With the Indian bond market still developing, consider US treasury bonds3 min read . Updated: 17 May 2020, 10:04 PM IST
A simple way to invest in US Treasury bonds is to invest in a low-cost ETF listed in the US
Since the purpose of bond investing is downside protection to hedge against adverse economic conditions, it is best to invest in bonds with the lowest default risk. Therefore, when choosing the type of bonds, investors must consider the issuer of the bonds. Bonds issued by corporations inherently carry more risk than bonds issued by the government. In a situation where a recession happens, the issuer of the bond may go out of business and may default on the debt. The risk of default in government bonds is minimal, although it can still happen. For example, Greece defaulted on its debt in 2015.
Be it corporate or government bonds, the bond market in India is still developing. For the longest time, debt mutual funds were the only way a retail investor could add bond exposure to his portfolio. Recently, via an app developed by the NSE, retail investors have the ability to directly invest in Indian government bonds. However, liquidity and expense ratios are downsides for these options. The Bharat Bond issuance in December 2019 provided a much-needed liquid and low-cost bond ETF for investors. But the Bharat bond is the only ETF available.
To expand their bond investment opportunities, investors should look to global markets. Due to technological advancements and new-age companies, access to global markets has been greatly simplified for the Indian investor.
One bond opportunity worth considering is the US Treasury bond, arguably the closest to a risk-less investment an investor can make. The US Treasury is highly traded around the world, making it a deep and liquid market for investors. Note that the risk we are discussing here is just the risk of default. There is also the risk of price fluctuation associated with investing in bonds. Bond prices can fluctuate under different economic conditions.
US Treasury bonds have different maturity ranges, between 10 and 30 years, and are set at a fixed interest rate. The bonds make regular interest payments until maturity, at which point the face value of the bonds is paid to the owner. When you purchase US bonds, you are entitled to receive regular interest payments, and if you hold the bonds until maturity, you will receive the payment for the face value. The bonds do not need to be held until maturity. You can sell the bonds to another investor before it matures. This ability to re-sell US bonds creates a liquid market for it.
One of the easiest ways to invest in US Treasury bonds is to invest in a low-cost ETF on the US stock market. When you do this, you invest in the ETF as if you’re investing in normal stocks and will receive interest via dividend payments on a regular basis. The fund manager of the ETF will ensure that the underlying bonds being held meet the maturity target of the fund.
An example of such an ETF is iShares’ 20+ Year Treasury Bond ETF (ticker: TLT), a fund which charges 0.15% expense ratio, with a fund size of $19.2 billion. If you’re unsure about which maturity term you should invest in, you can consider an ETF with a mix of maturities, such as the Vanguard ETF fund which has a mix of 10- to 25-year maturities (ticker: VGLT). This fund charges an expense ratio of 0.05% and has a size of $4 billion. Both ETFs distribute dividends once a month.
You can invest in these ETFs by opening an account with a US broker. This type of investment is possible under the Liberalised Remittance Scheme (LRS) of the Reserve Bank of India, up to $2.5 lakh per annum. Taxation for the interest earned by investing in these bonds is the same as receiving dividends from foreign stocks. There is a 25% withholding tax in the US and due to a Double Tax Avoidance Agreement between the US and India, there is tax credit available in India for the 25% tax paid in the US. Lastly, do note that as part of Budget 2020, the government introduced 5% tax collection on transactions done via LRS beyond a total of ₹7 lakh or approximately $10,000 in a year. This tax collected will be available as credit to the payer when they file their taxes. The 5% can also offset any capital gain taxes that would need to be paid in India on the foreign investments.
Viram Shah is CEO and co -founder of Vested Finance