Negotiable Certificate of Deposit
Negotiable certificate of deposit (NCD) was introduced in 1961 by the First National City Bank of New York which is now known as Citibank. The instrument allowed the banks to raise funds that could be used for lending. The First National City Bank of New York loaned $10 million in government securities to a New York broker who agreed to accept trades in CD so this created a secondary market in which the NCDs could trade. Participants in the market for NCDs primarily comprise wealthy individuals and institutions such as corporations, insurance companies, mutual funds, and pension funds. Those seeking a return on cash in a low-risk and liquid investment the market attract such investors.
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What is a Negotiable Certificate of Deposit?
A negotiable certificate of deposit (NCD) is a certificate of deposit with a minimum face value of $100,000. It is also known as ‘Jumbo CD’. Though they are typically for $1 million or more. They are guaranteed by the bank and can be sold in a highly liquid secondary market but they cannot be converted into cash before maturity.
How Do NCDs Work?
Unlike a regular certificate of deposits (CD) an institution or wealthy individuals negotiate the terms of the CD with the bank. Once agreed upon and issued the bank will use the funds to invest or lend in order to earn a profitable net margin interest spread and pay the investor the agreed interest rate according to the terms of the CD. Due to their size, NCDs are bought by institutions and high net worth individuals to use it as a cash management tool for large amounts. The maturities for NCDs can be anywhere between two weeks and one year. Interest is paid at maturity or the NCD may be sold at a discount to face value and the full amount paid upon maturity.
Real-world example:
| Issuer | Kosamattam Finance Limited | |
| Issue Type | Secured and Unsecured Redeemable Non-Convertible Debentures | |
| Issue Period | Issue Opens: Monday, Nov 11, 2019 | |
| Issue Closes: Tuesday, Dec 10, 2019 | ||
| Coupon Rate | 10.71% p.a * | |
| Issue Size | Base Issue of Rs. 175 Crores with an option to retain oversubscription up to Rs. 175 Crores aggregating up to Rs.350 Crores. | |
| Face Value | Rs. 1,000 per NCD | |
| Minimum Application Size | 10 NCDs (Rs. 10,000) and in the multiple of One NCD thereafter | |
| Credit Rating | ‘IND BBB’ Outlook Stable, by India Rating & Research Private Limited (“India Rating”) | |
| Mode of Allotment & Trading | In Dematerialised Form | |
| QIB | 10% of the issue size | |
| Non-Institutional | 40% of the issue size | |
| Retail Individual | 50% of the issue size | |
| Listing | BSE | |
| Depositories | NSDL & CDSL | |
| Registrar | Karvy Fintech Private Limited | |
| Book Running Lead Managers | Karvy Investor Services Limited and SMC Capitals Limited | |
Benefits:
- They are short-term investments that give the investors the opportunity to benefit from interest rate increases.
- NCDs may be sold as the investors cannot withdraw the money until maturity so they want to sell them instead. This option offers the investors an easy way around the fact that they cannot withdraw the money until the due date and still make a profit.
- They are low in risk since investors know that once they invest money in NCDs they will gain their original investment and some interest depending on the interest rate.
Disadvantages:
- Investors must deposit large amounts of money as the minimum amount is only $100,000 which many may not have and even if they do have it investors look for longer maturity investment options.
- There is not a large amount of money to gain as many financial institutions offer the lowest rates on NCDs.
- NCDs do not have the option of an early withdrawal and hence the investor’s money is locked in and cannot be withdrawn even during emergency situations.
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Conclude:
Investors who don’t have large sums of money should not consider investing in NCDs. These are only meant for serious investors who have large amounts of money with them. Although the investors will not make a substantial amount of interest but don’t lose any of their original investment. Once investors assess their personal situations, it will be easy to decide if NCDs are their right choice.
Author -Sanjana Rau
About the author- Started my journey of self even when the odds were against me, keen observation, a cool temper, and sports worked the best for me.
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