suitable for investors seeking regular income or those with a conservative investment approach. It can also be suitable depending on the investor’s financial needs from time to time.
Interest income from bonds is added to an individual’s income and taxed accordingly. Capital gains on bonds are taxed at 20% with indexation benefits if held for more than one year and as per the income tax slab if sold within one year.
Frequently Asked Questions (FAQs)
1. Who can invest in bonds?
Any resident of India with the required documents and KYC compliance is eligible to invest.
2. Why is investing in bonds better?
Bonds provide fixed returns on investment and are less volatile and risky compared to stocks. Investors also have an exit option by selling certain bonds on the exchange.
