Market-Linked Debentures (MLDs)

MLDs or Market-Linked Debentures seem to be the hot favorite of the braver breed of investors trying to step outside the cozy fixed-income circuit. They They are hybrid instruments that combine elements of capital market participation with features of traditional debt-like structures. It makes them attractive to investors who are seeking performance correlated to the market, yet want safety to some extent. But MLDs can be confusing if you’re hearing about them for the first time. This guide breaks the concept down so that you can determine if they have a place in your investment portfolio.

What are MLDs?

MLDs are debt instruments where the final return depends on how a specific market index or benchmark performs. Unlike fixed deposits or traditional bonds, MLDs don’t offer assured interest. Instead, returns are correlated to indices like equity markets, government bonds or commodity indices such as gold. They normally have a maturity between 1 and 5 years. They then receive their original capital back at the end of the term, along with any returns linked to market performance.

MLD Terminology

Before proceeding, you must understand each term associated with MLDs.

1. Issuer: The organisation that issues the MLD, most commonly NBFCs or corporates. 
2. Base Index: The index to which returns are linked (e.g., NIFTY, G-Sec). 
3. Payoff Structure: Specifies how returns are quantified in terms of index movement. 
4. Capital Protection: If the principal is guaranteed. 
5. Credit Rating: Rating assigned to the risk by a rating agency (CRISIL, ICRA, etc). 
6. Secured and unsecured: Secured debentures are those backed by an asset or physical plant of the issuer (also called a mortgage debenture), while unsecured (or naked) debentures are not backed by any specific security. 
7. Listed vs. Unlisted: How much it can or can’t be traded on public stock exchanges.

Types of MLDs

1. Capital-Protected MLDs

• Ensure the original amount (principal) is returned, regardless of market movement.
• Provide little to no returns when the underlying index underperforms.
• Suitable for conservative investors seeking downside protection.
  

2. Non-Capital-Protected MLDs

• Carry a higher risk as the principal is not guaranteed.
• Greater return potential if the reference index is strong.
• Appropriate for aggressive investors willing to accept volatility.

Additionally, MLDs can be:

• Listed / Unlisted (as the case may be on the secondary market)
• Secured (Backed by collateral) or unsecured (higher default risk)

Features of MLDs

1. The minimum investment is generally ₹10-25 lakhs according to SEBI.
2. Agencies assign credit ratings to indicate the likelihood that a borrower might default on their financial obligations.
3. Returns are not paid out until maturity.
4. Liquidity differs: While listed MLDs can be sold before maturity, unlisted ones may provide for buyback.
5. Customisation is common: These are often structured products designed to suit specific client needs.

How Does an MLD Work?

MLDs combine debt and market exposure in a structured format. Here’s a simplified flow:

1. You can invest in the MLDs up to a predefined period (e.g. 3 years).
2. The return is linked to an index, such as NIFTY 50.
3. A fixed return is paid out if the index crosses a specified performance threshold.

If the index performs poorly:

• In capital-protected MLDs, only the principal is returned.
• In non-protected MLDs, the investor may incur a loss.
• Payout happens at maturity — you get your principal + market-linked return (if applicable).

Advantages and Risks Associated with Market Linked Debentures

MLD vs. NCD: Are there any Differences?

Why Invest in MLDs?

Here are a few reasons MLDs are gaining attention:

• Customised structures to match different return expectations
• Tax friendly: MLDs being listed held for over 1 year are taxed at 10% (according to the earlier law)
• Capital protection (in select variants) gives peace of mind
• Diversification beyond equity mutual funds or FDs
• No TDS deducted on maturity if held in demat form

Conclusion

MLDs are not your everyday debt product. They want market-related performance and structural details to be disclosed. For sophisticated investors with an ample craving for risk and long-term goals, they can be a smart portfolio add-on. But given that the deal can become a little complicated and tailored, it is not such a bad idea to have a word with your trusted financial adviser and the experts at Tata Capital Wealth before you take the leap. It is their advice that can assist you in choosing MLDs that are commensurate with your return objectives and risk tolerance.