What Is a Bond?
A bond is a fixed-income instrument and investment product where individuals lend money to a government or company at a certain interest rate for an amount of time. The entity repays individuals with interest in addition to the original face value of the bond.
Bonds are used by companies, municipalities, states, and sovereign governments to finance projects and operations. Owners of bonds are debtholders, or creditors, of the issuer. Bond details include the end date when the principal of the loan is due to be paid to the bond owner and usually include the terms for variable or fixed interest payments made by the borrower.
Key Takeaways:
- A bond is referred to as a fixed-income instrument since bonds traditionally pay a fixed interest rate or coupon to debtholders.
- Bond prices are inversely correlated with interest rates: when rates go up, bond prices fall, and vice-versa.
- Bonds have maturity dates at which point the principal amount must be paid back in full or risk default.
Characteristics of Bonds:
1.Face Value, 2. Interest (Coupon Rate), 3. Tenure of Bonds (Maturity), 4. Credit Quality (Rating), 5. Tradable Bonds (Price) & 6. Yield
Advantages of Bonds:
Stability, Indenture & Portfolio Diversification.
What is Call Risk in bond?
Investors should also measure the possibility of companies retracting their bonds before the maturity period due to increasing market prices and faltering interest rates. They should thus examine annual reports and market trends to predict call risks by enterprises. Individuals can invest in bonds for financial security and corpus growth in the long-term. As issuers return the principal amount invested in their bonds after a specific tenure, investors have the option to earn periodic interests on the nominal value of bonds, making them viable investment options in corporate and government debt instruments.
What is Government bonds Bond?
Government bonds are issued by the Central government. They are commonly known as treasuries, because they are issued by the RBI Treasury Department. Money raised from the sale of treasuries funds every aspect of government activity.
What is a Corporate Bond?
Corporate bonds are issued by public and private companies to fund day-to-day operations, expand production, fund research or to finance acquisitions.
Bond vs Fixed Deposit:
The following are the differences between Bond and Fixed Deposit:
| Parameters | Bond | Fixed Deposit (FD) |
| Meaning | A bond is a debt instrument that represents a loan to the borrower by the investor. The investors get regular interest income in return, and the principal amount is payable on maturity. | A fixed deposit is a financial instrument where the investor deposits money for a specific period with a predetermined interest rate. The principal and interest are payable on maturity. |
| Issued By | Government, municipalities, states or private companies. | Banks, post offices or NBFCs |
| Safety | Bonds are considered safe instruments as physical assets back them. Also, it is essential to check the credit rating of the issuer. | FDs are also safe instruments, but physical assets do not back them. It is important to select a safe institution where to open an FD. |
| Liquidity | Bonds are traded on a stock exchange, and hence they are a more liquid asset. However, interest rate movements can impact bond prices. Therefore, liquidity comes with the cost of market volatility. | Investors can prematurely withdraw from their fixed deposits. However, premature withdrawal is subject to penalty charges or reduced interest rates. |
| Payout Frequency | Investors cannot select the payout frequency. They vary and are usually half-yearly, yearly or cumulative at the time of maturity. | Investors have an option to select the payout frequency |
| Returns | Bonds can offer higher returns than FD, especially post-tax. Corporate bonds are known to offer approx. return ranging from 7 to 13% if the bond is held until maturity. | FD guarantees a fixed return to its investors. The interest on bank FDs typically ranges between 3.26 % and 5.30% subject to tenure and the bank. |
| Capital Protection | G-Secs are known to provide complete capital protection with Zero Risk as they are issued by Government of India and managed by RBI. | FDs provide capital protection but up to 5 lakhs only through Insurance by RBI. |
| Credit Rating | It is mandatory for the bond issuers to get their instrument rated by a credit rating agency such as CARE, ICRA or CRISIL. | FDs issued by NBFCs must mandatorily be rated, but banks/ post offices are not required to provide credit ratings. |
| Accessibility | Bonds are not easily accessible. Investors can buy bonds over the counter, thus making it often difficult for retail investors to invest. | Investors can easily and instantly open a fixed deposit account with any bank, post office or NBFC. |
| Liquidation | Government Security (G-Sec) are fully tradable in the secondary market and are not chargeable on premature exits. If the company goes bankrupt and gets liquidated, the bondholders will be the first to receive their payments. | Bank FDs provide the liquidity feature but for a premature withdrawal of the fixed deposit, a bank generally charges 0.5% to 1% of the interest rate. FDs are not backed by assets; however, they are insured up to Rs.500,000 by DICGC for investors’ principal and interest amount. |
| Taxation, | The capital gains from bonds are taxed per their holding period. On the other hand, there is no tax on interest income with tax-free bonds issued by government institutions like PFC, REC, NTPC, IREDA, HUDCO, IRFC and NHAI. | Fixed deposits are subject to income tax per the individual income tax slab rate. Also, TDS is deducted at 10% if the interest income exceeds Rs.40,000 and Rs.50,000 in the case of senior citizens. |
| 80C Deduction | Investment in bonds has no special tax deduction under this section | Investment in tax saving FD provides tax deduction up to Rs.150,000 under Section 80C |
| Minimum investment | Rs. 1000 is the minimum amount for investment in bonds. | Rs. 5000 is the minimum amount for investment in regular bank FD. |
Bond vs Fixed Deposit – Which is Better?
Investment in bonds and fixed deposits is safe. Both schemes have multiple options with different tenures, which can help investors with short-term and long-term investments. Investors can also choose a mix of both for their portfolio diversification based on their requirements.
But a fixed deposit offers complete security and a guarantee of returns on investment. Also, they are easily accessible. On the other hand, bonds can provide higher returns on maturity when compared to fixed deposits. However, bonds are subject to interest rate fluctuations which might affect the bond prices. Moreover, investors who have time to buy these bonds over the counter and have market knowledge can consider investing in bonds.
Therefore, the answer lies in the investment goals, investment horizon, and understanding of risk when it comes to bond vs fixed deposit. These factors are instrumental in helping investors make an informed decision.