They promise more return, but do your post-tax and allied homework to assess if the risk element is worth it.
Bank fixed deposits, company fixed deposits and now a raft of non-convertible debenture issues — as a retail investor, you are indeed spoilt for choice. And, all of these are offering handsome returns, given the high interest rate regime.
A plain comparison on returns would suggest no scope for debate, as several companies issuing NCDs are promising double-digit rates, much more than bank or company FDs. But wait before taking a decision, as the apparent returns are just one way of looking at things. The risk element also needs to be considered.
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Non-banking finance companies know the average investor's eagerness for lucre. You have Shriram City Union Finance's Rs 750-crore NCD issue which opened for subscription on Thursday. Manappuram Finance's issue to raise a similar amount opens next week and then there is Muthoot Finance.
An NCD is a type of loan issued by a company that cannot be converted into stock and usually carries a higher interest rate than a convertible debenture. Both Shriram City Union and Manappuram Finance are offering over 12 per cent. Shriram City will return 12.1 per cent annually for four years and 11.85 per cent for three years. Mannapuram will give 12 per cent per annum for 400 days and 12.20 per cent for two years.
That's two per cent more than bank FDs. For instance, the country's largest lender, State Bank of India (SBI), is giving 9.25 per cent on deposits maturing anywhere between one and 10 years. ICICI Bank is offering 7.5-8.75 per cent for deposits of one to eight years, with special deposits of 590, 790 and 990 days, paying 9.25 per cent. So, too, with HDFC Bank, where special deposits are paying 9.25 per cent and regular deposits are paying between 7.25 and 8.25 per cent for one to five years.
The other high-yielding instrument is a company FD. These are offering similar rates as bank deposits, between eight and 11 per cent, varying according to the fund requirement of the company. According to BlueChipindia.com, Dewan Housing is offering 10.13 per cent for one to three years, Exim Bank is giving 8.5-8.75 per cent and HDFC is offering between 9.25 and 9.50 per cent for the same period.
Value Research, the mutual fund rating agency, says short-term debt funds are returning 7.23 per cent annually, as on August 10. An even better option, fixed maturity plans (FMPs), are giving 9-9.5 per cent, say experts.
POST-TAX YIELD
Therefore, Radhika Gupta of Forefront Capital says, "Check for the after-tax yield. If it is more than the return from fixed deposits and FMPs, you can invest in the issue."
Say you plan to invest in Shriram City Union's four-year issue, giving 12.1 per cent. If you are in the 30 per cent tax bracket, your returns come to 8.47 per cent. The overall earnings after tax will get reduced. If you invest in SBI's four-year deposit, your real returns would be 6.47 per cent.
With Manappuram's issue earning 12.2 per cent in two years, post-tax returns will be 8.54 per cent. Hence, Gupta is recommending NCDs to clients with higher risk appetite.
Capital gains of debt funds would be taxed at 10 per cent and 20 per cent with and without indexation, respectively. For better returns than bank FDs, financial experts suggest FMPs over company deposits. These are tax-efficient, too.
Typically, one could make investment calls based on the rating assigned to the issue. And, check if the issue is secured or unsecured. The former is safer than the latter; there is an assurance that the company will not default on repayment.
CAUTIONS
Yet, financial experts advise to be cautious with these instruments. Reason: These carry higher risk than bank deposits and may not be meant for all investors. Says certified financial planner Suresh Sadagopan, "Therefore, I am willing to forgo a higher interest for the stability that a bank's FD offers me."
Liquidity is another issue. In a rising interest rate regime, getting out of a bank deposit may be easier than liquidating your NCD investment. Most banks allow investors to shift to deposits offering higher rates without charging any penalty for breaking the deposits midway.
NCDs are listed on stock exchanges and may have to be sold at a discount if there aren't many trades happening on that counter. But, Subhasri Sriram, executive director, Shriram City Union Finance, begs to differ, "Sixty per cent is reserved for retail investors who can invest less than Rs 5 lakh and trade in transaction lots as little as Rs 1,000. Therefore, this is bound to improve the trading interest."
However, if you have a surplus and are willing to take a little more risk for that additional one per cent return, you could invest in tranches. But, hold till maturity. The rest could go in bank FDs or debt mutual funds.