5 Reasons Why You Should Include Debt Instruments In Your Portfolio
Any smart investor would know the relevance of including debt instruments in one’s portfolio. This not only helps in diversification but a healthy mix of equity and debt in one’s portfolio helps beat inflation, manage risk and earn optimum returns.
As per the Securities Industry and Financial Markets Association (SIFMA), the global bond market at the end of 2023 was worth $140.7 trillion, outpacing the global equity market cap, which stood at $115 trillion. The difference is testament to the importance of debt instruments and their potential benefits to an investor.
India, however, has a different tale to tell. The market cap of its equity market is about $5 trillion, while the bond market is lagging behind at $2.5 trillion.
Nonetheless, regulators are working hard to develop the bond market in India, including reducing the face value for corporate bonds, introduction of request-for-quote (RFQ) platforms, launch of the Electronic Bidding Platform and more. You can read more about the regulatory changes that have made investment in corporate bonds more attractive here.
This article will look at some popular debt instruments, their benefits and why you should include them in your portfolio. But first, we look at some of the fundamental differences between equity and debt instruments.
Equity Vs Debt
Equity and debt investment options differ on multiple fronts:
Debt-Based Financial Instruments | Equity-Based Financial Instruments | |
Definition | It is a loan that an entity takes from the investors with the promise of returning the principal and the pre-determined interest at the end of a pre-determined tenure. | It is an instrument that gives the investor some ownership in the company depending on the amount invested. |
Includes | They include corporate bonds, SDIs, FDs. | They include stocks and equity mutual funds. |
Payout | Generally pays you an interest at a pre-determined time. | Generally pays you a dividend or provides capital gains. |
Stability | Relatively stable owing to their fixed rate of interests. | Subject to market volatility and comparatively riskier. |
Debt Market In India: An Overview
The debt market in India has seen rapid growth in the last few years, driven by both institutional and retail participation.
Data from the National Securities Depository Ltd. (NSDL) shows that foreign portfolio investors (FPIs) made a net investment of INR 121,059 cr in the Indian debt market in FY24, highest since FY151. In addition to this, a CRISIL report suggests that the corporate bond market in India is expected to grow as big as INR 65-70 lakh crore by March 2025, driven by innovation, access to foreign capital and favourable regulatory reforms.
The debt market in India offers a plethora of investment opportunities to choose from.
1. Bonds: These are debt instruments issued by government bodies or corporations to fund development and growth projects.
2. Debentures: These are similar to bonds but are not backed by collateral.
3. FDs: This is an investment option provided by banks/NBFCs where you invest a lumpsum for a fixed tenure at a fixed rate of interest.
4. NSCs: The National Savings Certificate (NSC) is a fixed-income investment scheme offered by the post office.
5. Government Securities: These are investment products issued by both the central and state government in the form of bonds, treasury bills, or notes to finance their fiscal needs.
Benefits Of Investing In Debt Instruments
1. Stability: Most debt instruments are non-market-linked fixed-income opportunities and therefore, are considered safer than equities that are subject to market risk. Even within the debt segment, government and municipal bonds offer greater security when compared to corporate bonds. However, investing in an investment grade opportunity will ensure that both your principal and interest is safeguarded. Pick an issuer with a higher credit rating, which lowers the risk of default.
2. Regular Stream of Income: Debt instruments, especially bonds, offer regular interest payments - these can be on a monthly, quarterly or annual basis. And at the end of the pre-determined tenure, you receive the principal amount invested.
Stocks, on the other hand, come with no such assurance. While only some stocks pay dividends, bonds ensure that you receive a timely payout.
3. Benefits of Diversification: Equities are linked to the stock market and are volatile. Debt instruments, on the other hand, offer fixed returns. Having a mix of two in your portfolio can help you navigate market crashes and dips and ensure a fixed income. The loss incurred in one asset can be offset by the gains made in the other.
4. Offering Across The Risk Reward Spectrum: Bonds come with varying degrees of risk and rewards. Pick an issuer and bond of your choice - one that aligns with your risk tolerance, financial capability and goals. Sign in today and pick an investment opportunity that best suits your needs.
5. Opportunity for Higher Yields: While historically equities have been giving higher returns, alternative investment options such as corporate bonds and SDIs are now offering yields as high as 14%. Similar returns with greater security make bonds an attractive investment option.
Conclusion
Like with any investment opportunity, debt instruments also come with their own set of risks. One must analyse the asset and issuer closely before investing in any of them.
Frequently Asked Questions About Debt Instruments
1. How do bonds protect against market volatility?
Being non-market-linked fixed-income instruments, debt instruments such as bonds help to protect your portfolio against market fluctuations.
2. How do interest rates affect bond prices?
Bond prices and yield are inversely related to each other. This means that when bond prices rise, the yield falls and vice versa. This is essentially because new bonds with higher interest rates will decrease the demand for older bonds, resulting in a fall in their price.
3. How much of my portfolio should be allocated to debt instruments?
This completely depends on your risk tolerance, financial capabilities and investment goals.
References
1. NSDL, Accessed from https://www.fpi.nsdl.co.in/web/Reports/Yearwise.aspx?RptType=5.
2. CRISIL, Accessed from https://www.crisil.com/en/home/newsroom/press-releases/2021/02/indian-corporate-bond-market-can-double-by-2025.html.
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Disclaimer: This communication does not constitute advice relating to investing or otherwise dealing in securities and is not an offer or solicitation for the purchase or sale of any securities. Grip Invest Technologies Private Limited ("Grip") is not registered with SEBI in any capacity and does not advise, encourage, or discourage its users to invest or not invest in any securities. Grip is solely an execution-only platform and does not guarantee or assure any return on investments made by you in any opportunities sourced by Grip and accepts no liability for consequences of any actions taken based on the information provided. Your investment is solely based on your judgement. Investments in debt securities are subject to risks. Read all the offer related documents carefully.
