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DEBT MARKETS

DEBT MARKETS. INTRODUCTION. What is a debt market? A part of the capital market A place where trading in Debt Instruments takes place Is also known as a ‘fixed income market as debt instruments pay fixed returns Impact of the debt market on the economy?

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DEBT MARKETS

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  1. DEBT MARKETS DEBT MARKETS

  2. INTRODUCTION • What is a debt market? • A part of the capital market • A place where tradingin Debt Instruments takes place • Is also known as a ‘fixed income market as debt instruments pay fixed returns • Impact of the debt market on the economy? • Opportunity for investors to diversify their investment portfolio • Improved transparency because of stringent disclosure norms and auditing requirements • Less risk compared to the equity markets. This leads to inflow of funds in the economy • Increased funds for implementation of government development plans. The government can raise funds at lower costs by issuing government securities DEBT MARKETS

  3. THE STRUCTURE OF INDIAN DEBT MARKET DEBT MARKETS

  4. Trading Platform • Clearing and Settlement • Mechanism • Instrument’s • Investor’s • Issuer’s • Instruments • Investors • Rating agencies DEBT MARKETS

  5. REGULATION’S FOR DEBT MARKET • SARFAESI Act,2002 • Securities and Exchange Board of India,1992. • Companies Act, 1956 • Securities Contracts (Regulation) Act, 1956 • Depositories Act, 1996 • Fixed-Income and Money Market Dealers’ Association DEBT MARKETS

  6. MARKET PARTICIPANTS IN THE DEBT MARKET • Central Governments • Reserve Bank of India • Primary Dealers • State Governments • Public Sector Units • Corporate treasuries • Public Sector Financial Institutions • Banks • Foreign Institutional Investors • Charitable Institutions, Trusts and Societies DEBT MARKETS

  7. DEBT INSTRUMENTS DEBT MARKETS

  8. DEBT INSTRUMENTS • LONG TERM INSTRUMENTS • Government of India dated securities (GOISECs) • Inflation linked bonds • Zero coupon bonds • State government securities (state loans) • Public Sector Undertaking Bonds (PSU Bonds) • Corporate debentures • Bonds of Public Financial Institutions (PFIs) • SHORT TERM INSTRUMENTS • Treasury Bills • Fixed deposit • Certificates of Deposits • Commercial Paper • Bills Rediscounting schemes DEBT MARKETS

  9. TREASURY BILLS • Promissory notes of the central government and therefore qualify as being free of credit risks • Issued to meet short term funding requirements of the government account with Reserve Bank • Sale is by auction. Any individual, corporate, bank, primary dealer or other entity is free to buy T-Bill • Denominations of 91, 182 and 364 days CERTIFICATE OF DEPOSIT (CD) • Similar to CPs except that the issuer is a bank • Minimum amount of a CD can be Rs. 1 lakh and maturity between 7 days and 1 year • Financial Institutions can issue CDs only for maturities between 1 and 3 years • No premature cancellation of CD is allowed DEBT MARKETS

  10. COMMERCIAL PAPER (CP) • Promissory notes issued by the corporate sector for raising short term funds • Sold at a discount to face value • Maturity can range between a minimum of 7 days and a maximum of 1 year • CPs are required to be rated and the minimum rating eligibility is P2 • Every CP issue has an Issuing and Paying Agent (IPA), which has to be a scheduled bank • Stamp duty is currently payable on CP issues, depending on the maturity and who the initial buyer is BILLS REDISCOUNTING SCHEME • The RBI introduced the Bills Market Scheme (BMS) in 1952 which was later modified into the New Bills Market Scheme (NBMS) • Under this scheme commercial banks can rediscount the bills which were originally discounted by them with approved institutions (viz., Commercial Banks, Development Financial Institutions, Mutual Funds, Primary Dealers etc.) DEBT MARKETS

  11. GOVERNMENT OF INDIA DATED SECURITIES (GOISECS) • GOISECs are issued by the Reserve Bank of India on behalf of the Government of India. These form a part of the borrowing program approved by Parliament in the Finance Bill each year (Union Budget) • They have maturity ranging from 1 year to 30 years • GOISECs are issued through the auction route. The RBI pre specifies an approximate amount of dated securities that it intends to issue through the year INFLATION LINKED BONDS • These are bonds for which the coupon payment in a particular period is linked to the inflation rate at that time - the base coupon rate is fixed with the inflation rate. Investors are often loath to invest in longer dated securities due to uncertainty of future interest rates. The idea behind these bonds is to make them attractive to investors by removing the uncertainty of future inflation rates, thereby maintaining the real value of their invested capital. DEBT MARKETS

  12. ZERO COUPON BONDS • These are bonds for which there is no coupon payment. They are issued at a discount to face value with the discount providing the implicit interest payment. STATE GOVERNMENT SECURITIES (STATE LOANS) • These are issued by the respective state governments but the RBI coordinates the actual process of selling these securities. Each state is allowed to issue securities up to a certain limit each year. State Government issue such securities to fund their developmental projects and finance their budgetary defictis BONDS OF PUBLIC FINANCIAL INSTITUTIONS (PFIS) • Apart from public sector undertakings, Financial Institutions are also allowed to issue bonds, that too in much higher quantum. DEBT MARKETS

  13. PUBLIC SECTOR UNDERTAKING BONDS (PSU BONDS) • These are long term debt instruments issued by Public Sector Undertakings (PSUs). Typically, they have maturities ranging between 5-10 years and they are issued in denominations (face value) of Rs.1,000 each • Most of these issues are made on a private placement basis to a targeted investor base at market determined interest rates. CORPORATE DEBENTURES • These are long term debt instruments issued by private sector companies. • These are issued in denominations as low as Rs.1,000 and have maturities ranging between one and ten years. • A key feature that distinguishes debentures from bonds is the stamp duty payment. Debenture stamp duty is a state subject and the quantum of incidence varies from state to state. Transfer stamp duty remains high in many states and is probably the biggest deterrent for trading in debentures resulting in lack of liquidity. DEBT MARKETS

  14. BOND BASICS & VALUATION OF BONDS Bonds represent loans by investors to a company. BOND TERMINOLOGY • Coupon • Coupon rate • Face (par) value • Maturity date • Yield • YTM DEBT MARKETS

  15. PROCESS FOR ISSUING BONDS • Company sets the maturity date and face value of the bonds • Investment bankers set the coupon rate for the bonds • Investment bankers find investors for the bonds and issue them in the primary market. • Government Securities :- • Uniform price Based or Dutch Auction • Multiple/variable Price Based or French Auction • The bonds become available in the secondary market. • NDS – OM and WDM DEBT MARKETS

  16. Example • What is the present value of a bond with a two-year maturity date, a face value of Rs.1,000, and a coupon rate of 6%? The current prevailing rate for similar issues is 5%. Inverse relationship :- As interest rates fall, bond prices rise As interest rates rise, bond prices fall DEBT MARKETS

  17. Relationship between prices & yield Bond Prices Bond Prices Yields Yields Example YTM = 10% Coupon = 10% Bond price = Rs100 Flat yield = 10% --------------------------------- YTM  = 12% Bond price = Rs83 Flat yield = 12 % YTM = 12% Coupon = 10% Bond price = Rs 83 Flat yield = 12% --------------------------------- YTM  = 10% Bond price = Rs100 Flat yield = 10 %

  18. Price Interest rate relationship • Par • Coupon rate = Yield to maturity • Discount • Coupon rate < Yield to maturity • Premium • Coupon rate > Yield to maturity

  19. Credit Spread DEBT MARKETS

  20. RISK ASSOCIATED WITH BONDS • Interest rate risk • Credit risk • Reinvestment risk • Sovereign risk • Inflation risk DEBT MARKETS

  21. ADVANTAGES OF DEBT MARKET • Assured returns • High liquidity • Credit rating agencies • Flexibility of capital structure • Tax deductible

  22. DISADVANTAGES OF DEBT MARKET • Less returns when compared to Equity market • Not well developed in India. • Exposed to interest rate risk. • Less liquidity in many issues.

  23. IMPACT ON THE ECONOMY • Opportunity for investors to diversify their investment portfolio. • Higher liquidity and control over credit. • Less risk compared to the equity markets • Government can raise funds at lower costs by issuing government securities.

  24. DEBT VS EQUITY • Equity : • Time and amount of repayment is uncertain and not fixed. • Repayment is also dependent on the performance of the company. • Returns are higher but also the risk for the investor is higher. • DEBT : • Time and amount of repayment is fixed beforehand. • Repayment is not dependent on performance. • Risk is low and so is the returns.

  25. GLOBAL SCENARIO..... • At present, the size of the international bond market is about $45 trillion • Chinese Bond Market at a growing stage with a turnover of about $40 billion • USA, Britain and Euro zone are the leaders

  26. FUTURE ESTIMATION OF INDIAN DEBT MARKET • Four-fold increase in the size of India’s overall bond market, from about $400bn today, or around 45% of GDP, to about $1.5 trillion by 2016 in current Dollars, i.e. 55% of GDP at that time. • If India were to proceed more aggressively on financial liberalisation, the size of the debt market would grow even faster

  27. ISSUES AND RECOMMENDATIONS • Issues : • Lack of sufficient investor base in terms of quantity as well as diversity. • Lack of awareness among investors. • Recommendations: • Developing bond managers. • By enlarging number of investors. • Increasing awareness among the investors.

  28. THANK YOU DEBT MARKETS

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