Chapter 04 · Currencies, commodities, and government bonds
Government securities for a retail reader
A government security is a bond issued by the sovereign. In rupees, for an Indian reader, that means the Government of India or a state government, not a vague ‘safe asset’ from a global headline. This chapter explains how a retail reader actually meets these bonds, and which risks remain after the credit risk is small.
What is small, and what is not
The chance that the Government of India fails to pay a rupee obligation is the smallest credit risk in the rupee market. It is not zero in the sense of a law of physics, and it is the wrong comparison for a dollar obligation of the same government, which is a different promise. Once credit is set aside, interest-rate risk remains in full. A long government bond can fall in market price during the life of the bond by enough to surprise someone who thought ‘government’ meant ‘cannot lose money’. You lose money if you sell at that lower price. You do not lose the coupons if you hold to maturity and the promise is kept.
Where a retail reader meets them
Direct ownership is possible through the channels the Reserve Bank has opened for retail investors, and through brokers who deal in the negotiated market. Indirect ownership is more common: a debt mutual fund, a gilt fund, an insurance product, the government-security allocation inside the National Pension System, or a bank that itself holds the bonds and pays you a deposit rate. In the indirect cases you do not hold the bond. You hold a claim on an institution that holds bonds, with that institution’s costs, rules, and, in a deposit, a different risk entirely. A bank deposit is not a government bond. A gilt fund is not a fixed deposit. The fund’s price will move when yields move.
Treasury bills versus a long bond
| Instrument | You are promised | The risk that remains |
|---|---|---|
| Treasury bill, a few months | A known discount, redeemed at face if held to maturity | Little rate risk if you truly hold to maturity. Reinvestment risk: the next bill may pay less. |
| A 15-year government bond | Coupons and face value at the end, if you hold it | A large price swing in between. Fine if you do not need to sell. Painful if you do. |
| A gilt fund with a long portfolio | No promised return | The fund’s price follows the bonds. A bad yield year shows up in the NAV even though no bond defaulted. |
How to read a yield you are offered
Compare a government yield with other government yields of a similar maturity, not with an equity return and not with a company’s deposit scheme. A 7% government yield and a historical equity return are not alternatives on the same axis. One is a contractual coupon path, exposed to rates if you sell early. The other is ownership of businesses, exposed to those businesses. Use the government yield as the rate you give up in order to take the business risk, not as a rival that equities are supposed to beat every year.
What to remember
- Rupee government securities have small credit risk and ordinary, sometimes large, interest-rate risk.
- You only avoid the price risk by holding to maturity. A sale in between is at the market’s yield, not at your cost.
- A gilt fund, an NPS allocation, and a bank deposit are three different claims.
- Treasury bills and long bonds do not belong in the same mental bucket just because both are ‘government’.
- Compare the yield with other government yields of a similar life, then decide whether the extra risk elsewhere is paid.