Interest rates

How can bond investors profit from rising interest rates?

In the situation of rising interest rates, investors can now earn fixed deposit returns that outpace inflation, which has not been achievable since April 2022, when inflation was 7.79%. Thanks to the rise in the RBI’s repo rate, which has made investors fall in love with fixed-term deposit products again, several banks and NBFCs are now offering returns that not only outpace inflation, but also interest rates. small savings plans. If we use the fixed deposit Shriram Transport Finance, as an illustration, regular investors can receive an interest rate of up to 8.25%, while seniors can receive up to 8.75%, which is undoubtedly higher than the rate of inflation and higher than the majority. well-known small savings schemes such as PPF, SCSS, NSC and others.

If we use bank term deposits as an example, HDFC Bank, IndusInd Bank, Yes Bank and Ujjivan Small Finance Bank have recently increased the interest rate on term deposits. For deposits with a maturity of 3 to 10 years, Yes Bank currently offers the highest interest rate of 6.75% for the general public and 7.50% for seniors. IDFC First Bank grants a maximum interest rate of 6.90% for the general public and 7.40% for senior citizens on term deposits with a maturity of 750 days. IndusInd Bank grants a maximum interest rate of 6.75% for the general public and 7.50% for senior citizens on term deposits with maturities of 1 year 6 months to 61 months. While Ujjivan Small Finance Bank offers a maximum interest rate of 8% for the elderly and 7.50% for the general public. By way of illustration, the aforementioned banks explain to fixed deposit investors how to lock in their fixed deposits to receive returns above inflation in the current environment.

But given rising interest rates, debt or fixed income securities, investors may not know where to invest. Responding to the same Mr. Abhishek Dev, Co-Founder and CEO of Epsilon Money Mart Pvt. Ltd said: “What is common between FDs, Debt MFs, RBI Bonds and other private or public sector bonds is that they all refer to some sort of loan or borrowing structure by the respective issuers. In simple terms, a bond is a listed and negotiable debt security/loan. Bonds/deposits are generally investment vehicles that one would recommend to an investor who likes to take relatively low risk (compared to stocks, for example) and focuses more on capital preservation and income than on investment. capital appreciation. Bonds and fixed income products are also recommended as diversifiers for investors whose portfolios lean heavily towards equities – to give the portfolio a careful balance between equities and fixed income securities.

“Debt funds are essentially a pool of bonds according to their investment objectives which aim to provide the returns of the underlying assets and further reduce risk through careful diversification. Funds with short duration and high credit quality are generally safer than those with longer duration and/or lower credit quality. Debt funds, however, offer funds across the spectrum – short and long term. It is one of the best ways to invest in fixed income as we all know Sahi Hai Mutual Funds!” said Mr. Abhishek Dev.

He further added that “the assessment of the risks associated with investing in these instruments and the returns from them are closely intertwined. The principles of the higher the risks the higher the potential returns apply in the same way as in any investment. What is added here is also the duration of the investments, the longer the maturity period of the investment, for the same issuer, the higher the potential returns.”

Citing some examples of the best debt securities investors can consider investing in, Mr. Abhishek Dev said, “RBI Floating Rate Notes with a maturity of around 7 years are one of the debt securities the safest available since the bonds issued are backed by the RBI and are therefore very unlikely not to provide the yield at the end of the bond’s term. Capital preservation is practically guaranteed in this case. An FD or fixed deposit comes next, starting with an FD issued by a large PSU (i.e. SBI) bank, followed by those issued by private banks and corporate deposits. The logic is simple: the stronger the bank and its parent company, the stronger their balance sheet, the safer your deposits. However, it also means that smaller private or corporate banks tend to pay a higher interest rate on the FD to attract investors.”

Rising bond yields are also good news for investors looking for bond investments such as RBI bonds or small savings schemes. The benchmark 10-year bond rate increased by almost 110 basis points between July 2021 and July 2022, from 6.20% to 7.32%. Even though the value of your current bonds may decline due to rising yields, you can still earn interest payments on your bonds until they mature and continue to receive income.

Using bonds as an example, Mr. Abhishek Dev said: “I take direct investments in bond markets at the end because the investor needs a deep understanding of the credit quality of the issuer, the market, yields, coupons, interest rates, etc. before you can take the plunge. Remember the old adage that a little knowledge is a dangerous thing. However, for investors who are able to invest larger amounts (generally above INR 1 million per bond) and who have the research capacity themselves or who are supported by their trusted financial intermediary who can help them in this research, they can invest a part of their fixed investment.Income portfolio directly into the appropriate bonds.Therefore, if the investor has knowledge of the market and is well aware of the risks involved and the respo adequate sources, he can then invest directly – otherwise the mutual fund route is preferred.”

However, in addition to rising interest rates on term deposits, some debt investors might consider investing in small government-backed savings schemes, as they offer higher interest rates than current rates. term deposits. Some of the best-known schemes include the Senior Citizen Savings Scheme (SCSS), which offers an interest rate of 7.4%, the 15-year Public Provident Account (PPF), which offers an interest rate of 7.1%, and Sukanya Samriddhi Accounts, which offers an interest rate of 7.6%, which is well above SBI’s fixed deposit rates, even after the bank’s recent hike.

The most important information to take away from this is that although small savings plans offer assured returns, the interest rates are not fixed as they are determined by the government on a quarterly basis. If we use the PPF as an example, the interest rate is currently 7.1%, compared to 12% during the period 1999-2000. Bond investors who compare term deposits and PEAs before making their investment choice may be perplexed by rising interest rates.

To alleviate the same concern, Abhishek Dev, said, “Among fixed income investment options, fixed bank deposits remain the dominant option if you follow the savings model. Rising market interest rates were well transmitted to loans and market-linked fixed income investment options (i.e. floating rate bonds and deposits), although The same is true for most bank deposits and small savings. Small savings are reasonably good investment options for retail investors for their conservative portion of investments that can be locked in for the longer term – these are a collection of government-run savings instruments in the aim of encouraging citizens to save regularly. However, most small savings investment options come with investment limits and lock-in periods.”

He added saying that “Fixed deposits, although they come with a maturity period, are easily liquidated in the event of a liquidity emergency – please note that premature withdrawal penalties apply. There is no limit to the amount you can invest in FDs.You also need to be careful about the fixed deposit of the bank you are buying from, generally the stronger the bank and its parent company, the stronger their balance sheet, the more your deposits are safe FDs and Small Savings are different in terms of return potential, tax benefits, investment cap etc. in a scenario of rising interest rates, it is better to invest in a Small Savings Scheme since the interest rate is reset quarterly – unlike a FD where the interest rate is fixed.”

“However, both have their pros and cons, and one should invest in instruments that match your return expectations and risk appetite. That said, before investing in any of these options, n “Remember to review and compare with various bonds (including government bonds) and mutual funds that might be comparable and attractive. Some food for thought!” Abhishek Dev said.

Disclaimer: The opinions and recommendations made above are those of individual analysts or brokerage firms, and not of Mint.

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