What are Government Bonds and How to Trade them?
The bond market in India has been flourishing rapidly over the years. There are a variety of government bonds that are currently prevalent in the market but what exactly are Government Bonds and how to trade them?
A Government Bond is a Debt Instrument that the Federal and State Governments of a nation issue to fund its requirements and to control the money supply. Issuance of such bonds occurs when the issuing body (Central or State governments) faces a liquidity crisis and requires funds for the purpose of infrastructure development. The government will pay back the principal and interest as per the clauses mentioned in the bond at the specified maturity date.
In this blog, we will discuss the various types of Government Bonds, their types and how to trade them.
Government Bonds & their Types
Government Bond in India is essentially a contract between the issuer and the investor. Here, the issuer guarantees interest earnings on the face value of bonds held by investors along with repayment of the principal value on a stipulated date.
The majority of G-Secs were initially issued with significant investors in mind, including businesses and commercial banks. But gradually, the GOI opened up the market for government assets to smaller investors like cooperative banks and individual investors.
There are multiple types of Government Bonds in the Indian market. Some of them include:
- Fixed-Rate Bonds
The fixed-rate Government Bonds come with a fixed rate of interest and remain constant throughout the tenure. The rates remain constant, irrespective of market fluctuations.
- Floating Rate Bonds
A floating rate bond is a type of debt security without a set coupon rate; instead, its interest rate changes depending on the benchmark from which it is taken. Benchmarks are market tools that have an impact on the entire economy. Examples of benchmarks for a floating rate bonds include the repo rate and the reverse repo rate.
- Inflation-Indexed Bonds
It is a special financial product in which both the principal and interest earned on the bond are adjusted for inflation. These IIBs guarantee continuous returns on these assets, enabling investors to protect their portfolios against inflation rates.
- GOI Savings Bond
In 2018, G-Sec was introduced to replace the 8% Savings Bond. The interest rate on these bonds is 7.75%.
- Treasury Bill
T-bills, sometimes referred to as Treasury Bills, are short-term government bonds. They are issued with a one-year maturity period. These bonds are offered by the government in three different timeframes: 91 days, 182 days and 364 days.
Coupon payments are not given to investors. T-bills are issued at a discount to their true (PAR) value and upon expiry, it’s redeemed at its true value. The profit for the investors, however, is the difference between the face value and the discounted value.
- Dated Government Securities
Dated Government Securities are a special kind of security since they carry a fixed or floating interest rate, commonly known as the coupon rate.
At the moment of issuance, they are issued at face value, which remains constant until redemption. Government securities are regarded as long-term market instruments, in contrast to Treasury and Cash Management Bills, because they offer a broad range of tenure ranging from 5 years to 40 years.
How to Trade Bonds?
Government bonds are one of the safest investment options in India because of the sovereign guarantee. Investors that seek extreme security over the uncertainty caused by market-linked instruments and are risk-averse may consider investing in these assets.
It is also a good long-term investment choice for organizations without previous stock market trading experience.
One method of profiting from changes in the value of corporate or government bonds is bond trading. Along with equities and cash, many see it as a crucial component of a diversified trading strategy.
It is important to remember that leveraged financial instruments are intricate and involve risk. Leverage allows you to increase your return while using less capital, but it also increases your risk of loss if the market goes against you. In contrast to holding bonds outright, your loss is therefore not constrained to the bond’s intrinsic value.
How to purchase Government bonds?
There are two ways retail investors can purchase Government Bonds:
GILT Mutual Funds
The most common way to acquire securities is through Government Securities Mutual Funds, also referred to as GILT. When investing in mutual funds, you must pay an expense ratio, which somewhat reduces the return. The Mutual Funds invest in GOI Bonds.
Direct Investment
You need a Trading and Demat Account if you wish to buy bonds directly rather than through mutual funds. For the bids, you can register with the stock exchange. You can place an order on the exchange to purchase Bonds and then hold those Bonds in your Demat Account.
As an alternative, you might take the help of a stockbroker to purchase government bonds. You must participate in non-competitive bidding for this. However, in this instance, the market yield is used to determine the yield, which is then used to determine the bond allocation.
To Conclude
Government bonds are an option for investors who want to diversify their portfolios (fixed-income instruments). Additionally, entrepreneurs intending to launch their firm might invest any spare funds in government bonds.
But before buying bonds, experts urge one to thoroughly read the paperwork pertaining to the rules of investment. Additionally, you must weigh the benefits and drawbacks of purchasing government bonds before making an investment decision based on your needs and objectives.
Connect with mastertrust if you wish to benefit from Investing in Government Bonds.
