Government bonds are debt-based financial instruments through which a government- central or state, raises finance or capital for infrastructure development or new projects. The investors of such bonds receive a predetermined interest payment periodically for an agreed-upon tenure. When such bonds mature, the investors get their principal amount back.
Read on and learn more about the various types of government bonds and what factors influence them.
Explore the Common Government Bond Types in India
The government issues various government bonds to cater to the financial needs of diverse investors. Here are some of the common types:
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Fixed-rate Bonds
A fixed-rate government bond is a security which offers fixed interest payments to the investors, throughout the tenure of the bond. It means the interest payments from such bonds do not change per the current interest rates. Most of the bonds issued by the government are fixed-rate bonds.
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Floating-rate Bonds
Floating-rate government bonds do not offer a fixed-interest income. Instead, the interest rate on such bonds varies depending on the benchmarks from where it is taken. Let’s take an example:
The bond price is INR 1000; The quoted margin is 3% (remains constant during the bond’s tenure); the Liable rate is 1%; the Tenure is 2 years, and the Liability for interest payment is every 6 months.
So, income after 6 months:
[3%(quoted margin)+ 1% liable rate during purchase] x 1000 bond price= INR40
After six months, the liable rate increases to 2%:
The amount the investor will receive after one year:
[3%(quoted margin)+ 2% liable rate(revised)] x 1000 bond price = INR50
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Zero-Coupon Bonds
Zero-coupon government bonds do not have any coupon rate. Thus, the returns from such bonds depend on the difference between their issuance price and redemption value on maturity. Such bonds are issued at a discount and redeemed at their face value.
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Sovereign Gold Bonds(SGBs)
The sovereign gold bonds are issued against gold in grams. The nominal price of such bonds is calculated by taking the simple average of the closing price of 99.99% purity gold. The average is taken in relation to three days before the date of bond issuance. These bonds offer a fixed interest rate of 2.5% annually, paid half-yearly. The returns from SGBs are based on the current market price of the gold.
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Inflation-indexed bonds
Investors are able to earn inflation-adjusted interest on these bonds, enabling them to protect the real value of their investments. The inflation-indexed bonds use either of the two indexes as indicators of inflation, i.e. wholesale price index or consumer price index.
Explore 3 Key Factors Affecting the Government Bond Price
If you are interested in buying government bonds, take into consideration the following factors as they have an influence on their price:
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Demand and Supply
The government determines the supply of the government bonds but their demand is determined by the investors based on their attractiveness. If the demand for such bonds is more than the supply, the bond price rises and vice versa.
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Inflation
High inflation is bad news for government bonds. For example, if an investor has fixed-interest bonds, remember that inflation brings down the purchasing power of such fixed-interest payments. Hence, as inflation increases, the bonds become less attractive, and their prices fall.
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Interest Rate
There is an inverse relationship between interest rates and bond prices. For example, if the coupon rate of the government bonds is higher than the current interest rates, the demand for such bonds will increase, leading to an increase in their price.
Wrapping Up!
Government bonds are a secure way of investing, especially for those who are starting on their investment journey. As the government offers different types of bonds, investors have the option to optimise their portfolio and balance risk. Also, such bonds are a great way to earn better returns than regular savings tools.
So, start exploring more about government bonds with GoldenPi and design an investment portfolio that helps achieve your financial goals.
FAQs About What are Government Bonds?
1. What are the benefits of investing in government bonds?
Besides safety and regular income, government bonds also offer more liquidity compared to stocks. Also, some of them promise tax exemptions from state and local taxes.
2. Can investors directly invest in government bonds?
The RBI allows retail investors to directly invest in government bonds through the Retail Direct Scheme. However, to do so, an investor must open an RBI Direct Gilt account.
3. What if the interest payment date of government bonds falls on a holiday?
In such a scenario, the intense payment will be made on the immediate next working day. However, if the date of maturity is a holiday, then the investors will receive payments on the previous working day.
