Inflation index bonds issue sails through, but retail response poor

Our Bureau Updated - June 04, 2013 at 10:22 PM.

The first-ever auction of 10-year inflation indexed bonds sailed through mainly on the back of bidding by large financial institutions.

Though primarily aimed at protecting savings of poor and middle-classes from inflation and discouraging investments in gold, the bonds had poor retail response.

Though 20 per cent of the Rs 1,000-crore bonds auction was reserved for retail and other eligible investors, the Reserve Bank of India received only eight bids for Rs 14.06 crore from this segment.

The central bank, as merchant banker to the government, received in all 167 bids aggregating Rs 4,616 crore from large financial institutions such as life insurance companies, provident fund trusts, primary dealers, banks and mutual funds. It accepted 26 bids for Rs 985.94 crore at a cut-off yield of 1.44 per cent (real interest rate).

Post-auction, the bonds were well traded with the yield touching a low of 1.41 per cent (the price moved up 30 paise to Rs 100.30 against the face-value of Rs 100), said K. Boovendran, DGM, Bank of Maharashtra. Yield and price of a bond move in opposite directions. Given the poor retail response, Boovendran said changes in the product should be considered so that retail investors’ requirement of getting periodic but full interest payment is met.

How it works

The inflation bonds have a fixed real interest rate and a nominal principal value that is adjusted against inflation. Periodic interest payments are made on the adjusted principal. The bonds provide inflation protection to both the principal and interest payment. At maturity, the adjusted principal or the face value, whichever is higher, is paid.

As the situation obtains now, if, say, the final wholesale index based inflation reading after four months lag comes in at 6 per cent, then the interest a bond holder will earn only 1.44 per cent on the principal amount of Rs 106 (Rs 100 face value of the bond plus 6 per cent inflation). However, long-term investors could get capital appreciation.

“We received inquiries from our customers for investing in the IIBs. However, the procedure involved in opening the constituents’ subsidiary general ledger account (for bidding for the bonds) is complex. So, they stayed away,” said a senior treasury official.

Published on June 4, 2013 13:38