Government Bonds

5 Things to Know Before Investing in Government Bonds

A healthy portfolio is a diversified portfolio. Overexposure to one investment scheme can prove costly, and that is why investors are advised to park their money in different instruments. There are many investment vehicles out there and today we’ll be taking a look at one such scheme called government bonds.

What are Government Bonds?

You can imagine government bonds as contracts issued by the government to investors. The contract details that the government has borrowed funds from the investor to fund some infrastructure projects for the welfare of the people. In exchange for the money, the government pays the investor interest on an annual basis.

The bonds are only sold to investors when the government feels that it needs money. The Reserve Bank of India (RBI) issues these bonds on behalf of the government, and also sells or buys it back when it deems it appropriate.

Who Can Buy Government Bonds?

Government bonds can be bought by anyone, including retail investors. Commercial banks, regional rural banks, co-operative banks, primary dealers, institutional investors, foreign portfolio investors (FPIs), mutual funds, and pension and provident funds are all allowed to invest in government bonds. Corporates are also eligible to buy and sell government bonds.

What are its type?

There are many different types of government bonds. Here’s a brief look at them.

  • Fixed-rate bonds: the interest rate is fixed in this type of government bond.
  • Floating rate bonds: the coupon rate, which basically means the interest the bond pays annually, fluctuates here.
  • Special securities: these are issued by the government to certain types of companies. It features tradable securities, which the companies can sell after a certain period.
  • Bonds with call/put option: this type of government bond comes with a buy or sell call, which can be exercised by either party after a certain time period.
  • STRIPS: Separate Trading of Registered Interest and Principal of Securities (STRIPS) is a type of government bond that includes multiple securities linked to a single bond.
  • Sovereign gold bonds: the price of sovereign gold bonds depends on the price of gold.
  • State development loans: state governments issue these to fund various projects.

What are the returns of Government Bonds?

Being government-backed security, government bonds cannot provide the same returns as mutual funds, cryptocurrencies, or equities. Currently, the 10-year government bond yields 6.126%. The Government of India (Taxable) Savings Bonds, meanwhile, fetches 7.15%. Bonds with a longer maturity period earn nearly the same returns, which shows that returns on government bonds aren’t that great. However, that’s not the point of buying them.

What are itsBenefits?

Let’s now look at some benefits of investing in government bonds.

  • Less Risk

Since government bonds are backed by the government, they don’t come with any risks. You WILL get your money back.

  • Tax Benefits

Certain types of government bonds also come with tax benefits. So by investing in them, you can reduce your tax liability, which is music to every taxpayer’s ears.

  • Decent Returns

Although there are more profitable investment schemes in the market today, government bonds provide decent returns without too much risk.

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