As banks reduce fixed deposit rates, investors should consider corporate bonds for higher returns. Unlike deposits that immediately reflect changes in repo rates, bond yields tend to adjust gradually, creating a yield cushion that investors can benefit from.
Corporate bonds continue to deliver a favourable risk-reward trade-off with yields of 9-11% for AA-rated bonds. With predictable cash flows, secondary market tradability and a well-defined repayment hierarchy, these instruments bring transparency and structure to a portfolio. With online bond platform providers improving access and transparency, retail investors can now participate with greater ease.
Vishal Goenka, co-founder, IndiaBonds.com, says with falling bank deposit rates and the RBI’s neutral stance, investors will have to look beyond traditional avenues for higher returns. “Corporate bonds—especially those issued by high-quality, investment-grade entities—offer a good alternative,” he says.
Higher yields
The yields offered by corporate bonds are higher than the fixed deposit rates offered by state-owned banks and large private sector banks. The spread between them is likely to increase as banks cut their rates.
Santosh Agarwal, CEO, Paisabazaar, says corporate bond issuers make interest (coupon) payments at monthly, quarterly, half-yearly or yearly intervals to their bondholders and repay their principal amount on their maturity dates. “These features make corporate bonds a good alternative asset class for investors seeking principal protection and regular income, without market volatility,” she says.
What to consider
Investors must consider the credit risk and interest rate risk before buying corporate bonds. Credit risk refers to the possibility of a bond issuer failing to make interest payments or principal repayments by their due date. The credit rating is assigned by Sebi-accredited rating agencies, ranging from AAA (highest safety) to D (default).
Suresh Darak, founder, Bondbazaar, says first-time investors should start with highly rated bonds that are AAA or AA rated. “They should look at the yield-to-maturity of the bond, which is the effective return that the investor earns considering the purchase price, and all the interest and principal payments,” he adds.
Interest rate risk refers to the change in bond prices due to changes in interest rates in the market. Bond prices have an inverse relationship with market interest rates — their prices go up during falling rates and vice versa. This risk is higher in bonds having longer residual maturity profiles. Investors can mitigate this risk by staying invested in the bonds till their maturity dates.
While corporate bonds and deposits of companies and even non-banking financial companies give regular interest payments and principal at maturity, the key difference is that bonds are tradable instruments and deposits are not. If an investor wants to break the fixed deposit in the middle of its tenure, he will have to submit it and get the money back after some deductions.
Bonds are tradable instruments (like stocks), and an investor can sell them at the exchange. Once sold, the bond gets transferred to the buyer, after which interest and principal payments are made to the seller.
Holding period
Investors must look at the tenure of the bonds, which vary from 90 days to 40 years. First-time investors should go for bonds maturing in one to two years, where they will get 9-12% returns in investment-grade corporate bonds, says Darak. As they develop a better understanding of credit ratings and yield curves, they can start exploring longer-duration bonds up to five years, as well as lower credit ratings up to BBB, where they can earn 12-15% returns.
Corporate bonds with a two to three-year maturity have hit the sweet spot—they offer attractive carry, limited duration risk, and potential capital gains if rates ease further. “Holding these instruments till maturity will not only ensure cash flow visibility but also protect against interim market volatility,” says Goenka.
Adding a layer of long-duration government securities to a corporate bond portfolio can further enhance returns, especially given the current phase of the interest rate cycle.