Govt bond market set to get a booster

RBI may issue floating rate & inflation-indexed bonds.

The government bond market could get a booster dose this year with the Reserve Bank of India (RBI) planning to reintroduce floating and inflation-linked bonds.

Inflation-indexed bonds protect the purchasing power of the invested amount by linking interest and principal payments to consumer or wholesale price index.

Similarly, floating rate bonds (FRBs) provide investors the benefit of upside in yields when interest rates generally rise and protect the issuer from higher interest payments in a falling interest rate regime.

The central bank is also considering introducing STRIPS (Separate Trading of Registered Interest and Principal of Securities), which lets investors hold and trade the individual interest and principal components of eligible bonds as separate securities.

The separately held interest payment and principal payment each become zero-coupon bonds and also have separate identity numbers.

STRIPS provide an instrument for banks to tackle asset-liability and interest rate mismatches in their government securities' portfolios. Pension funds would also be keen on investing in STRIPS to match assets with actuarial liabilities.

"Carrying forward the market development process of the previous year, active consolidation, introduction of STRIPS, and reintroduction of floating rate bonds and inflation-indexed bonds are some of the measures that could be pursued during 2007-08", RBI said in its annual report for 2006-07.

The RBI said these products are being considered for improving the efficiency of debt management activity.

The government had earlier issued FRBs as well as inflation indexed bonds (also termed as capital index bonds). FRBs in 2001 (8-year paper for Rs 3,000 crore) and 2003 (11-year bonds for Rs 5,000 crore).

The interest payment for these bonds were linked to the yield on 364-day treasury bills. These instruments were not traded frequently and the lack of liquidity did not make FRBs popular among investors, a treasury official with a public sector bank said.

Inflation- indexed bonds, which help investors to hedge against inflation risks, were first introduced in India in 1997. The government had issued a five-year 6 per cent bond.

There was no response for the instrument since it only offered hedge against inflation for the principal invested and not the coupon part. There were also complexities in pricing the instrument, a debt market analyst said.