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Invest in NCD for low but sound return

Written By Trading Forex News on Wednesday, November 25, 2009 | 6:23 AM

MUMBAI: With interest rates on bank deposits falling month after month, investors need to look beyond bank deposits for better returns. Over the

past few months, a few companies have sold their debentures to retail investors which have been subsequently listed in stock exchanges. Non-convertible-debentures (NCDs) of Tata Capital, Shriram Transport and L&T Finance are some of them.

Unlike bank fixed deposits, which can be liquidated almost immediately, NCDs don’t have an easy exit. NCDs are listed on exchanges, and hence, theoretically offer daily exit, but the volumes here are limited. On many days, there are none at all.

Risk Vs return
NCDs are primarily meant for conservative investors who don’t wish to take the risk of vagaries of the stock market. But experts say the due diligence that an investor should undertake is similar to that before buying shares. Getting lured by the high interest rate alone is not advisable.

“Investors should do a proper analysis of the strengths and weaknesses of a company before subscribing to its debentures,” says Ritesh Jain, who heads fixed income at Morgan Stanley Investment Management. He feels it may not be smart to blindly follow others, as “credit quality” of the paper is the most important aspect of investment in a company’s debt.

One also needs to find out why the issuing company is raising the funds — whether it is for meeting its working capital requirements, paying off other loans or starting a new venture. If the funds raised are to be used to repay another loan, one needs to take a call.

Paperless Bonds
PV Subramanyam, a chartered accountant and financial trainer, reminds that one needs a demat account to invests in NCDs. “So, a senior citizen, for whom debenture suits the most, may have a limited access to the instrument,” he says. Also, here, one needs to go through a broker, unlike a mutual fund. Unlike shares, constraints also remain on whether you buy the instrument from the stock exchange or during an initial public offering (from the company.) Most of the recent debentures listed on the exchange currently are quoting at a premium.

So, if a Rs 1,000 debenture was available with a 10.5% yield during an IPO, it now quotes around Rs 100 higher. (RBI had been on a rate-cutting spree in the past year.) This brings down the yield, if bought from the exchange. Rates are only expected to rise now, which can bleed NCDs. Thus, active interest rate monitoring is required in NCDs, unlike company and bank deposits.

Taxman Cometh
“Interest from NCDs is taxed as per the slab rate applicable, which means an NCD yielding a 10.5% return could offer a post-tax return of around 6.5-7%,” says financial planner Gaurav Mashruwala. Therefore, those in the highest tax bracket need to take a call on whether they want to stay invested in a (relatively) illiquid debenture or a liquid (mutual) fund.

By indiatimes.com
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