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How to Invest in Government Securities: The Retail Direct Scheme, Explained

Editor, TRANSFIN.
Nov 19, 2021 6:10 AM 6 min read
Editorial

On Friday, the Retail Direct Scheme (RDS) was finally launched.

The initiative was heralded by RBI Governor Shaktikanta Das as a “major structural reform” and a way to "democratise" access to the bond market.

What is the Retail Direct Scheme?

Basically, the scheme (RBI statement) allows retail investors like you and me to buy and sell Government securities (G-Secs) online. Small investors can now open a Retail Direct Gilt (RDG) account and invest in G-Secs both in the primary and secondary markets. The platform for these transactions is www.rbiretaildirect.org.in.

Before we get into the nitty-gritty of RDS, let’s briefly go...

 

Back to Basics: What are Bonds?

Remember that a bond is a loan and yield is the rate of return that it offers.

A G-Sec, as the name suggests, is a bond that is issued by the Government. Therefore, when you purchase a G-Sec, you are practically lending money to GoI. In exchange, you receive "coupons" or specified interest rates (payable annually or semi-annually).

FYI: For a primer on bonds, yields, yield curves, yield spreads etc., read our beginner’s guide to the bond market here.

Because they are backed by sovereign guarantee (i.e. It is extremely unlikely that the Government would default on its debt obligations), G-Secs are considered safe investments. They can also offer better interest rates than some banks’ FDs. For instance, the latest yield on the benchmark 10-year G-Sec is 6.366% while SBI offers 5.4% on deposits of less than ₹2cr for a maturity period of up to 10 years.

Naturally, some governments’ bonds are considered “safer” bets than others’, which impacts the yield. For example, for the same maturity period, the yield on US Treasury bills is typically lower than the yield on GoI bonds because the latter has a relatively higher risk profile.

 

Before RDS

Before Friday, retail investors did have access to G-Secs but they faced a tricky landscape. In the primary market (i.e. Buying directly from the issuer), exchanges allowed the purchase of bonds via a “non-competitive bidding” weekly window that you could tap via an intermediary/broker. Alternatively, G-Sec exposure could be arranged indirectly via mutual funds and FDs (since banks whose FDs retail investors take are themselves big buyers of G-Secs), hence not really the same thing!

In the secondary market (i.e. buying bonds from other bond investors), Government bonds were very thinly traded and engaged/accessed by perhaps the most seasoned of bond traders. (We covered these topics in detail in our piece on Government bonds.)

 

All You Need to Know about the Retail Direct Scheme

Essentially, what RDS does is allow individual investors to lend directly to GoI, removing the need for intermediaries and digitising the entire process.

Who can open an RDG account?

Just as with equity trading accounts, any Indian citizen with a savings bank account, a PAN card, valid KYC documents (Aadhaar card, Voter ID etc.), email address, and registered mobile number can open an RDG account. Additionally, non-resident retail investors can also avail the scheme under the Foreign Exchange Management Act.

How to invest in G-Secs?

Open your RDG on www.rbiretaildirect.org.in. Once registered, you can place non-competitive bids on primary issuance on a variety of G-Secs. Once funds are transferred to the RBI trading system (aka Negotiated Dealing System - Order Matching System, or NDS-OM), buy orders can be placed. Only one bid per security is allowed. The Clearing Corporation of India Ltd. (CCIL) acts as the aggregator for primary issuances and settlements follow the T+1 regime.

Moreover, access to the secondary market can be secured through NDS-OM. Interest payments/maturity proceeds will be sent to the bank account linked to your RDG account.

Investors can obtain help and other support facilities on the portal itself and also through a toll-free telephone number (1800–267-7955) or email (support@rbiretaildirect.org.in).

Which securities can I invest in?

Government of India Treasury Bills, Government of India dated securities, sovereign gold bonds and state development loans.

What about fees?

None for opening or maintaining your RDG account or for submitting bids in primary auctions. Payment gateway charges (via UPI or Net Banking), however, would be borne by the investor.

 

What’s the Need for Investing in G-Secs?

Giving individual investors broader and easier access to G-Secs was touted by Mr. Das in his February monetary policy announcement. Later in July, the RBI shed more light on the process and on the NDS-OM infrastructure.

But why are the Central Bank and Government so eager to boost retail participation in the G-Sec market?

To quote the RBI: RDS, coupled with other schemes, would “facilitate smooth completion of the Government borrowing programme in 2021-22”.

Remember, a bond is a loan, and when you buy a G-Sec, you are lending money to the Government. The more G-Secs the market buys, the more money GoI raises in a particular FY.

Now, for FY22, the Union Government intends to borrow up to ₹12Lcr. This Budget Estimate (BE) was lower than the Revised Estimate (RE) of ₹12.8Lcr of borrowing last FY, which was 64% higher than the Budgeted Estimate for FY21.

As of September, the Government had already borrowed c. ₹7Lcr, and is expected to raise ₹5Lcr in October-March. The residual GST compensation payment of ₹83,000cr is likely to be adjusted from extant revenues. (Earlier in May, the Finance Minister had said it may have to borrow more from the market to meet the GST compensation shortfall.)

As long as borrowing remains at BE-levels, ceteris paribus, India will be well-positioned to meet its fiscal deficit target of 6.8% of GDP in FY22. (Read more about how GoI makes money here.)

Of course, GoI has been enjoying a surprising uptick in income tax and GST revenues. While the Second Wave wreaked havoc across the economy, the pandemic seems more controlled now than ever before, in main part thanks to vaccinations, and the broader economy is returning to pre-pandemic levels of activity, tenuous demand and inflation fears notwithstanding.

But with the pandemic-era stimulus programmes, rising commodity prices, the ever-present risk of runaway inflation, and the Government eager to launch massive infrastructural development programmes (think Gati Shakti Yojana), GoI’s coffers would be on more stable footing with increased inflows from individual investors. (Also why the Government is eager to fast-track disinvestments and monetise assets via the National Monetisation Pipeline.)

And it wants to do this while ensuring “fiscal consolidation” i.e., whilst constraining the fiscal deficit. Which is a tall order, to put it mildly.

 

Indian Government Debt: A Brief Primer

Government debt can be internal and external in nature. The latter is the amount owed by GoI to foreign banks, foreign governments or international financial institutions like the World Bank and IMF. About 93% of India’s public debt, however, is internal debt. This can further be divided into marketable and non-marketable debt. Your dated G-Secs and Treasury bills are marketable debt. Meanwhile, intermediate treasury bills issued to state governments and PSBs are some of the components of non-marketable debt.

The external debt-to-GDP ratio has fluctuated around 20%-levels since 2006. As of the end of FY21, the country's internal debt stood at ₹95,83,366cr, about 19.5% higher YoY and 48.5% of GDP. Meanwhile, the fiscal deficit last FY jumped to 9.3% of GDP, way above the initially pegged 3.5%, largely on account of the COVID-19 pandemic.

Whether retail investors will be attracted to G-Secs en masse or not remains to be seen. As of Sunday, over 20,000 registrations were recorded on the portal. But can we expect this pace to sustain?

The fundamental problem of Government bond markets being complicated - or appearing to be so - may turn away the average investor (more on this here). Besides this, with the exception of sovereign gold bonds, there are no tax benefits for investment in G-Secs via RDS (in fact, the RBI has asked GoI to change this). Investors may prefer the tax-attractive options of mutual funds over G-Secs, even if the latter is relatively safer.

The scheme has also been introduced at a time when interest rates have bottomed out and are likely to rise again (more probable considering inflationary risks). If and when rates rise again, bond prices are likely to peak or climb down, hurting bondholders' returns.

FIN.
 

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