INVESTING IN SBI BONDS

[Dr. Sanjiv Agarwal]

Country's largest bank, State Bank of India's long term bond issue of Rs. 1000 crore has been announced. SBI is offering a coupon of 9.25% for 10 years term and 9.50% for a 15 year term. While these bonds are for a long term, this time, bank has ventured to tap the retail investors to subscribe to the bonds for the first time. Though the interest rates may look attractive for the present, this attraction may not sustain over a time horizon of 10 and 15 years. Upward movement in rates is not ruled out but at the same time committing funds for 10 or 15 years in a inflation hit economy may not be wise. One would also loose the investment opportunities, if any during this period.

The bonds being offered by SBI from 18th October till 25th October will be allotted on 'first come first serve' basis. One good this about these bonds is that these come without any lock in period and shall be listed on National Stock Exchange. Thus, the liquidity is assured but whether such liquidation will be at a premium or discount would much depend on interest rate scenario and residual life of bonds. However, It will provide long term funds to bank at reasonable rates for on lending of long term loans to housing loans and infrastructure projects.

SBI will have an option to recall the bonds (call option) after 5 years and 10 years for 10 and 15 year bonds respectively. If the call option is not exercised, coupon rate will be stepped up by 50 basis points, i.e., interest rate will be 9.75 % p.a. from sixth year onwards in 10 years series and 10% p.a. from 11th year onwards in 15 year series. Even If we consider this stepped up coupon, the average yield will be 9.445% p.a. and 9.598% p.a. respectively. Bond holders will not have any put option but can exit through the stock exchange.

These bonds may not attract those who are looking for switching options frequently or those who wish to invest for medium term. It is a pure interest instrument wherein investors do not get any premium on redemption. A sum of Rs 10000 will be redeemed as Rs. 10000 only after 10 or 15 years as the case may be. There is no income tax benefit to bondholders, like other infrastructure bonds. Section 80 CCF does not apply to SBI bonds. Moreover, interest payment will be subject to tax deduction at source (TDS) and tax adjusted returns will be much lower. Assuming a tax slab of 30 percent, a 9.25% return will effectively mean 6.475% after income tax and a return of 9.50 % will mean a post tax return of 6.25%. This is too low a return for committing investment on long term basis.

It is worth noting that SBI bonds are capital instruments and can not be equated with deposits. As such, these bonds are not fixed deposits and hence not covered under deposit insurance scheme. Unlike fixed deposits, these can not be redeemed by the bondholders. Also, these can not be used as collateral securities against loans by the bank.

The present rising interest rate scenario, where in Reserve Bank is likely to raise the rates further and the inflation fears, attractive opportunities in stock market etc, investors who prefer to invest in fixed income investments, may also not be attracted towards investing in bonds issue. Also, competition among bond issues will turn stiffer with more bond issue in the offing. Comparing SBI bonds to PPF, PPF holds a better option in terms of both, return and liquidity. Investors may therefore, prefer PPF or EPF to SBI bonds. Though SBI bonds have been received well in the market, all may not get allotments as the issue size is fixed, i.e., Rs. 1000 crores. Those who do not get allotments may have better options in the future.