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Inflation-indexed bonds, linked to the Consumer Price Index (CPI), are likely to see more of retail and institutional buying, as compared to those linked to the Wholesale Price Index (WPI), say experts.
The Reserve Bank of India (RBI) has said it would consider whether to launch CPI-linked inflation indexed bonds from October.
Inflation-indexed bonds were designed to guard investor savings against inflation and dissuade them from buying gold. Last month, the government had announced it would issue such bonds worth Rs 12,000-15,000 crore this financial year, with a maturity period of 10 years. While the first series was open for all classes of investors, the second lot was to be reserved for retail investors.
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The first two auctions for 10-year inflation indexed bonds linked to the WPI were oversubscribed. Insurance experts say the CPI-linked ones would see higher demand; retail investors would relate more to the composition of CPI inflation. A recent report from Morgan Stanley Research said tracking of CPI inflation was more important in the present cycle, as the WPI was not adequately capturing the underlying inflation pressure in the economy.
CPI inflation rose an annual 9.31 per cent in May, compared with 9.39 per cent in April. WPI inflation eased to 4.7 per cent in May, compared with 4.89 per cent in April.
"WPI-linked bonds do look attractive, with 200 basis points-plus spreads over inflation. But the CPI-linked bonds will have demand from both retail and institutional investors," said Arun Srinivasan, senior vice-president, investments, at ICICI Prudential Life Insurance.
A 200-plus bps spread over inflation means if the WPI inflation is seven per cent, the net return will be two per cent more. This will be the return for the next 10 years, since it is a 10-year bond.
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Insurance experts said once RBI decided on the auction of CPI-linked bonds, there could even be a range of insurance products planned around it, if the regulator approved. Insurance companies say they’ve already given some thought to the subject. "We have begun exploring the product possibilities of a CPI-linked inflation indexed bond, though we believe it might be difficult to get regulatory approval for it at this point," said a senior product development official with a private life insurer. The Insurance Regulatory and Development Authority (Irda) is in the process of re-approving products under its new guidelines. In the initial draft for traditional products, Irda had talked about index-linked products (Ilips) as a new category. However, this category was excluded in the final traditional product guideline, as companies had issues on the calculation of charges.
Ilips are insurance products whose benefits/returns are linked to benchmark indices such as 10-year government bonds or equity indices like the Sensex or Nifty. While those linked to government bonds are less riskier, those linked to equity-based indices would have fluctuations in returns, based on stock market performance.
Experts noted the initial bond price was Rs 100 and the cut-off price at the next auction was Rs 95.10. This, said the chief investment officer of a private life insurer, would help them get a higher rate of return with a lower price.
Bond dealers said as these were the initial auctions of WPI-linked bonds, wealthy individuals stayed on the sidelines. They would look at the yield trend and then decide on participating in subsequent auctions for such bonds, said dealers.
