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What new investment products that can be expected from the Union Budget

05 Jan 2023

In India there are broadly three kinds of investment products. There are products that have been permitted and popular. Equity trading, bonds and mutual funds will fall under this category. Then there are products like REITS, InvITs that are permitted but not yet full popular. They are yet to take off due to reasons like regulatory worries, liquidity challenges etc. Then there are products that are not yet introduced in India. Let us focus on products that could get a boost in the coming Union Budget.

Separate tradable interest and principal securities (STRIP)
These products have been around in the world for a very long time. Bond markets have been asking for the introduction of this product for a long time. What exactly are STRIPS? It involves stripping the interest and the principal component of debt into separate components. So if a bond pays 8% interest for 3 years, then each of the interest tranche can be stripped into 3 separate instruments and the principal can become another instrument. Investors can buy any of these stripped products giving much greater liquidity to the bond markets. This is also common used in deep discount bonds since these bonds do not pay intermediate payments. You can get the interest component funded through STRIPs. The government may look at this product to give greater breadth and depth to the bond markets.

Treasury Inflation Protected Securities (TIPS)
This is again a product that is quite common in other countries where investors need to protect themselves against inflation. The TIPs is like an inflation indexed bond where the return on the bond varies with the rate of inflation, which is reset on a periodic basis. This is useful for investors who want to hive off their inflation risk into a separate product. For the government this could be a useful product to raise funds at a time when inflation rate is quite low but uncertainties over the future remain. This is again an expectation in the forthcoming Interim Budget.

Swaps are a trillion dollar market globally but in India it is hardly existent. Let us first understand what is meant by Swaps? As the very word swap suggests, it involves an exchange. The swap market basically creates a secondary market for such exchange and is one of the popular derivative products in the global derivative market apart from futures and options. Swaps entail the exchange a series of cash flows for a different set of cash flows. For example, if I have invested in a fixed rate bond, I can swap it for the cash flows of a variable rate bond. This way, I would benefit if the bond yields were to go up. Similarly, one can also swap on currencies. You can swap dollar receipts or payments for euro receipts or payments based on your view of the currencies. There is yet to be a regulatory framework for his product but this budget is expected to make a stat on this front.

Catastrophe bonds (linked to events)
We have seen in the past that when earthquakes or floods strike parts of India, the damage is huge and the insurance companies end up footing huge bills. Insurance companies have been asking for permission to issue these Catastrophe bonds that are quite popular in the developed world. The insurance company basically hives off some of its event risk through these catastrophe bonds. Investors look at probabilistic high yields can invest in these instruments.

Leveraged and Reverse ETFs
ETFs are already quite popular, especially the ETFs on the index and on specific commodities like gold. Exchanged traded funds (ETFs) are a closed ended fund that is listed on the exchanges. Currently, leveraged ETFs are not permitted. In a leveraged ETF, the ETF is also permitted to borrow and leverage its position to a multiple of its actual position through the use of futures and options. Of course, this is a high risk strategy and will have to be adopted carefully. Reverse ETFs are a different ball game. You can buy ETFs if you are positive on the index but what if you are negative on the index? The answer is you can buy a reverse ETF. These are slightly high-risk products and the government may want to exercise some caution. But we could get a direction in this budget.

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