The Hindu Business Line : IDBI Flexibonds 22: Finely priced

AFTER a long lull, bond offers from financial corporations have now hit the market. IDBI, Rural Electrification Corporation and Power Finance Corporation have come out with Tax Saving Bonds coinciding with the peak season for tax saving-led investments.

IDBI also has on offer other bonds. The coupon rate offered by Tax Saving Bonds is much lower than that offered by bonds that do not offer tax savings. This is happening for the first time since the launch of tax saving bonds.

The coupon rate on other bonds offered by IDBI has not factored in the change in interest rate outlook only partially.

The mark-up over the yield to maturity of government securities is less than a percentage point.

Given the available alternative in the form of small-savings schemes, these bonds are not attractive except for high net worth investors.

Tax Saving Bonds: IDBI's three-year bonds offer 5.5 per cent compared to 6 per cent offered by Rural Electrification Corporation (REC) and Power Finance Corporation (PFC). On pricing alone, the bonds offered by REC and PFC appear superior.

In terms of safety, bonds of IDBI, considering the favourable changes impinging its financial health and its diversified lending profile, are superior to the other two.

The status of wholly-owned Government of India undertakings enjoyed by the two firms that lend to the power sector, however, increases the safety factor considerably. As such, investments in REC or PFC can be considered.

For those who have already invested in REC Bonds in earlier years, PFC would be a suitable alternative.

The five-year and seven-year tax saving bonds of IDBI, which are possible alternatives to the three-year bonds, also need not be considered.

The five-year bonds would be a superior alternative to the three-year bonds of IDBI if short-term interest rates stay below 5.25 per cent after three years.

Similarly, the seven-year bonds of IDBI would be a superior alternative if four-year interest rates would be below 6 per cent, after three years.

Given the industrial recovery, the probability of sharp increases in interest rates has now increased substantially. The longer-term options can be avoided. Besides, coupon rates of tax-saving bonds are lower than what is offered by competing investment options.

It would, thus, make sense to go in for a lower term-to-maturity to avail of tax benefits and roll over the proceeds on redemption into another tax saving investment.

This way, a lower proportion of the total portfolio will stay invested in the low-coupon tax saving investments.

Another relevant issue is the attractiveness of deep discount bonds for investors who would be paying tax on interest.

Up to Rs 1 lakh, tax on interest can be offered at the time of redemption. In the case of a five-year bond, the savings work out to be about 0.15 percentage points. This need not be considered significant.

In terms of cash flow re-investment, however, deep discount bond is better, especially if investors are apprehensive about their re-investment skills. Such investors can consider IDBI's deep discount bonds.

Growing Interest Bond: Growing Interest Bond is a five-year bond offering a yield-to-maturity of 6.3 per cent. The bond offers put options at the end of the third and fourth years.

The YTM is slightly higher than what is offered by the term deposits of IDBI or banks. IDBI's Suvidha offers 5.75 per cent on its five-year term deposit with an additional 0.5 percent for senior citizens. SBI offers 6.25 per cent for five-year deposits with senior citizens eligible for an additional 0.25 percentage points. The yield to put at the end of the third and fourth years is also attractive compared to three- and four-year term deposits.

There is also the option of early redemption. The early redemption option, along with a yield that is on a par with that of term deposits, makes this bond an alternative to term deposits. Given the risk of depreciation in value of investments in the case of mutual funds, the Growing Interest Bond can be considered for inclusion in an investor's portfolio.

Retirement Bond: For high net worth investors, the yield offered by the Retirement Bond is attractive at 7.24 per cent for a term-to-maturity of 10 years.

Few investment options offer such a high coupon rate for such a long term now. The bond is, however, still not attractive compared to mutual funds. This is because the latter funds are far more tax-efficient than the former.

In this context, it would be better for high net worth investors to stick to mutual funds or insurance products that offer pension.

In the case of other investors too, the Retirement Bond is not attractive. This is because of the availability of insurance products and small-savings schemes. These offer higher returns and better solutions to their need for cash inflows.

Regular Income Bond: This bond is not suitable for investors who have not exhausted options such as post-office monthly income scheme, senior citizen's savings scheme and RBI Relief Bonds.

These schemes offer better returns and are considered less risky compared to IDBI's bonds.

In this context, they appear suitable for high net worth investors seeking avenues for diversification.

Most investors are now concerned about the risk of depreciation in the value of mutual fund investments due to possible spike in interest rates.

Mutual funds themselves are advising investors to opt for schemes that invest in short-term securities. In this context, IDBI's Regular Income Bonds offer an alternative. The YTM is attractive, considering that it is in excess of 7 per cent.

The IDBI Flexibonds offer closes on February 3.

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