Bharat Bond ETF – Why you need not get excited?

The Bharat Bond ETF is slated to launch on December 12, 2019. This has been marketed as nothing short of a nation changing event. I know I am writing about this when there is hardly anyone left who doesn’t know about the Bharat Bond ETF issue. Yet, let me share my perspective with you.

To start with, let’s look at some of the key facts of this offering.

Bharat Bond ETF – Key Facts

1. The Bharat Bond ETF will comprise of only AAA rated Government owned entities, also known as PSUs or Public Sector Undertakings. These include National Highway Corporation, Rural Electrification Corporation, NTPC, NHPC, HPCL, and others.
2. Since the ETF is in the nature of a passive index fund, it will mirror its holdings to the Bharat Bond Index series created by NSE / Partners. The index will be rebalanced twice a year based on the established parameters.
3. The current ETF comes in 2 variants or series as they call it. One is for 3 years, which matures in April 2023. The second one is for 10 years and matures in April 2030. Simply put, a short term ETF and a long term ETF. NSE Index Factsheets : 3-year, 10- year
4. Both offerings are structured as plain vanilla in nature. The bonds are bought, they give out interest payments periodically and then they mature, in which event they return the final principal to the fund, which then sends it back to you. There are no put/call options or any other fancy wraps in the offering.
5. The ETFs will be listed on the stock exchanges and thus allow trading or buying and selling at any time on these exchanges. So, while there is an NFO or a New Fund Offering starting 12th, that is not the end of it. It will be available later, post the exchange listing, for anyone to buy/sell. Since, it is listed on an exchange, the price will fluctuate. The actual NAV of the fund and the traded price could also be different.
6. The ETF’s expense ratio is expected to be at 0.0005%, probably the lowest ever. Buying and selling via the exchange also has cost in terms of brokerage. (More facts will emerge as the ETF becomes a reality)

What works in favour of Bharat Bond ETF?

The biggest draw of the this ETF is the expense ratio. All other things remaining the same, a low cost is a total advantage for an investor.

If you compared this with similar debt mutual fund offerings, expense ratios can go up to 0.5%, sometimes more. Basically, you are paying next to nothing with the Bharat Bond ETF.

The next advantage is the low risk of this offering, which is a result of the credit quality. It will invest only in Government owned entities which have a AAA rating. Lot of people are relying on the implicit Government guarantee, sadly!

As an aside, here’s a snapshot form a HDFC’s Banking and PSU bond fund. The issuer is MTNL and the investments has a AAA rating. Really!

The third point being touted is the taxation of the ETF. Frankly, there is nothing new on the taxation front. All other debt mutual funds come with the same benefit for many years now.

When you sell or the ETF matures, you have a capital gains tax incidence. You are allowed to index your cost as per the Cost Inflation Index issued by the Income Tax Department and then pay only 20% capital gains tax on these indexed gains.

If you were to buy PSU bonds directly, you would receive interest payments on which you have to pay taxes as per your tax bracket. Now, if you were in the higher tax brackets, the tax on interest could really pinch you hard affecting your returns. There is no capital gains tax, when you buy PSU bonds directly, if they are available.

Should you invest?

Based on my experience of working with investors on their financial and investment plans, most people do not need one more product in their portfolio.

The asset allocation, or the distribution of investments into various asset types, is already skewed towards fixed income and real estate.

Having said that, you might be one of those, who has provided for all the life goals and still have surplus money to park with safety / low risk. In that case, yes, this is a possible option, but not the only option.

Ok, what are the other options?

If you are closer to retirement, why not look at your VPF or Voluntary Provident Fund – same implicit government guarantee and tax free returns. Then, if you are still not maxing out your PPF contribution, maybe you can turn your attention there first.

What about liquidity? Well, I hope you are not putting your emergency funds into a locked in product. And if the nature of investments is long term, then talking about liquidity is hypothetical. I hope that you had thought about your real estate investment in the same way too. 🙂

Now, if you do invest, don’t keep the allocation at 0.0005% of your portfolio. (Oh, that’s the expense ratio too!) It is not going to make any difference. Give it some decent room in your portfolio.

Let me also point you to the fact that once the ETF matures, there is a forced taxation event on account of capital gains. I rather just stick around with my fund and defer taxes as much as possible.

I was so excited 🙁 I even opened a demat account.

Sorry about that! I know there is a lot of excitement about the product but excitement should be reserved for casinos or big life events. Not with your money meant for real life goals, please!

I also typically warn about random investments just because something looks hot and popular. It does more harm than good.

As for the demat account, I am sure you will find some good use of it.