How can you invest in government bonds? Advantages and disadvantages

Pranati Deva
Updated: 15 Dec 2021, 04:57 PM IST
TL;DR.

If you are looking for a safe investment option, government bonds are the way to go. Let’s look at how you can buy these bonds and their advantages and disadvantages.

If you are looking for a safe investment option, government bonds are the way to go.

If you are looking for a safe investment option, government bonds are the way to go.

When one thinks about investment, generally equities, mutual funds, gold, real estate, etc come to mind. However, there is one more option that is safe as well as a great diversification tool for your portfolio. These are Government bonds.

When the expenditure of the government exceeds its revenue, the government issues these bonds, usually known as G-Sec to raise funds. These are basically debt instruments issued by the state or central government to meet their capital expenditure.

So you loan money to the government as a creditor when you buy the bonds and they return the money at a predetermined rate of interest at regular intervals. The money is generally used for infrastructure projects, roads, highways, schools, etc.

The Reserve Bank of India manages the issuance of these bonds. Till 2017, these bonds were auctioned in large tranches and only bought by banks, mutual funds, insurance firms, and other financial institutions since the initial investment in the bonds was pretty high. However post 2017, retail investors have now been allowed to buy the bonds after the RBI announced a non-competitive bidding process. With a minimum investment of 10,000, any small investor can now buy government bonds.

Types of Government bonds

There are majorly 2 types of government bonds - short term and long term The short term bonds are called treasury bills or T-bills and have a maturity of less than 1 year. They are available in 3 different maturity periods - 91 days, 182 days, and 365 days.

Meanwhile, the long-term bonds or G-sec are available for a maturity period of over 1 year. It could range from anywhere between 5-40 years. Among long-term bonds also, there are a number of options available like sovereign gold bonds, fixed-rate bonds, floating-rate bonds, etc.

Who should invest

Investors who do not have a high-risk appetite and will not need the money immediately should opt for investing in government bonds. Also, people who need regular income can also prefer these bonds. Some government bonds also provide tax benefits which can also be useful for some investors. Usually, people who are nearing retirement or have retired and are looking to invest in something safe and secure choose government bonds. In the case of a young investor, bonds can be used as a diversification tool. Suppose you are in your 30s, you can invest 30 percent of your portfolio in bonds and the remaining in stocks as your risk appetite is higher. The older you get, bonds should take more weightage in your portfolio since they are less risky.

Advantages of investing in government bonds

1. Sovereign guarantee: Government bonds enjoy a sovereign guarantee, which is a guarantee from the government to give you the pre-decided rate of interest irrespective of any weak trends like the declining economy, market volatility, etc. The rate does not depend on or is affected by any external factors. Bonds are a declaration of the government's debt obligation and will be repaid under the pre-existing terms.

2. Regular income: Government bonds provide an opportunity to earn regular income. The interest accrued by the government bonds has to be distributed among investors every 6 months as per RBI regulations. So, there is a little extra income every 6 months for the investors.

3. Tax benefits: Some bonds provide tax benefits for investors. For instance, the tax-free bonds of the National Highway Authority of India (NHAI) and Rural Electrification Corporation Limited (RECL) are exempt from wealth tax as well as TDS. Another example can be sovereign gold bonds which are exempt from any capital gains tax.

4) Collateral for loans: Another important benefit of investing in government bonds is that you can use them as collateral to take short-term loans in the repo market. You can exchange them for cash with an agreement to repurchase these bonds at a specified date in the future.

Disadvantages

1) Liquidity: Unlike stocks, government bonds are not very liquid. It may not be possible for retail investors to immediately find a buyer for his/her government bonds in a short period. Since these bonds are generally bought by financial institutions, there is not a very big secondary market for them to sell in case of an emergency. It is always advisable to hold these bonds till maturity to get the full benefits of the bonds.

2) Low-interest rate: While the interest rate is fixed and you have the guarantee to get that irrespective of any adverse events, the interest rate is generally low in these bonds. Unlike stocks, even in a growing economy, you will not get a higher rate of interest.

3) Tenure: Usually these bonds have a long tenure, so you can only invest the money you will not need back immediately or at least for 5 years.

How can you invest

You can buy these bonds online through RBI's e-Kuber platform. The exchanges open a non-competitive bidding window every week for G-Secs. You can log in through your account, fill the form and place your bid.

You can also invest through the mutual fund route by buying gilt mutual funds, these are the funds that have invested in government bonds. You can also choose balanced hybrid funds which are invested in both stocks as well as bonds.

You can also place your bids for the auction through exchanges websites - NSE goBID and BSE Direct buy units of bonds through bond ETFs with an initial investment as low as 1,000.

Now that we know about government bonds and their advantages and disadvantages, you can decide whether or not it fits your portfolio.

First Published: 15 Dec 2021, 04:57 PM IST
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