Will Zero Coupon Bonds Make a Comeback This Year?

Mumbai, Aug 11

Not the CBDT-notified, tax-exempt versions… but plain-vanilla Zero Coupon Bonds (Non-CBDT) are showing bright possibilities in the Indian corporate bond market.

With the current low interest rate regime, issuers may increasingly consider ZCBs as a way to ease short-term liquidity constraints — no interim coupon payments mean more cash stays within the business until maturity.

For investors, the structure also helps reduce reinvestment risk, as returns are locked in until redemption.

Is it good or bad for investors? That depends.

Annual accrual-based taxation still applies, and credit and liquidity risks must be assessed carefully.

Talking to Bizz Buzz, Venkatakrishnan Srinivasan, founder and managing partner, Rockfort Fincap LLP, says, ‘This is why RBI’s push for a sinking fund facility is important — it ensures issuers set aside funds regularly to meet redemption obligations, strengthening investor comfort.”

Also, considering the current low interest rate regime, investors may prefer shorter-duration investments. As such, we are witnessing a huge supply of short-tenor issuances, which aligns well with ZCB structures in the near term, he said.

If AA-rated and above issuers offer short-term ZCBs with attractive yields, investor appetite could strengthen significantly, especially among provident and pension funds, treasuries, insurers, and AIFs.

Zero Coupon bonds are set for a limited but notable resurgence in India in 2025, driven primarily by Government Policy Initiatives and the funding needs of state-run institutions, but the broader market environment and investor demand remain challenging.

NABARD has recently been granted Government approval to raise 19500 crores via deep discount Zero-Coupon bonds with maturities stretching to March 2027. These instruments are specifically designed to support long-gestation rural infrastructure projects and have received regulatory carve outs to make them more attractive to institutional investors.

Several central Government backed entities, including REC have been authorised to issue Zero-Coupon bonds over the next two years with approvals in place for substantial through March -2027. This shows a clear intention from policymakers to use ZCBs as a funding tool for large infrastructural needs. Despite Governmental support, recent Zero-Coupon bond issued - including those by PFC (Power Finance Corporation) - have struggled due to tepid investor interest and heightened yield expectations. For eg, PFC's June-2025 deep-discount bond issue failed to garner sufficient bids and was subsequently withdrawn. Several state-run issuers have delayed or cancelled their planned ZCB offerings after lacklustre market feedback.

Oversupply and Yield pressure: Bond arrangers and bankers report that the supply of such instruments is high given large Government fundraising plans while the appetite - especially from mutual funds and insurance companies - remains muted as yields climb and alternative products become more attractive. Market Environment: The pick-up in yields on benchmark corporate and Government bonds (with 10-year yields trending above 6.25%) and uncertain geo-political developments have further dampened demand for Zero-Coupon structures, which are highly sensitive to interest rate changes. Anil Kumar Bhansali, head of treasury and executive director, Finrex Treasury Advisors, says, “Zero-Coupon bonds will remain a significant fund-raising tool for large Government backed entities through at least 2027, mainly supported by regulatory exemptions and fiscal priorities. Institutional participation could increase if yields offered become more attractive and if broader rate stability.” returns.

The general revival or comeback of Zero-Coupon bonds in the secondary and private-issuer market is uncertain. Most merchant bankers still advise caution, highlighting that current demand is not strong enough for widespread adoption beyond Government and select PSUs, he said.

While Zero-Coupon bonds will be increasingly seen in the Indian debt market headlines this year-Mainly from NABARD, REC and a handful of other Government entities - the overall investor appetite remains hesitant, and a broad-based resurgence is unlikely without more favourable market conditions or higher yields. Their issuance is expected to remain concentrated in the state-backed infrastructure and public sector space, rather than as a mass trend in the corporate bond segment.

The Sinking fund facility is a critical regulatory safeguard embedded in the India Zero Coupon bond landscape. It assures investors and institutional participants of timely repayment and maintains the integrity of the Indian Debt market.

EoM.