Home / Money / Personal Finance /  Diversify between NCDs and FDs for lower risk

With investors staying away from non-banking finance companies (NBFCs) following the Infrastructure Leasing & Financial Services Ltd (IL&FS) and Dewan Housing Finance Corp. Ltd (DHFL) crises, few companies have issued non-convertible debentures (NCDs) with an issue size of 500 crore or above over the last year. L&T Finance Ltd and Muthoot Finance Ltd are the latest to do that. Another NBFC from the L&T Group—L&T Infrastructure—is also seeking permission from the Securities and Exchange Board of India’s (Sebi) to raise money through an NCD.

While the L&T Finance issue is open from 16 to 30 December, Muthoot Finance’s NCD opened on 28 November and will close on 24 December. NCDs, typically, give higher interest rates than fixed deposits (FDs), so should you invest?

Higher rates, higher risk

The L&T Finance NCD is offering interest rates between 8.45% and 8.65% per annum to retail investors, while Muthoot Finance NCD’s interest rate range is 9.25-10% per annum. The rates depend on the tenure and periodicity of the interest payout—annual payout has higher rates and monthly has lower.

In comparison, the interest rates on FDs of large banks are lower. For instance, ICICI Bank Ltd’s FD for tenures of over two years and up to 10 years is giving 6.4% per annum currently. State Bank of India is offering 6.25% for the same tenures, while India Post is offering 6.9% for three years and 7.7% for five years.

However, the higher rates that NCDs offer come at the cost of higher risk.

Even within NBFCs, the rates differ depending on the credit rating of the NCD issue. Rating agency CRISIL, for example, has assigned AA (double-A) rating to Muthoot Finance’s NCDs and AAA to L&T Finance’s issue. The higher the rating, the better the risk capacity of an issue.

Should you invest?

Though there has been some activity on the NCD front, there are signs that the NBFC sector may still be under stress. On 11 December, Reliance Capital Ltd informed exchanges that it delayed payment on NCDs that was due on 9 December.

Financial planners, however, say that investors whose tax bracket is below 20% can still look at NCDs for incremental return on their debt portfolios. “High-quality NCDs are certainly an option for investors who are not in the highest tax slab," said Vishal Dhawan, founder and CEO, Plan Ahead Wealth Advisors.

The interest from fixed-rate instruments are taxed at the marginal tax rates, and, therefore, NCDs are not tax-efficient investments for those in the 30% tax bracket for whom debt funds are better options. Debt funds also invest in a portfolio of debt papers, which provides the required diversification.

However, even if you are below the 20% tax bracket, limit your exposure to NCDs. “Don’t invest more than 20% of the debt portfolio in NCDs," said Dhawan.

It is important to diversify not only your debt portfolio but also your NCD bouquet. “No matter how attractive an NCD may seem, don’t invest more than 5% in NCDs of a single company," said Dhawan, adding that investors should limit their exposure to a corporate group as well.

Before investing, evaluate the company thoroughly. Opt for NCDs from companies that have AAA rating and are backed by a well-known conglomerate with strong financials, even if the rates are slightly lower. An investor should also refer to the prospectus to compare the non-performing assets, profitability and leverage of the issuer with its peers.

Also, be ready to hold the NCDs until maturity. While NCDs are listed on the stock exchanges, the trading volumes for many are in single digits.


If you are in the lower tax brackets, you can first consider investing up to 1 lakh in select small finance banks as the amount is insured by the Deposit Insurance and Credit Guarantee Corp. (DICGC), a wholly-owned subsidiary of the Reserve Bank of India. “In the current uncertain environment, an individual has to diversify across products and also within them," said Deepesh Raghaw, a Sebi-registered investment adviser based in Mumbai.

The rates of current NCDs are close to what some small finance banks offer. Jana Small Finance Bank offers 8.4% interest on its three-year FD, according to the bank’s website. Similarly, Suryoday Small Finance Bank offers FDs at 8.5% for tenures above two years and up to three years. Even the long-tenured FD rates from some small finance banks are comparable to coupon rates on the current NCDs. Suryoday Small Finance Bank offers FDs at 9% for a five-year tenure.

Another alternative is investing in company FDs, but assess the risk before investing in them. “The current issues are of secured NCDs. It means that the money NBFCs are raising is backed by assets or loans," said Ajay Manglunia, managing director and head, institutional fixed income, JM Financial Products Ltd. When a company goes into liquidation, secured creditors are placed above the unsecured ones. Company FDs are not secured.

“When you invest in NCDs and corporate FDs, you take higher risk, than when you invest in an FD of a large bank. Post office deposits, small savings schemes and FDs of public sector banks have a sovereign guarantee and are considered to be the safest," said Raghaw. So don’t just go by the interest rate on a fixed-rate product, understand the risks as well.

Reliance Group companies have sued HT Media Ltd, Mint’s publisher, and nine others in the Bombay high court over a 2 October 2014 front-page story that they have disputed. HT Media is contesting the case.

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