Treading in financial markets is usually associated with risks. Though there are a plethora of investment options, only a handful of them are known to be nearly risk-free. These are called fixed-income investments. A government bond is such an instrument of investment. Let us know a bit more about them in detail.
What Are Government Bonds?
A bond is a type of debt instrument wherein investors lend their money to entities at fixed interest rates for specific durations. Banks, corporates, and governments usually issue bonds. The bonds issued by governments are known as government bonds. In India, both State Governments and the Central Government can issue bonds.
Types of Government Bonds in India
7.75% GOI Savings Bond
Introduced in 2018, the GOI Savings Bond is a great way to start investing. Offering an interest rate of 7.75%, the bond can be held by individuals, minors with legal guardians, and Hindu Undivided Families. The minimum investment amount is ₹1000, and the interest earned is taxable under the Income Tax Act 1961, according to the investor's income tax slab.
Bonds With Call or Put Options
These bonds come in both call options and put options. The call option implies that the investor can buy back the bond, and in diametric opposition to that, the put option allows the investors to sell the bonds back to the issuer. However, the important thing to note is that the investor can only exercise these options five years after the bond issue date.
Capital Indexed Bonds
The Government released these bonds in the market on the 29th of December, 1997. These bonds offer a hedging opportunity for investors against inflation, as the interest rate is fixed over the wholesale price index.
Cash Management Bills
Cash management bills are highly flexible short-term securities issued to meet the government's financial requirements. Akin to treasury bills, they are usually less than 91 days.
Fixed-Rate Bonds
The stand-out feature of these bonds is that the interest rate associated with them remains the same regardless of market fluctuations.
Floating-Rate Bonds
In sync with its name, the interest rate associated with these bonds would keep fluctuating periodically. The intervals when the government bond interest rates would fluctuate would be declared upfront.
Treasury Inflation-Protected Securities
Treasury Inflation-Protected Securities (TIPS) are available in five, 10, and 30-year terms, and they provide investors with interest payments every six months. Unlike conventional treasury bonds, TIPS are adjusted to keep up with the inflation rate, meaning their par value will increase when the Consumer Price Index rises. It means that TIPS maintain their value throughout their lifespan rather than becoming worthless after their maturity date.
Special Securities
The Government of India offers special securities as a form of compensation to entities like oil marketing companies, fertilizer companies, and the Food Corporation of India instead of cash subsidies. The government issues these securities from time to time.
Sovereign Gold Bonds
The Central Government offers Sovereign Gold Bonds (SGBs) as a way to invest in gold without the hassle of purchasing physical gold. Prices of the bonds are linked to gold prices, and their nominal value is determined using the closing prices of 99.99% purity gold from the three days preceding the bond's issuance. SGBs are denominated in terms of one gram of gold.
Regulation from the Reserve Bank of India sets an individual limit for SGB possession for different entities. For individuals and Hindu Undivided Families, the limit is four kg per financial year, and for trusts and other relevant entities, it is 20 kg per financial year.
The government bond interest rate of 2.50% is paid periodically on SGBs over a fixed maturity period of 8 years, with no taxes levied on the interest earned. Investors cannot redeem their bonds until the first five years have passed, and redemption is only possible on the date of the subsequent interest disbursal.
State Development Loans
State Development Loans are government bonds that State Governments issue to finance their budget requirements. These securities are available on the Negotiated Dealing System, with auctions occurring every two weeks.
STRIPS
STRIPS stands for Separate Trading of Registered Interest and Principal of Securities. This process involves breaking down the cash flows of a fixed-rate bond into individual securities, which can then be traded in the secondary market. They are similar to zero coupon bonds, though they are created out of existing securities.
Treasury Bills
Treasury bills are also known as T-bills. These are short-term government bonds. The maturity period of these bonds is less than a year. These bonds are issued in three categories with respect to their maturity period of 91 days, 182 days, and 364 days. People purchase these bonds to claim capital protection and interest gains. The projected interest gain is offered as a discount during the government bond purchase that investors can redeem on maturity.
Zero-Coupon Bonds
Zero-coupon bonds were issued on the 19th of January, 1994. They do not bear any interest rates. They are offered at a discounted price and can be redeemed at face value on maturity.
FAQs
Are government bonds in India a good investment?
Government bonds in India are good options for safe and long-term investments.
How do you buy government bonds in India?
A demat account and trading account with a brokerage house are necessary to invest in government bonds in India. Only after opening these accounts one would be able to purchase and sell bonds.
Can you lose money on government bonds in India?
Government bonds in India may not pose any risks to the principal, but they carry interest rate risks. Hence, it would be wise to hold on to the bonds until maturity; selling them in a rising interest rate environment can cause losses.
Are government bonds tax-free?
Yes, government bonds are tax-free. Hence, they are an attractive investment option for those who seek low-risk investment instruments. These bonds offer a fixed rate of interest for investors. They are similar to a fixed deposit. Investors can put a lump sum of money into bonds and receive a fixed interest rate in exchange.