More often than not, investors aim for maximising their earnings while minimising the risk. But it goes against the key rules of investing i.e., Higher the return, higher is the risk. But much against the conventional wisdom, some online platforms have lately sprung up promising to offer 9-11 percent return on bond investments.
They use words such as ‘guaranteed’, ‘highest’ and compare the returns against those of fixed deposits (FDs) to drive home a point that instead of FD, one must choose these ‘fixed income’ investments.
“If you look at the money people have parked in bank FDs and compare the same to the entire AUM of debt mutual funds in India, it becomes clear that for fixed-income investments, FDs rule. Online debt platforms are trying to change that and have sprung up over the last few years. These platforms showcase high-yield debt to investors which give double the return than FDs,” said Ravi Saraogi, Co-founder, Samasthiti Advisors.
High returns imply higher risk
Almost any financial literature would vouch for the age-old maxim that high returns lead to a higher risk and a very high return can lead to the risk of capital.
Preeti Zende, founder of Apna Dhan Financial Services says investors should not nurture high expectations from fixed income instruments because it can put their entire capital at risk.
“Investors expect unreasonable returns and invest their hard-earned money in bonds that offer 9-10 percent return. Such platforms’ main business is P2P lending which is very risky in nature. Its functioning depends on high lending rates and most of the time it is offered to those whose creditworthiness is questionable. That's why not only interest payment but your capital is also at risk. These platforms are not regularised yet and investors have to carry all the risk,” she said.
“Investors need to be careful of the risk involved. Even professional investors have burnt their hands investing in bonds with credit risk - for instance the fiasco at Franklin Templeton which had to shut down its entire debt MF business due to exposure to low rates bonds,” said Saraogi.
It is vital to mention here that Franklin Templeton Mutual Fund had closed its six debt schemes in April 2020. These schemes were Franklin India Low Duration, Franklin India Dynamic Accrual, Franklin India Credit Risk, Franklin India Short Term Income Plan, Franklin India Ultra Short Bond Fund and Franklin India Income Opportunities Fund.
"An ideal platform is invariably quite transparent with its customers thereby providing key information of the product including risk and return so that their clients can take an informed decision," said Nitin Rao, Head, Products & Proposition, Epsilon Money Mart.
Regulator to crack a whip?
As capital markets regulator SEBI recently released a consultation paper in an apparent move to tighten the noose around these unregistered platforms. The regulator has sought comments from the public on the proposal till August 12.
“There is an imperative need to govern the operations of these online bond platforms, keeping in mind the core objective of facilitation of efficient trading and robust investor protection norms for investors, particularly non-institutional investors," Sebi said.
As one would expect, wealth advisors welcome this move.
“The markets regulator is proposing a regulatory framework for unregistered online platforms selling listed debt securities now. Once it is done then surely such platforms would not be able to lure investors by lucrative offers. So, investors should always think that when government or banks offer bonds or FDs at 5-6 percent return then how can these platforms offer similar bonds at 9-10 percent,” Zende said.
Mr Saraogi from Samasthiti Advisors also says that there is tax disadvantage of investing directly in bonds. Because of the lower post-tax returns, the attractiveness of high-yield bonds falls significantly.
He elucidates: “Interest income from such bonds is fully taxable at slab rates. So, if a high yield bond is giving 9% return, and if you are in 33 percent tax bracket, you get 5.7 percent post-tax return. Whereas if you invest in growth schemes of debt MFs, the gain is taxed as capital gains, that too with indexation benefit. So, a debt MF giving 6 percent return, will face effective tax of around 15 percent, giving post-tax return of about 5 percent.”