@Leisure - Vol-11 | srei

@Leisure - Vol-11

Newsletter
 

NCDs are safer than equity.

Whenever a corporation or a company wishes to borrow to fund its business activities, it issues a debt instrument called debentures. These debentures have a fixed tenure and investors are paid pre-determined interest rates on it. It is a debt to the company with the bond holder being the lender. Debentures are of two types: convertible and non-convertible, the point of difference between the two types being the provision of converting into company stocks or equities. Convertible debentures, as the name suggests, can be converted into equities whereas non-convertible debentures cannot be converted into equities.

While discussing Non-Convertible Debentures (NCDs) a question often asked is - how safe it is in comparison to equities. NCDs are safer than equities. Here's why- NCDs offer fixed returns: The rate of returns on a NCD is pre-determined and fixed unlike in equities where the returns are dependent on the company's performance, the economy and market factors, and hence, can be volatile. For instance, a NCD offering 10% interest will pay you interest at this rate every year till the maturity of the debenture; as against this, there is no guarantee on returns for equities.

NCDs get priority over equities during liquidation: When a company becomes bankrupt, it goes into liquidation. During the process, the assets of the business are sold to pay off the creditors. Since NCDs are debts of a business, NCD holders are given priority over others and hence, their money is much safer.

However, it is important to pick the right company while subscribing to NCDs. Capability to repay and credibility of the company are keys to security of your money. Agencies like CRISIL or CARE rate companies on various parameters which you can use to check for their credibility.

Moral: Avoid investment fads and investment 'opportunities' whose prices rise steeply over a very short period of time.

 
 

NCDs for good times and bad times too

NCDs are known to offer better rates than other fixed income instruments and investing at the present economic juncture ensures that you secure peak or near-peak rates of returns...

The returns that you receive on a number of investment options such as stocks, gold or real estate, are indirectly linked to the performance of the economy. While stocks and real estate tend to see a rise in prices during good times, gold is treated as a safe haven and shines, figuratively speaking, when times get tough. It is only fixed income instruments that offer a steady return during the tenure of investment, irrespective of how the economy performs.

As the name suggests, ‘Non Convertible Debentures’ or NCDs cannot be converted to stocks or equity midway through their term. Being essentially debt instruments, they offer fixed rates of interest from the time of investment until maturity. In effect, these instruments offer a steady stream of income that is determined at the time of investment. The biggest benefit is that it allows you to plan your finances better.

In the current economic scenario, there is another significant benefit of receiving a fixed return over the term of the investment. While all macro-economic indicators appear to be improving, inflation is still high. When inflation is high, interest rates are usually high too. Accordingly, the rates of interest offered by the market at present are close to peak levels. Yet, once inflation is brought under control by policy makers, interest rates will begin to drop. In fact, the RBI Governor has hinted, time and again, that he is very open to reducing interest rates once inflation falls, as lower interest rates tend to boost economic growth.

Against this backdrop, investing your money in fixed income instruments at this point of time, especially for the long run, will ensure that you secure a peak or near-peak rate of return for your money. It is a well-known fact that NCDs offer one of the best rates from amongst all instruments within the fixed income category. Further, choosing to invest in NCDs of a company like Srei Infrastructure Finance Ltd., which has consistently earned high ratings from various prominent agencies and offers good returns too, gives you an added advantage of safety with high returns, for the long term.

 
 

Be Optimistic about Bond Investing

Good news showered for bond and NCD market since the new government decided to maintain the much talked about fiscal deficit at the level the previous government had planned. Consequently, the quantum of borrowing by the new government too remained almost unchanged. This acted positively for the bond markets, including Non-Convertible Debenture (NCD), as any additional borrowing by the new government would have sent bond yields upwards and adversely impacted bond prices.

The other positives for the bond investors

There are more reasons for Bond and NCD investors to be happy about, which could turn out to be huge positives over time. Here’s a look:

  • Bond investing becomes more attractive than bond fund investing: Investors always had the choice of either investing in bonds and NCDs directly or through mutual fund schemes that invest in these bonds. Till now, bond funds offered by mutual funds had a slight tax advantage over the direct route as Long Term Capital Gains (LTCG) from these schemes were taxed at either 10% without indexation or 20% with indexation. But now the 10% option is gone bringing them on par with direct bond investing. Put simply, direct bond and NCD investing now is on par with bond fund investing with regard to tax rates.

    But more importantly, the time period for a capital gain to be reckoned as long term has now been increased to 36 months from 12 months previously for debt funds. That is, only if a bond fund investor holds his investment for more than 36 months would he be able to avail indexation and pay the LTCG tax. For holdings less than 36 months, the gains if any would be considered as Short Term Capital Gains (STCG) and added to the normal taxable income and taxed at the marginal slab rate applicable to the investor. But the situation remains unchanged for direct bond and NCD investors who can continue to claim indexation for holdings above 12 months and pay the concessional LTCG as before. In a nutshell, direct bond investing has become more attractive than bond fund investing from the taxation angle.

      New LTCG eligibility period Old LTCG eligibility period New LTCG rate Old LTCG rate Remark
    Bond funds 36 months 12 months 20% with indexation only 20% with indexation or 10% without indexation Both the period and tax rates have been changed.
    Bonds & NCDs 12 months 12 months 20% with indexation only 20% with indexation only Both remain unchanged.

    NOTE: These announcements are presently only proposals and have yet to be cleared in the parliament in order to be implemented.

  • Thrust on the infrastructure sector: There are many proposals that support and encourage the infrastructure sector. This would mean more projects and possibly more bond and NCD issuances by the companies which could result in more investment options for bond investors.

With the Indian economy expected to turn around in the coming quarters, investors can look forward to exciting opportunities in this space given the improving credit quality.

 
 

Buddy Jokes

1. Sitting alone in the temple, a devotee was having a conversation with God.
Man: “God, I understand that you are eternal and all powerful... but sometimes it becomes difficult to imagine how things appear to you...”
God: “What exactly do you mean, good man?”
Man: “For instance, time and money are so important to us humans but to you they must mean so little...”
God: “That’s true. 10 million years seems like seconds to me and Rs 100 crore is like small change to me...”
Man: “Then could you send some of that small change my way?”God: “In a second!”

2. Two CEOs of different companies were having a chat.
First CEO: Times are tough...we are really finding it difficult to raise money from the markets.
Second CEO: Oh, okay. We don’t have that problem. We are sitting on a lot of long term debt.
First CEO: How did you manage that?
Second CEO: We just defaulted on our short term debt and are promising to pay it back when things improve!

3. What’s the height of ‘inexperienced hiring’ at a bank?
The lady at the counter pushing you over when you ask her to check your balance!