G-Secs in an investor-friendly avatar

It is fairly obvious that the Covid-19 pandemic has turned many bored men and women into active traders, or investors if we want to be euphemistic. This is borne out by the spike in the number of new trading accounts and increased trading in the cash segment and single stock futures.

This trend is a trifle disconcerting as stocks are currently skating on thin ice. The underlying uncertainty regarding the pandemic and its impact, while being brushed aside as of now, can cause prices to crack any time. And new investors are poorly equipped to deal with such a situation.

The SEBI Chairman, Ajay Tyagi, had a unique proposition to solve this issue. In a speech last week, he suggested that retail investors should be nudged to begin investing in government securities (G-Secs) since these are risk-free instruments. His larger idea was to move the entire trading of government securities to a single platform, preferably to the stock exchanges, thus unifying the trading infrastructure of corporate bonds and government securities.

The idea has its merits and needs more deliberation. But attracting retail investors in to G-Secs may not be an easy task.

Unification of exchanges

That it is unnecessary to have two separate platforms for trading corporate and government bonds, controlled by different regulators with diverse set of rules, has been debated in the past too. While corporate bonds are entirely traded on the stock exchanges, the bulk of the trading of government bonds takes place on the RBI-owned electronic trading system NDS-OM, which also records OTC deals in G-Secs. Trading of G-Secs is permitted on stock exchanges too, but there is no traction in these trades as of now.

Tyagi is right when he says that there are synergies that can be derived by uniting the two trading ecosystems. If both platforms follow similar rules and regulations and the users of these platforms merge, the liquidity can improve in the corporate bond market as well. But if trading Gsecs has to be moved to exchanges, then the settlement mechanism on the exchanges has to be overhauled to give the participants the same degree of comfort, they currently enjoy on the NDS-OM platform.

The idea that interest can be generated in government bonds across the yield curve, if retail investors are encouraged to buy these instruments, is worth a try. Currently, trading in long-duration government bonds is concentrated in the 7-10-year maturity.

This impacts the pricing of corporate bonds that are linked to G-Sec yields. Retail investors have shown interest in long duration bonds, with maturity up to 15 years, on the exchange platforms. If number of retail participants increase, the demand for government bonds in other maturities could improve.

Increasing retail interest

The idea of increasing retail participation in government securities is good, but it may not be easy to implement. These instruments are clearly among the safest since they come with sovereign guarantee. With increasing instances of trouble with banks and NBFCs, government bonds now score over fixed deposits of financial institutions. The yield on a 10-year G-Sec has also been converging towards bank FD rate of late. With the incidence of tax being the same, investors may not lose much by parking some money in government bonds. The duration risk can be addressed if the bonds are held to maturity.

While small investors can gain by buying government bonds, the government can benefit from the funds mobilised from households through the exchanges.

Reliance Industries recently raised ₹85,000 crore from its rights issue. Rossari Biotech’s ₹496-crore IPO received subscription worth ₹39,000 crore. It is, therefore, obvious that there is money waiting on the sidelines, looking for an investment avenue.

Direct issuance to the public

But how can the money with investors be chanelled in to G-Secs? The SEBI Chairman tried to address this issue by suggesting that G-Secs should be issued to the public directly in demat form.

Some progress has already been made towards this end over the last couple of years with the retail investors participating in the auctions for government securities in the non-competitive bidding section through various channels such as NSE’s goBID or through specified brokers or banks.

Tyagi was perhaps hinting that offering G-Secs to the public in the same manner in which other public offers of bonds and shares are made, may elicit more response, since it would be a system that they are more comfortable with.

Simplification of issuances, in a format that retail investors are used to, can definitely go some way in making G-Secs more popular among investors. But there are many other humps that need to be crossed before retail investors take to these instruments.

The primary reason why small investors are averse to G-Secs is because of their complexity. It is harder to evaluate the returns made on bonds due to the inverse relation of the price with yield. The lower returns on these instruments may look insipid to many investors compared to the stellar gains that can be made on equity. Also, while investors who can hold to maturity need not worry about capital loss, it is hard for an investor not to get upset with the mark-to-market losses that are likely on the bond holding. Low liquidity in most bonds can also be a dampener for many.

The effort to wean away investors in bank fixed deposits to G-Secs may not work, because such investors prefer zero risk and volatility.

Having said that, there could be certain class of investors who may be ready to park some of their money in these instruments. To encourage such investors, the liquidity in the secondary market for G-Secs needs to be improved with the help of market makers or liquidity-enhancement schemes. It will also help if the problems concerning interoperability in G-Sec settlement are ironed out. Direct initial offers to the public can also do the needful.

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