BONDs Provide Solid Foundation in Investment Portfolio
Thirteen years ago, when I graduated and started working, my dad had couple of suggestions. Papa ne kaha, “dekho beta, you have graduated and will be earning on your own”, he continued, “you have to develop your own thinking and your own future. We have mentored you enough, now you are on your own”. [At that point in time, I did not realize what he meant by this. Anyways] He also said, “meri sirf do baat yaad rakhna”. And following are those two words.
- You will earn a lot of money in your life. You will not be alone. Everybody does it. The important thing for you would be to figure how to keep it. Samajh rahe ho. Keep it, and not let it go waste.
- Never forget my generation’s government bonds. They are wealth builder.
As it always happens, I have never made an effort to follow my dad’s advice. But now when I look back, I realize that sub-consciously, I have followed both of his recommendations.
In today’s investment environment, while corporate bonds still have some luster, the government bonds have been left behind in popularity. And the reason I say this is because, whoever I talk to, almost everybody looks down at government bonds. Most of the time, the argument is that it only gives 8% to 9% interest which is barely equal to inflation. These returns from bonds tend to become misnomer in comparison to returns from other investment products (e.g. mutual funds, ULIPS, equities, NCDs, etc.). While I agree that it does not provide any real return, we new age investors fail to put that into proper context. Here, again, I believe we fail to properly understand the role of government bonds into our portfolios. In my view, a well thought out risk based investment roadmap, will always have a role for bonds in our portfolios.
I mostly use National Savings Certificate (NSC). I also have couple of ten year maturing Bhavishya Nirman Bonds from NABARDS. I have not yet tried my hand at corporate bonds.
How do I use government bonds NSC?
I started my investing experiments thirteen years ago. For two years, I was in complete wilderness trying to figure out what to do and how to do. After those two years, when I started to think about constructing a long term portfolio, I realized, it is important to have a solid foundation. During those days, I read a lot about asset allocation, diversification, risk management, etc. At a fundamental level all these concepts are oriented towards – a good solid foundation.
It took me five years to build this solid foundation. The first step in this foundation building process was no more equities and no fancy investment products. In other words, I completely ignored them. I slowly built a portfolio of NSC bonds. I built laddered NSCs that, after wait of first six years, now mature every year. I do not need this invested money at this point in my life. So all I do is, keep reinvesting them every year after they mature. All of these bonds have matured at least once since they were first bought.
To begin with, I had 90% of my portfolio in NSC bonds. I stopped future allocation to bonds after I was satisfied with the level of allocation. As for today, I think that NSC bond consists of about 19% of my overall portfolio. Sometime in middle, I also bought NABARDS bonds, but their value is, probably, little less than 1% of overall portfolio.
My experience…
Yes, during those days, it did feel that I am missing the bus or I already missed the bus. I vividly remember many folks giving me advice that I should go for mutual funds or stocks. NSC is for old generation. It was really hard to keep myself grounded and remain focused. Admittedly, the biggest fear I had was, my NSC bonds are not growing at 30%+ like these folks keep talking about. Well, I stuck it out and did not get carried away in stock market euphoria.
Government bonds provide stability, keep my capital safe, keep up with WPI inflation, and provide solid foundation to my portfolio. A well constructed bond’s portfolio (or bond allocation) will provide a confidence, or spring board for taking long term equity risks. During downturns or when buying depressed shares, I do not get worried of losing my capital. What happens is; when an individual does not have a backup (or solid foundation), he/she tends to become conservative and misses the opportunities in downturns.
Portfolio without Bonds
It is my belief that a portfolio without good allocation to bonds looks like the image above. One collapse and your portfolio will crash. And the scars left behind will take time to heal. Bond allocation gives me a sense of security when making equity decisions. I know even if my equities went for a toss (or crashed) I have enough backup to sustain myself for few years with this loss. It allows me to sleep well at night.
Now I know, what my dad meant by, “learn how to keep it”. Those words still resonates in my ears. Thanks Dad.
bhavishya nirman bonds, bond allocation, bond products, bonds, government bonds, investing roadmap, NABARD, national savings certificate, NSC, personal portfolio management
Nice article,
if we consider 8% its not look attractive.but if we consider power of compounding i.e..interest on interest..in long term it will create good wealth. with peace of mind and confidence
Hi Chetan,
Very well said! “long term it will create good wealth with peace of mind and confidence”. Good way to put it.
Best Wishes,
Hi TIP Guy,
Wonderful article touching upon a very important topic.Though i have been investing for just 2 years i am heavily biased towards equity mainly tempted by the higher returns and as the markets were very attractive back in 2008 when i entered. I have time and again read about the importance of Debt in one’s portfolio but failed to act. I plan to act soon though and seriously consider debt instruments as the markets are also quite high
PS: Kindly remove the previous comment, it had an error
Hello Siddharth,
Yeah, it is a good time to allocate some cash for bonds. Assuming you looking for bonds allocation, what kind of vehicle are you planning? government bonds, corporate bonds (NCDs), or mutual funds?
Best Wishes,
Hi TIP Guy,
I think i shall stick to MFs as they allow me to own all the others and the returns are also good,what do u feel? Is it feasible for individual investors to buy bonds and whats the advantage if any over MFs??
TIP Guy,
Good article; the story telling was very nice. You pressed all the right buttons. I was earmarking funds to invest in Govt. Bonds and was starting discussions with the family on this area.
Let’s see.
Best,
Surio.
–
P.S: Good to see you willing yourself to write as regularly as you can. Servies as motivation for others to ‘keep our nose to the grindsone’. Thanks.
Hello Suresh,
Glad to know, you are also thinking on the same lines. I am sure will convince your folks. I think many folks understand the importance bonds or the role they play in your portfolio. This is the simple part. The challenge is to understand what is an optimum % based on individual’s risk profile. It is always, either too much, or too low.
I haven’t figured out a way to know what is optimum. What are your thoughts?
Best Wishes,
My mom still says me the pehle baat. I spend a lot and she keeps telling me that.
Anyways.. nice post Tipguy, Now the problem is i will have to start saving for Govt bonds too
. Its better to be safe than sorry.
Hello Vikrant,
I did the same, in my mid-twenties. So, you are not alone. But the point is, now you know what to do. Can you act on it?
Allocation for bonds. It won’t come in a flash, or sudden drop-in. Savings for bonds (or for anything else) is a process. Even if you can allocate 10K-15K per year to bonds, then in 5 years time you will have a sizable amount. After that you do not have to allocate (or save) for bonds. All you have to do is re-invest.
Best Wishes,
Tip guy,
Do you consider PF as part of your folio? And what do you think about PF as investment?
I am asking this question cause i just started contributing more towards my PF using VPF.
Hello Vikrant,
Great question! Simple answer, ignore PF in calculating overall folio. Because, as an individual you do not have any control over it. The reason you should continue your PF is because; companies also add to your account, an amount equivalent to your contribution. It is a free money, why leave it? AND government pays interest very similar to saving rate (@8.0 to 8.5%). I do not know the exact %.
Regarding VPF — not sure if this is good avenue, this is equivalent to putting money in bank FDs. Because companies do not contribute for this portion (you should check). There is a tendency for people to withdraw money from PF accounts for some personal expenses. Diverting this to government bonds will help lock this down – not available to you. In terms of returns, I would tend to think they are similar for VPF or bonds.
My suggestion, check on VPF and compare them with bonds? Figure out what is good for you.
Best Wishes,
Best Wishes,
First, I do not understand why you would chase govern bonds at 8%. you seem to be much better at investing in equities. But most likely driven by risk avoidance or being conservative. your approach seems to be spot on for returns.
Second, PFs get around 8.5%, so aren’t they 0.5% better than NSCs. over long term you would have better compounded returns. Isn’t it?
thanks
DS
Hey DS,
on first question, yes, it is more for risk avoidance.
on second question, I am not sure it that is entirely true. PFs/NSC/other government bonds, are in the range of 8.0 to 8.5%. Yes, they vary a tad here an there, but I do not have exact % number. Plus, remember, I already made this investments. I do not allocate any more to bonds. All I do is re-investment. PFs are good if you are allocating on continuous basis (something similar to SIP).
Best Wishes,
How do you see PPF?
Hi,
One might also want to look at corporate FDs of wonderful companies. e.g. Hawkins had come out with a 12% FD last year.
Of cors, one needs to do proper study of the cash flows of the company to ascertain whether the company can earn enough cash to pay you the principal and interest!
Corporate FDs are unsecured and carry higher risk..of cors, they also carry higher reward!
Cheers!
Neeraj
Hello Neeraj,
yeah, corporate bonds are also good vehicle for BONDs. That’s what I meant by NCDs. On a personal note, I have not used corporate bonds, yet. I have restricted myself to government bonds. In addition, I have already prepared a baseline with bonds, so I do not allocate to bonds anymore. In future when I am ready to allocate more, may be yes, I will look into corporate bonds.
Best Wishes,
Of course, debt allocation is required.
But instead of NSC, where interest is taxable, one should go for PPF for long term, where interest is not taxable and in both cases your capital is safe.
Post-tax returns are better for PPF than NSC.
Also you can withdraw some amount from PPF, if required, after 6 years.
Hello Anand,
I have a different viewpoint. (1) PPF gets compounded annually, while NSC gets compounded half yearly. (2) I do not expect PPF withdrawals to remain tax free. In few years, it will get taxed. While past contributions will not be affected, but future contributions will get taxed on withdrawal.
Good thoughts, but I guess, you missed the details.
Best Wishes,
I came across your blog few months back and I am regularly following it. Thanks for this content which educates and stimulates lay persons like me.
I have accumulated substantial amount in my PPF account that I have been maintaining for the last 25 years and retirement is still 10 years away. What one should do after the new tax code is implemented next year?