Convertible Bonds in India: Meaning, Types & Key Benefits
Running a business is often about making decisions that offer stability now, while leaving room to grow in the future. As an investor, you might want the same from your portfolio, something that gives you regular income, but also keeps the door open for capital growth. That’s where convertible bonds can step in.
These hybrid financial instruments combine the steady cash flow of bonds with the upside potential of equity. If you’ve ever thought of balancing risk with opportunity while making strategic investment decisions, then understanding what are convertible bonds, their working, and benefits could be a smart move.
What Are Convertible Bonds in India?
Think of convertible bonds as contracts that give investors two pathways. On one hand, they offer fixed returns like a typical bond, on the other, they give the option to convert into equity shares of the issuing company.
To put it simply, convertible bonds are debt securities that can be converted into a predetermined number of shares of the issuing company. These bonds come with a maturity date and periodic interest payments (called coupon payments). If the investor doesn’t choose to convert them into shares, they continue as regular bonds and pay back the face value at maturity.
However, if the investor believes the company’s stock price will rise significantly, they may choose to convert early. At that point, they exit the bond’s fixed-income nature and fully shift into equity.
Companies that issue these bonds often fall into the category of high-growth but lower-credit-rated businesses. Instead of raising funds through regular bonds (which may be costlier due to higher interest rates), they issue convertible bonds to attract investors with the potential upside of equity.
Platforms like Bondbazaar, where bonds can be both bought and sold at the click of a button, offer access to such instruments with no account opening or brokerage charges, making this investment even more appealing.
How Do Convertible Bonds Work?
Convertible bonds adapt according to market movements, and that’s what makes them strategic in nature. Here’s how they react in different business-like conditions:
When the Share Price Falls
Let’s say the issuing company’s stock isn’t performing well. In that case, the bond’s link to equity weakens, and it starts behaving more like a traditional bond. Investors will likely hold on to it for the promised interest payments and capital return.
There’s a term called the bond floor, which represents the bond’s intrinsic debt value, the minimum value it should trade at based on its coupon payments and maturity value. Even if the equity drops, this bond floor prevents the bond from losing too much value.
When the Share Price Rises
Now, imagine the company’s stock starts gaining traction. As the share price moves closer to the conversion price, the value at which the bond can be exchanged for shares, the bond becomes more attractive.
Once the share price crosses the conversion price, the value of the bond begins to mirror the stock’s upward movement. This gives investors the potential for equity-like gains, while still having the fallback of a bond if they choose not to convert.
Features of Convertible Bonds
Convertible bonds come with several technical features that define how they work. Let’s break them down:
Conversion Option
The most distinctive feature. Investors have the right (not the obligation) to convert the bond into shares at specific times, depending on pre-agreed terms.
Maturity Date
Typically ranging from 5 to 10 years, this is when the bond either converts or repays the principal amount if held till maturity.
Interest Payments
Regular income is paid through coupon payments, similar to what a business receives from regular clients, predictable and scheduled.
Conversion Price
The price at which the bond can be converted into equity. For example, if a ₹1,000 bond has a conversion ratio of 20, the conversion price is ₹50 (₹1,000 ÷ 20).
Conversion Ratio
This tells you how many shares one bond can be converted into. A conversion ratio of 20 means 20 shares per bond.
Call and Put Options
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Call Option (for the issuer): Allows the company to buy back the bond before maturity.
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Put Option (for the investor): Allows the bondholder to sell the bond back to the issuer at a preset price.
Types of Convertible Bonds
Just like different business models serve different customer segments, companies may issue various types of convertible bonds based on their goals and investor appetite:
1. Regular Convertible Bonds
These are the most common types. They give investors the flexibility to either hold the bond till maturity or convert it into shares if the company performs well.
For example, if a company’s stock is not gaining, the investor may choose to hold the bond and earn interest till maturity. But if the stock shoots up, they might convert and benefit from equity gains.
2. Mandatory Convertible Bonds
As the name suggests, conversion is not optional here, it automatically converts into shares on a predetermined date. Until that date, the bondholder receives regular interest payments. Investors may still convert earlier if they believe it’s the right time.
This is commonly used when a company wants to raise funds now, while planning for equity dilution in the future.
3. Reversible Convertible Bonds
This type gives power to the issuer. At maturity, the company decides whether to pay back in cash or convert into shares. It’s often used by firms that want the flexibility to manage their balance sheet efficiently based on future business conditions.
Benefits of Convertible Bonds
Convertible bonds offer a strategic middle ground for investors. You don’t have to choose between stability and growth, you can have both in one instrument. Here’s why they make a compelling choice:
1. Balance Between Income and Growth
They pay regular interest like traditional bonds, which is ideal for investors needing predictable returns. At the same time, they offer an equity conversion option, providing growth during bullish phases. It’s like having an income-focused business that can pivot into a growth-driven model if the market allows.
2. Minimal Risk
These are hybrid instruments. If equity markets drop, you still earn coupon payments and recover your capital at maturity. If the market rises, you can convert and enjoy equity-like gains. This balance reduces overall portfolio risk.
3. Portfolio Diversification
Convertible bonds blend the safety of fixed-income with the dynamism of stocks. Adding them to your portfolio is like adding a revenue stream to your business that can flex between high-stability and high-return modes depending on the market.
4. Upside During Growth
Investors can take advantage of stock rallies without fully committing to stock market volatility. When the issuing company thrives, convertible bonds allow participation without the stress of daily stock market movements.
5. Downside Protection
During downturns, the bond’s debt feature kicks in, protecting your capital. This is especially important for conservative investors who want equity exposure without high risk.
On Bondbazaar’s real-time trading platform, you can explore these options easily, with over 10,000 listed bonds, including convertible ones, across sectors and risk profiles. All bonds are held in demat form and interest or principal is paid directly into your account.
Convertible bonds aren’t just another investment tool, they’re a flexible and strategic choice that adapts to both market highs and lows. With fixed income security and potential for equity returns, they serve the dual needs of income and capital appreciation.
For investors who seek both protection and potential, convertible bonds could be the smart addition to your portfolio. Platforms like Bondbazaar, backed by industry experts and regulated by SEBI, make it simple and seamless to access these high-performance instruments, without hidden charges or complex processes.
Frequently Asked Questions
1. What is a convertible bond?
A convertible bond is a hybrid financial instrument that pays interest like a bond but gives the option to convert into equity shares of the issuing company.
2. Are convertible bonds safe?
Convertible bonds are relatively safer than stocks as they provide fixed returns and capital protection, but they carry more risk than traditional bonds due to market-linked equity exposure.
3. Who should invest in convertible bonds in India?
Investors looking for regular income with the potential for capital appreciation, especially during bull markets, can consider convertible bonds.
4. How do I buy convertible bonds in India?
You can buy convertible bonds through trusted online bond platforms like Bondbazaar, which offers real-time access, expert support, and zero brokerage.
5. Are convertible bonds taxable in India?
Yes, interest earned is taxed as per your income slab. Capital gains on conversion may be taxed depending on the holding period and current tax laws.