Investors can consider subscribing to Power Finance Corporation's (PFC) cumulative 10 year infrastructure bonds. However, investors can choose to invest only a part of their eligible limit of Rs 20,000 in these bonds, as the infrastructure bonds from other companies (with similar credit profile such as REC, IIFCL and IDFC) may flood the market in the coming months.

We also advise investors to look at five-year bank deposit rates (9 per cent average deposit rates for 80 C deposits) which have Section 80-C eligibility before considering investment in PFC.

Tax-saving deposits not only have better rates currently but also have deposit insurance.

Another reason for part-investment is that the 10-year government bond rates (yields), which are used as the reference rate for determining the infrastructure bonds' coupon rate, have shot up by more than 25 bps over the last couple of months.

This gives upcoming bonds flexibility to price their coupon rates higher than the current ones.

If 10-year yields trade at current levels (given high government borrowing and possible repo rate hike by the RBI) the coupon rate on upcoming infrastructure bond issuances will go up.

Go for the cumulative option

This secured 10-year bond offers 8.5 per cent rate of interest while the 15-year bond offers a coupon rate of 8.75 per cent.

PFC came up with a similar option during the previous fiscal but with 20 basis points (1 percentage point is equal to 100 basis points) lower coupon rate. The 10-year bond has a buy-back offer after 5 years.

If investors participate in this buy-back offer, they will not only get early exit but their effective post-tax yields will also be better.

The post-tax yield on a 5-year buyback option works out to an annual rate of 14.3 per cent for investors in the 30 per cent tax bracket.

For the 20 per cent and 10 per cent investors, the annualised yield works out to 12 per cent and 10.1 per cent respectively. This double digit return would give a positive return even after adjusting for inflation protecting one's savings.

Investors can opt for coupon payout option, but the payout at Rs 850 (pre-tax a year) on a Rs 20,000 investment is not much of a cash-flow for investors.

The 15-year option can be avoided as the buy-back period is after 7 years.

The post-tax yields on these bonds is 12 per cent for a 30 per cent tax bracket assuming exit after 7 years.

About the company

PFC is the largest power finance company in India. It enjoys a sovereign rating, strong capital adequacy ratio of 18.9 per cent and negligible non-performing assets.

The company has loan book of over Rs 1, 04,050 crore with 84 per cent of the loans to generation sector.

PFC's exposure to troubled State electricity boards is 68 per cent of the overall loan book.

Yet the gross non-performing asset to total loan book ratio is at 0.02 per cent.

Even as near-term concerns remain in the power sector, due to execution delays, fuel unavailability, frail health of State electricity board and cost overruns, the long-term prospects continue to be attractive given the huge demand-supply mismatch.

Issue details

The issue is already open and closes on November 4, 2011. The face value of each bond is Rs 5,000 and minimum investment is one bond.

These bonds will be listed in BSE and NSE five years from the date of allotment.

While this exit option is better for high tax bracket investors (capital gains is taxed at lower rate), the liquidity in the bond market is low. This subjects bonds to price risk.

Related Topics
comment COMMENT NOW