Is RBI’s Retail Direct Scheme a good option for investors?

reserve Bank of India Within a week of the launch of the RBI Retail Direct (RD) scheme in November, 32,000 registrations were received from retail investors. In comparison, asset management companies have more than 12.60 crore mutual fund accounts or folios registered.

The number of RDG accounts, although small, indicates a strong interest among retail investors for government bonds, which have traditionally been dominated by institutional investors.

how the plan works

Opening an RDG account, which is free of cost, allows individuals to directly buy government securities in the primary market (auction) as well as buy or sell government securities in the secondary market.

“These securities of the central and state governments are often priced in lakhs of rupees, but the platform provides easy access to retail investors at a relatively low cost. Adil Shetty, chief executive officer of BankBazaar, an online marketplace for financial products, said government securities and SDLs have the highest credit ratings. 10,000 and up to max 2 crores.

There are two ways to buy securities through the Retail Direct platform. The first is by bidding in the primary auction. Bids are simply non-competitive, meaning investors can enter only the number of securities, not the price. Another way is by applying a by quote in the secondary market section. Investors can also sell securities by placing an offer (sell) order in the secondary market section.

taxation of government bonds

Income from government bonds is taxed in two ways. The first is on capital gains from the sale of bonds before the maturity date and the second is on interest earned. Short-term capital gains (STCG) tax up to one year and long-term capital gains (LTCG) tax after one year is levied on gains from selling listed government securities before maturity.

STCG is taxed as per the income tax slab rate of the individual, while LTCG on Government bonds is taxed at 10% (without index gain) and interest income from bonds is taxable as per the slab rate of the investor.

Pros and cons

Experts believe that the RBI RD Bond scheme is a good initiative as it can provide an option to the retail investor to invest in government bonds.

The yield on the benchmark 10-year government bond today stands at around 6.80%. In comparison, government-run small savings schemes currently offer interest in the range of 4-7.6%. However, there is a catch. “With small savings, there is usually a lock-in of more than three years, which is not the case with traditional securities like bonds,” Shetty said.

However, a major concern with government securities is liquidity in the secondary market. “The benchmark security is trading widely today. But tomorrow, a year later, when it will no longer be the benchmark, the trade may go to zero. “Out of position for the investor,” said Madan Sabnavis, Chief Economist, Bank of Baroda. It won’t be possible to leave.”

According to Sabnavis, there are about 92-100 securities listed in terms of all government borrowings, of which only four or five have active trading, and another 15 or so.

Financial advisors also advise retail investors to stay away from the RBI RD bond scheme. Harshad Chetanwala, a SEBI-registered investment advisor (RIA) and co-founder of MyWealthGrowth, said, “While the scheme may increase participation in government securities, it is not as simple and seamless as equities.”

Investors should note that while investing in government securities there is no credit risk, but there is always a high interest rate risk as these are long-term debt instruments. “For example, if you hold a long-term bond with an interest rate of 7% and if the interest rate goes up to 8%, the value of your bond will decrease. The longer the term of the bond, the greater the effect on the bond price. It will be more.”

What should investors do?

Experts say that small investors would be better off with debt funds, as they are managed by experienced fund managers. Further, on a three-year basis, gilt mutual funds, which invest primarily in government securities, have given an average return of 7.31%, which is higher than the benchmark government bonds.