Inflation - Indexed Bonds will not provide liquidity

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The good part about the Reserve Bank of India's (RBI) Consumer Price Index (CPI) linked bonds: The rate of interest will be a good 150 basis point above the rate of CPI and will be compounded twice a year. Also, investors will be allowed to put in as much as ₹ 5 lakh. Given the final CPI (2010 base= 100) was 10.09 in October, the applicable rate of interest will be 11.6 per cent. The bad part: There will be no tax benefit and low liquidity. Once the product is redeemed, there will be a tax of 10 per cent without indexation and 20 per cent with indexation ( tax rate on debt instruments after one year). There will be another blow: The central bank has made the exit route even harder by allowing retail investors to exit only after three years and that too, with apenalty of 50 per cent of the last couponThis product is a much improved one than the earlier version, but there will be liquidity issues with it. The real problem lies with the definition of senior citizens. The RBI circular will allow senior citizens to exit after one year but only if they are aged 65 years and above. In other words, the anomaly that was removed in the Budget 2012 by lowering the age of senior citizen to 60 years from 65 years for tax benefits has been reintroduced for this particular instrument by the central bank. Also, one will not be able to exit whenever they want to. The redemptions will only be allowed on coupon dates. Of course, this product will be much better than the earlier version —the Wholesale Price Index (WPI) linked bonds. And in circumstances when the difference between CPI and WPI has been a good four- five per cent, retail investors weren't gaining much. However, even with this relief, retail investors who have a surplus that they will not want to withdraw in the next few years should invest in these bonds. Also, given that the rate of interest will be floating in nature, many might want to look at products that give fixed returns. Once the product is redeemed, there will be a tax of 10 per cent without indexation and 20 per cent with indexation ( tax rate on debt instruments after one year)

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