Navigating the Evolving Landscape of Non-Convertible Debentures (NCDs) in India
In today’s dynamic financial markets, investors are increasingly seeking avenues that balance safety with attractive returns. Among these options, non-convertible debentures (NCDs) have emerged as a compelling choice, particularly within India’s burgeoning bond ecosystem. As corporate bonds account for 28% and government securities (g-secs) represent 72% of the total bond market, NCDs play a pivotal role in diversifying investment portfolios while providing a stable income stream.
Understanding NCDs and Their Market Position
NCDs are fixed-income instruments that cannot be converted into equity shares. They are issued by companies to raise capital and typically offer higher interest rates compared to traditional fixed deposits. The daily average trading volume of corporate bonds has seen a significant increase, rising from ₹2,438 crore in 2014 to ₹5,722 crore in 2024. This growth reflects a growing investor appetite for corporate debt instruments, including NCDs.
Regulatory Reforms and Their Impact
To enhance the transparency and efficiency of the bond market, regulators have mandated that all issued NCDs be listed. This reform eliminates the option for companies to issue both listed and unlisted NCDs, fostering a more transparent price discovery process. By ensuring that investors have access to the true value of their holdings, the regulatory framework promotes confidence in the market.
Listed NCDs offer better liquidity, allowing investors to exit their positions more easily compared to unlisted instruments. Additionally, the regulatory oversight surrounding listed NCDs provides a reliable grievance mechanism, thereby reducing counterparty risk. As a result of these reforms, the proportion of unlisted securities has decreased from 31% in 2014 to just 10% in 2024, indicating a growing trust in the listed NCD market.
Challenges and Concerns
Despite the positive changes, some concerns have arisen regarding the mandatory listing of NCDs. Companies may opt to raise funds through private placements via unlisted subsidiaries to sidestep the administrative and compliance burdens associated with listed NCDs. There are fears that issuers might voluntarily delist existing NCDs or turn to alternative funding sources, such as banks and non-banking financial companies (NBFCs), which could hinder efforts to deepen the corporate bond market and reduce liquidity in the NCD segment.
Institutional Interest and Market Growth
To counter these apprehensions, various measures have been implemented to bolster the corporate bond market. Institutional volumes have been on the rise, with NBFCs increasingly turning to listed NCDs as a viable funding source, especially in light of tighter banking regulations and upcoming liquidity coverage ratio (LCR) requirements under Basel III. This shift is expected to stimulate investor interest in NCDs, potentially providing a significant boost to market growth.
Moreover, institutional investors, including pension and provident funds, are mandated to allocate 40-45% of their portfolios to corporate bonds, further enhancing liquidity in this segment. With stable interest rates prevailing in the market, NCDs present an attractive alternative to traditional bank and corporate fixed deposits.
Advantages of Investing in NCDs
Investing in NCDs comes with several advantages:
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Attractive Returns: NCDs typically offer interest rates ranging from 8% to 9.7%, often surpassing the returns from high-yielding fixed deposits.
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Flexible Payment Options: Investors can choose how they receive interest payments—monthly, annually, or cumulatively—allowing for tailored investment strategies.
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Liquidity: As listed securities, NCDs can be traded on exchanges, providing liquidity similar to shares.
- Tax Considerations: Interest income from NCDs is subject to income tax based on the investor’s tax slab, making tax planning an essential aspect of investment decisions.
It is important to note that certain issuances may be exempt from the listing requirement, such as capital gains tax debt securities under Section 54EC of the Income Tax Act, 1961, or NCDs held to maturity by agreement.
Accessing NCDs as a Retail Investor
Retail investors can access NCDs through various channels, including direct purchases, exchange-traded funds (ETFs) like Bharat Bond, or corporate bond mutual funds. Although the retail segment remains relatively small, there are significant growth opportunities. The share of debt ETFs has risen from 2% in 2019 to 14% in 2024, while the percentage of equity ETFs has decreased from 85% to 81%. This trend underscores the increasing popularity of debt products among investors.
Assessing Creditworthiness
As with any investment, assessing the creditworthiness of NCD issuers is crucial. Credit ratings provide insights into the issuer’s ability to meet financial obligations. Higher ratings indicate greater safety, assuring investors of timely interest payments and principal repayment. Debt instruments with strong ratings are particularly attractive to those seeking secure returns.
Conclusion: The Future of NCDs
As the Securities and Exchange Board of India (SEBI) continues to enhance regulations surrounding NCDs, understanding these instruments becomes essential for making informed investment choices. By gaining a comprehensive understanding of NCDs and consulting with registered investment advisers, investors can align their strategies with their financial goals and risk tolerance.
In summary, non-convertible debentures represent a promising investment avenue in India’s evolving financial landscape, offering a blend of safety and attractive returns for discerning investors.