Investing in Government Securities. What You Need to Know

Bonds are units of debt issued by the companies/government and traded like shares.

You have probably seen a page in the dailies regularly informing interested investors about an upcoming Treasury Bill or Treasury Bond Auctions.

Secondly, you might have seen another page with Treasury Bills or Treasury Bonds Auction results and asked yourself what Treasury bonds or Treasury Bills are. I will try and answer this in as few words as possible.

Treasury bills are short-term instruments issued by the Government with maturity periods ranging from 91 days for the shortest to 364 days for the longest. In between, we have the 182-day Treasury Bill (91,182 ad 364).

Treasury Bills are sold at a discount, for example, a Kshs 100,000 face value Treasury Bill may be sold at Kshs 95,000 and at the end of the investment duration you will get back in full the Kshs 100,000 you had previously invested. ( subject to a 15% withholding tax).

A bond is a loan (to put it simply). The bond issuer (it can be a Government, Corporate or any other entity) borrows a sum of money and promises the investors an agreed return at prescribed interval rates.

Breaking it down further, when an investor purchases a bond, they pay an upfront amount as an initial investment called the principal. When the bond expires depending on the duration it was for, the investor gets back his or her initial principal. The date when this amount is returned is the maturity date.

 A long-term bond fetches better interest rates (returns to an investor) than a short-term bond although the long-term interest rates suffer the most from fluctuating interest rates which may from time to time affect the price of the bond in the secondary market.

Why raise capital via a bond?

Companies issue bonds because they are less expensive than bank loans or equity capital. Over and above the cost-benefit:                                  

  • The institution has the advantage of scheduling the maturity of the bond and can make the bond more long-term e.g., 7 years than what a bank would offer (typically 5 years).
  • The company also retains full control of its operations by retaining full ownership of the Company as they give up no equity.
  • Bonds allow for customization, along with the convenience of predetermined coupon/interest payment dates in the case of a fixed bond. 

As long as they can find investors, governments and companies will keep issuing bonds. On the flip side, the companies must make consistent earnings to enable them to repay interest and principal to investors or risk losing face with investors.

The Kenyan capital market offers both Corporate bonds and treasury bonds in the primary and secondary markets.

The primary market is where companies or governments issue new debt. For treasury bonds, your bid is accepted by the central bank while for a company the issuing company appoints brokers who sell the bond. The secondary market has many players and Investors can buy and sell any bond/bill previously issued

Types of bonds

Bonds offer easy diversification, along with the convenience of a predetermined coupon payment in the case of a fixed bond. 

Fixed bond

Represents most of the treasury bonds issued. A fixed bond pays a predetermined coupon, semi-annually throughout the life of the bond.

Infrastructure bond

As the name suggests the funds raised from the bond are allocated to specific infrastructure projects. It is quite attractive to investors because the interest it pays is exempt from withholding tax which is 15% or 10% of all the interest earned from any other bond (both treasury and corporate).

A popular infrastructure bond is the M-Akiba which raises funds for infrastructural development through the mobile phone and seeks to enhance financial inclusion. 

Zero-coupon bonds

Treasury bills and zero-coupon bonds pay no interest during their tenure but are issued at a discount and redeemed at market value/Par by the government or issue. Centum Re issued secured zero-coupon and secured zero-coupon equity-linked medium-term notes of Ksh4 billions maturing in 2023.

Corporate bonds

Corporate bonds are issued by companies to raise capital for their operations or expansion projects. There have been 16 Corporate bonds issued at the NSE and one green bond by the real estate developer: Acorn Holdings. The most recent bond was issued by Centum capital to fund the completion of their ongoing real estate projects.

The additional premium paid to investors reflects on the company’s rating by credit rating agencies.

Safaricom, Centum are among the companies that have issued bonds at the NSE; corporate bonds, unlike government bonds, have a risk of default hence they pay higher yields to reflect their greater risk. 

The premium for this default risk has increased in the Kenyan market since Investors appetite for these bonds has been on the decline after some companies sunk before repaying their obligations: Chase bank, Nakumatt, Imperial bank and Athi River mining. This means 4 out of the 17 bonds issued by companies ended up in total losses for the investors. Bonds are not secured.

First published on People Pennies.

Kasiva Mutisya, is  Finance and Investment Analyst. Follow on Twitter 

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