Retail inflation in India touched 6.95% in March 2022. Clearly, this is beyond the Reserve Bank of India's (RBI) mandated inflation band of between two to six percent.
This isn't enough, according to BloomberQuint, Barclays' estimates inflation at 7.1% in April on the back of higher fuel prices.
The 17-month high inflation is pinching pockets of all as food inflation is up 7.68%, cereals is up 4.93% while meat & fish is up 9.63%. Oils & fats and vegetables are seeing double digit inflation, at 18.79% and 11.64%, respectively.
Clearly, inflation is slowly and gradually eating up our daily earnings and savings. Most people plan their investments to reduce the impact of inflation on their earnings and profits. This explains why some people invest in the market to avail the benefits of market-linked returns. However, limited knowledge has resulted in many suffering unwarranted losses, thus, forcing many others to seek refuge in alternative investment options like parking money in sovereign gold bonds (SGBs), mutual funds (MFs) and exchange-traded funds (ETFs).
However, to mitigate the impact of inflation, one can also turn to relatively lesser-known inflation-adjusted bonds. In the US, these are called Treasury-Inflation-Protected Securities (TIPS) which protect investors against inflation. The principal amount in TIPS increases with inflation while the same goes down with deflation. This means that the investors receive the adjusted value of TIPS (adjusted or original value of the principal amount), whichever is more.
The interest rate on TIPs is applied to the adjusted principal, which means that the interest payout is also more to mitigate the effect of inflation. The long-term nature of these bonds that are issued for five, 10 and 30 years implies that investors avail returns that beat the effect of inflation over a period. The inflation rate will be based on the final value of the combined Consumer Price Index (CPI).
Speaking of inflation and CPI, DRE. Reddy, CEO and Managing Partner at CRCL LLP said, “The elevated food and vegetable prices have led to a rise in retail inflation. This is the third consecutive month in a row that has come in above the six percent bound. Food prices that contribute to almost 50% of the inflation basket will continue to face high prices due to the supply chain problems, hike in crude oil and geopolitical tensions. Inflation spikes have been felt by every Indian household who is weak in financial footing.”
The minimum period for which you must hold these bonds is 45 days while they earn fixed interest up to maturity two times a year.
Buying inflation-adjusted bonds in India
In India, inflation-indexed bonds (IIBs) were first issued by the Reserve Bank of India (RBI) in 1997. Many misconstrue these bonds as similar to capital indexed bonds (CIBs) that secure the principal amount alone and do not provide protection against inflation to the principal amount. The inflation component in IIBs is not paid along with the interest amount but adjusted to the principal by multiplying the principal amount with the index ratio (IR). When the bonds are redeemed, the investors receive the adjusted principal or the face, whichever is more. The interest rate is adjusted against inflation as the fixed coupon rate is applied to the adjusted principal amount.
Investors are ensured of capital protection as they are assured of a higher amount between the adjusted principal and face value at the time of redemption. However, if the economy is caught up during deflation and the adjusted principal amount goes below the value of the face value of the principal, then the investors would be repaid the face value when the bonds are redeemed.
How can investors apply for IIBs?
Investors may apply for IIBs through authorized banks and the Stock Holding Corporation of India (SHCIL). All investors must do is fill in the requisite application forms and submit the same along with other documents apart from making the necessary payment to the bank. The bank after receiving the money will register the investors’ details on the RBI’s online platform (e-Kuber) and will release the certificate of holding post validation of your details.
The RBI will act as the central depository as the securities would be issued and held by it in the form of bonds ledger accounts (BLAs). The investors would be issued the certificates of holding. This means that the investors do not need to open a BLA with any bank to invest the money in these certificates.
The banks authorized to issue the certificates of holding include the SBI & Associates, all nationalized banks, HDFC Bank, ICICI Bank and Axis Bank. This means that the investors can approach any of these authorized banks including the SHCIL to invest their money unbiased of whether they hold an account with the banks or not. Like all other investments, investors can avail of added services like change of address, early redemption, nomination, etc. Investors can also opt for joint account holdings in these government bonds.
One can start with a minimum investment of ₹5000 that can go up to ₹10 lakh in a year for individual investors. However, the maximum money invested by institutions including Hindu Undivided Families (HUFs), charitable trusts, education endowments and other non-profit organizations must not exceed ₹25 lakh per annum.
Early redemption is possible with banks allowing investors to apply for the same after three years. However, for senior citizens more than 65 years old, premature redemption is allowed just after a year of the money invested.
Using these bonds to invest
More than the maturity amount that helps to tackle growing inflation, investors can also use these bonds as collateral for loans from banks, financial institutions and non-banking finance companies (NBFCs). This helps as borrowers are often asked to keep something as collateral while seeking secured loans for a prolonged tenure.
Whether the bonds are redeemed before maturity or on the date of maturity, investors will have to pay the tax rates as given in the existing income tax slab. There will be no tax deducted at the source unless notified by the Indian government.