Looking beyond credit risk – The Hindu

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Last month, the Reserve Bank of India (RBI) stated that it would allow SEBI-Penked non-bank brokers to reach their bond trading platforms, which is in another initiative to promote retail participation in government bonds. Previously, we discussed whether government bonds were attractive investment. Here, we see this discussion again from a core-satellite framework.

Re -risk

Government bonds are credit-free free. That is, you can be sure that the government will pay interest and return the equal value of bonds on time. But there are other factors to do the country.

When you are investing for the core (target-based) portfolio, you should match the maturity of the bonds with the horizon at the time of your life target. This can be difficult because RBI cannot be a bond auction, when you want to make a target-based investment, at that time match your maturity requirement. This is true, you can buy a bond in the secondary market if RBI’s move allows non-bank brokers to close. But remember, bonds react to anticipated changes in interest rates; An expected decline in the rate will increase bond price and anticipated increase in rate will reduce bond price. Therefore, it can be difficult to buy bonds in the secondary market.

Then, reinforcement is the risk. Suppose, you have to earn 4.5% mixed annual returns to achieve a 10 -year life target. Just investing in a government bond of 10 years will not enough to earn the necessary return. This is because you may have to find ways of investment to re -establish the interest received as the required return is on a mixed annual basis. The risk is that the interest rate can take a dip in any year before the bond is matured, and you will be unable to earn 4.5% on a mixed basis. In addition, bonds pay semi-annual interest. The issue is more frequent interest payments in a year, more and more reconstruction risk.

conclusion

To eliminate credit risk when investing in these bonds, you should assume high level regeneration risk. Banks reduce recurring deposits and cumulative fixation deposits regeneration risk but highlight you for some credit risk. While which investment product is to choose this decision, it is yours, keep in mind that default on bank deposits is unusual.

He said, if you are investing surplus cash (satellite portfolio) and do not take into account the re -risk risk, it may be optimal to buy government bonds through primary auction.

(The author provides training programs to individuals to manage their personal investment)