Key Risks to Consider Before Investing in PSU Bonds

Public Sector Undertaking (PSU) bonds are a popular investment option among investors seeking steady returns with low risk. PSU bonds are issued by government-owned companies, making them a secure investment option. However, before investing in PSU bonds, investors must be aware of the key risks associated with them. In this blog, we’ll discuss the key risks to consider before investing in PSU bonds.

Credit Risk

Credit risk is the risk of default by the issuer of the bond. Although PSU bonds are considered low-risk investments due to the backing of the government, there is still a chance that the PSU may default on its debt obligations. In such cases, investors may lose their entire investment. It’s essential to check the credit rating of the PSU before investing in its bonds. Credit rating agencies such as CRISIL, ICRA, and CARE rate PSU bonds based on their creditworthiness. Higher credit ratings indicate lower default risk, and lower credit ratings indicate higher default risk.

Interest Rate Risk

Interest rate risk is the risk of a decline in the value of the bond due to a rise in interest rates. PSU bonds have a fixed interest rate, which is determined at the time of issuance. In an environment of rising interest rates, PSU bonds may become less attractive to investors as other investment options may offer higher returns. As a result, the demand for PSU bonds may decline, leading to a decline in their prices.

Inflation Risk

TInflation risk is the risk that the returns from the bond may not keep up with inflation. Inflation erodes the purchasing power of the interest income earned on bonds. As a result, in an environment of high inflation, PSU bonds may become less attractive to investors as the real rate of return on bonds may be lower. To offset the impact of inflation, PSU bonds may offer higher interest rates, which may make them more attractive to investors.

Liquidity Risk

Liquidity risk is the risk of not being able to sell the bond when needed. PSU bonds are traded on the stock exchanges, but they may not have high trading volumes, making it difficult to see the bond when needed. It’s essential to consider the liquidity of the bond before investing in it.

Reinvestment Risk

Reinvestment risk is the risk of not being able to reinvest the interest income earned on the bond at the same rate. In an environment of declining interest rates, investors may not be able to reinvest the interest income earned on the bond at the same rate, leading to a decline in the overall returns.

Market Risk

The Market risk is the risk of a decline in the value of the bond due to factors such as economic conditions, political events, and global events. Market risk is beyond the control of the investor, and it’s essential to consider the potential impact of market risk on the investment.

Conclusion

PSU bonds are considered low-risk investments due to the backing of the government. However, investors must be aware of the key risks associated with investing in PSU bonds, including credit risk, interest rate risk, inflation risk, liquidity risk, reinvestment risk, and market risk. It’s essential to consider these risks before making an investment decision and to ensure that the investment aligns with your investment goals and risk tolerance. A financial advisor can help you make an informed investment decision and ensure that your investment portfolio is
diversified and aligned with your financial goals.