What are Bank Bonds?
Banks execute the critical function of lending to institutions and individuals to facilitate cash flow within the financial system. To maintain liquidity, they need large amounts of capital. One way of raising money is through issuing bank bonds in India.
Banks are governed by strict and sound regulations under The Banking Regulation Act, 1949. Further, they come under the supervision and regulatory framework of the apex body i.e. Reserve Bank of India. Globally too, banks need to follow the Basel-III norms which is a worldwide regulatory framework that manages financial stress, maintains market discipline and controls capital adequacy. Over and above this, international or cross-border bank transactions are also governed by law – Foreign Exchange Management Act, 1999.
Since government agencies are constantly monitoring health of banks, it makes the banking sector one of the safest and most regulated sectors. Additionally, the government also owns a majority shareholding in large number of banks in India ensuring their safety in times of stress.
A notable feature of these bonds is that they offer higher returns than bank Fixed Deposit rates, meaning you’ll earn more returns on these bonds than on an FD issued by that same bank one invests in. Please read - Why your parents chose FDs and you may not want to
Bank Bonds and Seniority
Banks, like any company, need to raise money or capital for their business. Given their importance in the economy, they are regulated, need to maintain adequate cash reserves and adequate financial health ratios. Banks raise different types of capital depending on its cost and seniority. Regulators and rating agencies attach different rankings to this capital when calculating a bank’s financial strength.
Below is a table of different types of Bank Capital and their seniority (i.e., who gets paid first if a bank was to fall under stress).
Types of Bank Bonds
It is important to understand that there are different types of bank bonds and before investing in them, investors must understand their individual features as well as their seniority ranking. Please remember that all Bank Bonds are not the same. There are broadly three categories of these bonds:
A quick table below that compares the different types of Bank Bonds:
In brief, all Bank Bonds are not the same and it is important for investors to understand the structural differences between them. There is a reason why some bonds issued by the same bank pay more interest than others. In recent financial history of India, we have seen some Bank AT1s prepaid at par whilst others been written off too! Hence, knowledge is power. To know more and explore your investment options in these Bonds, you can view offerings from IndiaBonds here EXPLORE