Rising Popularity of RBI’s Floating Rate Bonds (FRBs) Amid Shifting Investment Trends

Why in the News?

RBI’s Floating Rate Bonds (FRBs) have recently seen a surge in investor demand, as individuals move away from equities, gold, and traditional bank deposits toward safer, government-backed instruments offering higher and market-linked returns.

The sharp increase in demand is mainly due to the attractive interest payout, which is currently pegged to the National Savings Certificate (NSC) rate + 35 basis points (bps).

Background

• India introduced Floating Rate Bonds in 1995 to diversify government borrowing instruments.
• They gained prominence after the government withdrew 7.75% Savings (Taxable) Bonds in 2020, introducing a retail-friendly FRB variant.
• A rising interest-rate environment has made FRBs particularly attractive because their coupon adjusts automatically with benchmark rates, reducing interest-rate risk.
• Global trends show increased investor preference for inflation- and interest-linked securities during times of economic uncertainty.

What are RBI’s Floating Rate Bonds (FRBs)?

About

• FRBs are government securities whose coupon rate varies periodically instead of remaining fixed.
• The coupon is reset at pre-announced intervals (usually every 6 months or 1 year).
• Designed to provide protection against interest-rate volatility.

Eligibility

• Available to:
  • Individuals (single/joint)
  • Hindu Undivided Families (HUFs)
• Not available to NRIs, even on a repatriation/non-repatriation basis.

Interest Rate Mechanism

• The coupon rate is linked to a market benchmark, commonly:
  • The average yield of three recent 182-day T-Bill auctions, or
  • A base rate + fixed spread determined through auction.
• For retail FRBs, the coupon is linked to the NSC rate + 35 bps.
• As interest rates rise, FRB returns rise automatically, unlike fixed-rate bonds.

Significance

• Protects investors from interest-rate risk and enhances portfolio stability.
• Acts as a diversification tool for investors with heavy exposure to fixed-income products.
• Offers sovereign guarantee, making it a risk-free investment option.

National Savings Certificate (NSC) Scheme

About

The NSC Scheme, run by the Department of Economic Affairs (Ministry of Finance), aims to promote small savings and long-term financial discipline among citizens.

Features

• Tenure: 5-year maturity
• Interest Rate: 7.7% compounded annually (subject to quarterly revisions)
• Eligibility:
  • Resident Indians
  • Guardians for minors (above 10 years) or individuals of unsound mind
• Deposit Limits:
  • Minimum: ₹1,000
  • No maximum limit
  • Multiple accounts allowed

Additional Benefits

• NSCs can be pledged as security for bank loans.
• Absence of a deposit ceiling makes it ideal for large long-term savings.
  

Why Are FRBs Trending Now?

• Interest rates globally—and in India—have been rising.
• Investors prefer instruments that adjust to market conditions.
• FRBs offer higher returns without market volatility, unlike equity or gold.

Economic Significance

• Supports the government’s market-based borrowing strategy.
• Helps deepen India’s bond market.
• Encourages a culture of safe, long-term retail investment.
• Aligns with financial inclusion initiatives.

Potential Concerns

• Returns fall if interest rates decline.
• Limited liquidity compared to market-traded bonds.
• Not tax-advantaged like certain small savings schemes.