Surge in adoption of zero coupon bonds by insurance companies to meet diversification need

A surge has been noticed in the adoption of Separate Trading of Registered Interest and Principle of Securities (STRIPS) or zero coupon bonds by insurance companies in India. This growth has been spurred by the increased collection of insurance premiums and the need for diversification and managing asset-liability mismatches.

STRIPS, allows bond dealers to break apart, or "strip" the principal payment and coupon rates, selling them separately to investors who want a known income on a fixed date. Insurance companies have upped their purchase of these securities from foreign and private banks in the past few weeks, lifting overall volume, according to a Reuters report.

Insurance companies are seeking long-term investment options to align with the average lifespan of individuals and their payout obligations, which typically span 20-30 years.

"STRIPS offer an effective investment strategy for insurance companies, providing them with maturity periods beyond 10 years. The market has responded positively, with insurance companies investing approximately Rs 380 million in STRIPS in 2020, which escalated to a staggering Rs 1.4 lakh crore in 2023, reflecting a compounded annual growth rate of around 50 percent," said Abhijit Roy, CEO at GoldenPi, an online bond buying platform.

Moreover, it is not just government securities that are attracting investments through viable STRIPS routes. Non-Banking Financial Companies (NBFCs) are also raising funds using zero coupon bonds, albeit with shorter durations ranging from 2-4 years.

"The appeal of zero coupon bonds for NBFCs lies in improved cash management, as they only need to make payments upon bond termination, avoiding continuous cash outflows. Given these factors, we firmly believe that the STRIPS market, or the zero coupon bond market, will continue to thrive in India. The potential for further growth is evident, as insurance companies and NBFCs alike recognize the benefits of these instruments in meeting their long-term investment and cash management needs," Roy said.