Tag: reserve bank of india

In investing, as in life, it is useful to learn from other people’s mistakes. Some retail investors lost big money in Yes Bank’s Additional Tier 1 (AT-1) bonds last year, after Reserve Bank of India decided to write them off as part of a bailout package. But how did safety-seeking depositors in Yes Bank end up owning these risky bonds where the principal could get written off? SEBI’s order in this case offers some learnings on how you can avoid falling victim to mis-selling.

Get it in writing

In their complaints, the 11 investors said that it was the attractive pitches from their bank’s wealth managers that convinced them to buy the bonds. Some were told that AT-1 bonds were ‘super FDs’. Others swallowed the claim that they were ‘safer than Yes Bank FDs and equity shares.’ Some investors even thought they were merely renewing their FDs with the bank at a higher rate.

Given that none of the above statements were true, it is unlikely that the bank’s relationship managers made these claims in writing to the investors. They were simply taken in by verbal sales pitches.

While selling AT-1 bonds, bank managers were mandatorily required to share two documents with investors – an information memorandum and a term sheet. Asked by SEBI why they didn’t do so in this case, they either claimed that they did, or argued that investors ought to have checked these documents for themselves from the BSE website where they are posted.

Most of us are in the habit of investing in financial products based merely on an application form. The Yes Bank case shows just how injurious this can be to our wealth. Today, no financial product can be sold to you without a formal offer document, information memorandum, term sheet or prospectus. If you’re given only an application form, don’t hesitate to ask for and get hold of these additional documents.

The depositor isn’t king

SEBI’s findings show that of the 1,346 individuals who invested in the AT-1 bonds through Yes Bank, 1,311 (97 per cent) were Yes Bank’s own customers. Of these 1,311 customers, 277 prematurely broke their FDs to invest. Going by the amounts of ₹5 lakh to ₹80 lakh that these folks individually invested, wealth managers targeted the bank’s big-ticket depositors to down-sell these bonds.

While you may wonder why a bank’s staff should wean customers away from its own deposit products, this isn’t surprising.

Bank relationship managers in India have a long history of pitching all kinds of risky products to their customers from ULIPs to balanced equity funds to NCDs as fixed deposit substitutes. While they don’t receive any direct commission from such sales, their compensation packages are often linked to how much fee income they generate for the bank from selling exotic products.

So, the next time your bank’s relationship manager sounds as if he or she is doing you a favour by asking you to switch money out of your FD into an exciting new ‘opportunity’, be sceptical.

High returns equal high risk

Investors who are super-careful about avoiding capital losses in equities often turn far less vigilant when it comes to fixed income. The moment a wealth manager or distributor mentions a higher interest rate product, they’re quite eager to switch to make the switch. But the correlation between high returns and capital losses is actually higher with debt instruments than it is with stocks.

In fixed income, if a borrower is willing to offer you a huge rate premium over safe instruments, it is usually a warning sign that they are more likely to delay or default on repayments. Yes Bank’s AT-1 bond investors should have questioned why the same issuer (Yes Bank) should offer its bond investors much higher interest than it does its depositors. The answer quite simply is that AT-1 bonds can skip their interest payouts completely or write off principal, if the bank’s financials are stressed.

An argument that wealth managers used to sell AT-1 bonds to individuals was that they were sound investments, as they were already owned by institutions. This is a poor argument, as risk appetite and return expectation of a retail investor is seldom the same as that of an institutional investor. Institutions that held those bonds probably invested a minuscule portion of their portfolios while HNIs took concentrated exposures.