Is it a good time to invest in RBI Floating Rate Savings Bonds?

RBI’s Floating Rate Savings Bonds have a sovereign guarantee with almost no credit risk.

Investors in the RBI’s Floating Rate Savings Bonds (FRSBs) can benefit from rates in excess of 8 percent if there are no further changes in the interest earned on small savings schemes in the next couple of months.

Over the past year, returns in general from various debt instruments have increased as the Reserve Bank of India has been hiking the policy repo rate.

Rates to cross 8% soon

FRSBs have a sovereign guarantee with almost no credit risk. Like many other government schemes, interest rates on these bonds are not fixed. They are pegged to those of the National Savings Certificate (NSC) and are typically 35 basis points higher. And, while NSC rates are reviewed quarterly, the bond rates are reviewed and change half-yearly.

The floating bond rates were increased to 7.35 percent at the reset in December 2022. At that time, NSC rates were 7 percent, so adding the 35 basis points spread, FRSB rates were set at 7.35 percent for January-June 2023.

In April, the NSC rate was hiked to 7.70 percent. When the FRSB rates come up for review in July, they are set to be increased to 8.05 percent for the July-December period, taking into account the addition of 35 basis points to the latest NSC rate of 7.70 percent.

Worth investing in FRSBs?

The figure of 8 percent is a sort of psychological level when returns from debt instruments turn attractive for most investors in India. While the Senior Citizen Savings Scheme rate is now 8.2 percent, there are no options for non-senior citizens offering 8 percent or more in debt, excluding the Employees Provident Fund, which is mandatory for salaried people and unavailable to others.

Even as FRSB rates are set to cross 8 percent, one should not forget that these are called floating rate bonds for a reason – the rates are not fixed. The rates of these bonds are reset every six months. So even though the bond tenure is seven years, you don’t get to lock-in the rate and get fixed interest for the entire duration.

If bond rates are rising now, it is highly likely they will fall at some point in their seven-year tenure. Any decision to invest in FRSB should not be taken on the basis of current interest rates, which are applicable only for the next six months. One should also consider how rates might change in the future and the alternatives are available for investors.

NSC rates are generally 25 basis points higher than the average five-year G-Sec market yields. But the government may not necessarily set the rates based on this formula. So, if NSC rates aren’t revised upwards or are cut, then FRSB rates will move accordingly with a 35 basis point spread.

From FY18 to FY23, NSC rates have moved in a range of 6.80 percent to 8 percent.

So, what should investors do?

A few points to keep in mind:

Interest income from FRSB is fully taxable. So, this is useful for those in lower tax brackets.

There is no cumulative option for these bonds, so it may not work for those in the accumulation phase and looking for suitable debt options.
Senior citizens have better options with the Senior Citizen Savings Scheme (8.2 percent rate locked in for five years) and the Pradhan Mantri Vaya Vandana Yojana (if invested before March 31, 2023, with a rate lock-in of 10 years). Once PMVVY and SCSS options are exhausted along with the Post Office Monthly Income Scheme, only then should FRSBs be considered.
For non-senior citizens, FRSB can be an option in addition to POMIS, as the FRSB interest is paid semi-annually – in January and July each year.

Disclaimer - The views expressed above should not be considered professional investment advice or advertisement or otherwise. No specific product/service recommendations have been made and the article itself is for general educational purposes only. The readers are requested to take into consideration all the risk factors including their financial condition, suitability to risk-return profile and the likes and take professional investment advice before investing.