DEBT MARKET INSTRUMENT A TOOL FOR FINANCIAL GROWTH

1st CHAPTER:
INTRODUCTION
OBJECTIVES
The project was basically taken in accordance to my interest attached to the topic. The
following objective below shows the reasons for choosing the topic:

Covering different kinds of Debt Instruments.

Identifying structure of debt market instrument.
To understand the research on how debt instruments is important to boost the financial
growth of the country.

SCOPE OF DATA

The scope of making this project is to know more about how debt market instrument
become a tool for financial growth in India.

RESEARCH METHODOLOGY
Research methodology which has been used in making this project is secondary data.
Secondary data are that which has been collected by someone else and which already have
been passed through statistical process.
Secondary data has been taken from internet, newspaper, business magazines and
companies websites.

INTRODUCTION:
The debt market is a bigger source of borrowed funds than the banking system. The market
for debt is larger than the market for equities (i.e., is larger than the stock market). The debt
market is commonly divided into the so-called money market (short-term debt, maturity of
one year or less) and the so-called capital market (long-term debt). Both of these terms are
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misnomers. All productive assets are capital (including equities). The terminology may be
rationalized by the convention that capitalized expenses are amortized over periods in excess
of one year. "Money market" instruments are debt and although they can be used as a store of
value they can only be regarded as a medium of exchange in the sense that they are readily
sold at a price which is usually predictable within a short time frame. Moreover, it is hard to
base a conceptual distinction between money & non-money based on a one-year maturity
dividing line.
Most debt instruments are not traded through exchanges, but are traded over-the-counter
(OTC) in a telephone/electronic network market where dealers or brokers frequently act as
direct intermediaries. Money-market instruments usually have such large denominations that
they are not accessible to small investors except through mutual funds.
The market for debt can be viewed as a market for money in the sense that sellers of debt
(lenders) have a supply of money which is demanded by would-be buyers (borrowers). In this
model, interest rates are the "price" of money. An increase in demand to borrow money due to
increased economic opportunity increases interest rates (everything else being equal). The
market for debt is influenced by term-to-maturity, credit-worthiness of borrowers, security for
loan and many other factors. By their control of money supply, government central banks try
to manipulate interest rates to stimulate their economies without causing inflation.

2nd CHAPTER:

FINANCIAL MARKET & ITS CLASSIFICATION

A financial market is a mechanism that allows people to buy and sell (trade) financial
securities (such as stocks and bonds), commodities (such as precious metals or agricultural
goods), and other fungible items of value at low transaction costs and at prices that reflect the
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efficient-market hypothesis.
Both general markets (where many commodities are traded) and specialized markets (where
only one commodity is traded) exist. Markets work by placing many interested buyers and
sellers in one "place", thus making it easier for them to find each other. An economy which
relies primarily on interactions between buyers and sellers to allocate resources is known as a
market economy in contrast either to a command economy or to a non-market economy such
as a gift economy.
In finance, financial markets facilitate:

The raising of capital (in the capital markets)

The transfer of risk (in the derivatives markets)

International trade (in the currency markets)

and are used to match those who want capital to those who have it.
Typically a borrower issues a receipt to the lender promising to pay back the capital. These
receipts are securities which may be freely bought or sold. In return for lending money to the
borrower, the lender will expect some compensation in the form of interest or dividends.
In mathematical finance, the concept of a financial market is defined in terms of a
continuous-time Brownian motion stochastic process.
Definition
Typically, the term market means the aggregate of possible buyers and sellers of a certain
good or service and the transactions between them.
The term "market" is sometimes used for what are more strictly exchanges, organizations that
facilitate the trade in financial securities, e.g., a stock exchange or commodity exchange. This
may be a physical location (like the NYSE) or an electronic system (like NASDAQ). Much
trading of stocks takes place on an exchange; still, corporate actions (merger, spinoff) are
outside an exchange, while any two companies or people, for whatever reason, may agree to
sell stock from the one to the other without using an exchange.

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Trading of currencies and bonds is largely on a bilateral basis, although some bonds trade on
a stock exchange, and people are building electronic systems for these as well, similar to
stock exchanges.
Financial markets can be domestic or they can be international.

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TYPES OF FINANCIAL MARKET

The financial markets can be divided into different subtypes:

Capital markets which consist of:

o Stock markets, which provide financing through the issuance of shares or
common stock, and enable the subsequent trading thereof.
o Bond markets, which provide financing through the issuance of bonds, and
enable the subsequent trading thereof

Commodity markets, which facilitate the trading of commodities.

Money markets, which provide short term debt financing and investment.

Derivatives markets, which provide instruments for the management of financial risk.

Futures markets, which provide standardized forward contracts for trading products at
some future date; see also forward market.

Insurance markets, which facilitate the redistribution of various risks.

Foreign exchange markets, which facilitate the trading of foreign exchange.

The capital markets consist of primary markets and secondary markets. Newly formed
(issued) securities are bought or sold in primary markets. Secondary markets allow investors
to sell securities that they hold or buy existing securities.
Raising the capital
To understand financial markets, let us look at what they are used for, i.e. what
Without financial markets, borrowers would have difficulty finding lenders themselves.
Intermediaries such as banks help in this process. Banks take deposits from those who have
money to save. They can then lend money from this pool of deposited money to those who
seek to borrow. Banks popularly lend money in the form of loans and mortgages. More
complex transactions than a simple bank deposit require markets where lenders and their
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agents can meet borrowers and their agents, and where existing borrowing or lending
commitments can be sold on to other parties. A good example of a financial market is a stock
exchange. A company can raise money by selling shares to investors and its existing shares
can be bought or sold.
The following table illustrates where financial markets fit in the relationship between lenders
and borrowers:
Relationship between lenders and borrowers
Lenders

Financial Intermediaries

Financial Markets

Borrowers

Interbank

Individuals

Stock Exchange

Companies

Money Market

Central Government

Bond Market

Municipalities

Foreign Exchange

Public Corporations

Banks
Individuals

Insurance Companies

Companies

Pension Funds
Mutual Funds

Lenders:
Individuals
Many individuals are not aware that they are lenders, but almost everybody does lend money
in many ways. A person lends money when he or she:

puts money in a savings account at a bank;

contributes to a pension plan;

pays premiums to an insurance company;

invests in government bonds; or

invests in company shares.

Companies

Companies tend to be borrowers of capital. When companies have surplus cash that is not
needed for a short period of time, they may seek to make money from their cash surplus by
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lending it via short term markets called money markets.

There are a few companies that have very strong cash flows. These companies tend to be
lenders rather than borrowers. Such companies may decide to return cash to lenders (e.g. via
a share buyback.) Alternatively, they may seek to make more money on their cash by lending
it (e.g. investing in bonds and stocks.)

Borrowers:

Individuals borrow money via bankers' loans for short term needs or longer term mortgages
to help finance a house purchase.
Companies borrow money to aid short term or long term cash flows. They also borrow to
fund modernization or future business expansion.
Governmentsoften find their spending requirements exceed their tax revenues. To make up
this difference, they need to borrow. Governments also borrow on behalf of nationalised
industries, municipalities, local authorities and other public sector bodies. In the UK, the total
borrowing requirement is often referred to as the Public sector net cash requirement
(PSNCR).
Governments borrow by issuing bonds. In the UK, the government also borrows from
individuals by offering bank accounts and Premium Bonds. Government debt seems to be
permanent. Indeed the debt seemingly expands rather than being paid off. One strategy used
by governments to reduce the value of the debt is to influence inflation.
Municipalities and local authorities may borrow in their own name as well as receiving
funding from national governments. In the UK, this would cover an authority like Hampshire
County Council.
Public Corporations typically include nationalised industries. These may include the postal
services, railway companies and utility companies.
Many borrowers have difficulty raising money locally. They need to borrow internationally
with the aid of Foreign exchange markets.

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Derivative products

During the 1980s and 1990s, a major growth sector in financial markets is the trade in so
called derivative products, or derivatives for short.
In the financial markets, stock prices, bond prices, currency rates, interest rates and dividends
go up and down, creating risk. Derivative products are financial products which are used to
control risk or paradoxically exploit risk. It is also called financial economics.

Currency markets

Seemingly, the most obvious buyers and sellers of currency are importers and exporters of
goods. While this may have been true in the distant past, when international trade created the
demand for currency markets, importers and exporters now represent only 1/32 of foreign
exchange dealing, according to the Bank for International Settlements.
The picture of foreign currency transactions today shows:

Banks/Institutions

Speculators

Government spending (for example, military bases abroad)

Importers/Exporters

Tourists

Analysis of financial markets

Much effort has gone into the study of financial markets and how prices vary with time.
Charles Dow, one of the founders of Dow Jones & Company and The Wall Street Journal,
enunciated a set of ideas on the subject which are now called Dow Theory. This is the basis
of the so-called technical analysis method of attempting to predict future changes. One of the
tenets of "technical analysis" is that market trends give an indication of the future, at least in
the short term. The claims of the technical analysts are disputed by many academics, who
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claim that the evidence points rather to the random walk hypothesis, which states that the
next change is not correlated to the last change.

3rd CHAPTER:

FINANCIAL INSTRUMENTS & ITS CLASSIFICATION

Definition:
A real or virtual document representing a legal agreement involving some sort of monetary
value. In today's financial marketplace, financial instruments can be classified generally as
equity based, representing ownership of the asset, or debt based, representing a loan made by
an investor to the owner of the asset. Foreign exchange instruments comprise a third, unique
type of instrument. Different subcategories of each instrument type exist, such as preferred
share equity and common share equity, for example
Types of Financial Instruments:
There are many kinds of financial instruments in the market that are widely used today.
1

Futures - This is the type of currency that is defined as forward transactions that have
standard sizes as well as dates of maturity. One example is 500,000 British pounds for
next December at a rate previously agreed upon. The Futures have been standardized
and usually they are traded on the exchange rates created for such purpose. The
contract has an average length of 3 months roughly. The contracts usually include
interest of any amount.

Forward Transaction - Another way to deal with the risk of the Foreign exchange is
to deal in a transaction termed as forward transaction. In this type of transaction, one's
money doesn't change the hands actually not until there is an agreed upon date in the
future. The buyer and the seller agree on an exchange rate for a date anytime in the
future, and the deal occurs on that particular date, and this is regardless of what the
rates in the market would be then. Duration of trading could be carried out in a few
days, months and even years.
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Spot - This type of transaction is defined by its two-day delivery which when
compared to the future type of contracts that have the duration of usually three
months. The spot trade represents the "direct exchange" between two kinds of
currencies. The spot has the shortest length of time. It involves money or cash rather
than the contract. The interest is exclusive in the agreed transaction. The spot market
is the source for the data of this study.

Swap - This is the most common kind of forward transaction. The currency swap
consists of two parties exchanging currencies for a period of time. The two parties
agree to reverse the trade at a certain later date. The Swap however is not considered
as contracts and swaps are not traded through the exchange.

Commercial Paper- commercial paper is a short term negotiable money market

instrument. CP is a note in evidence of the debt obligation of the issuer. On issuing
commercial paper the debt obligation is transformed into an instrument. CP is thus an
unsecured promissory note privately placed with investors at a discount rate to face
value determined by market forces. CP is freely negotiable by endorsement and
delivery. A company shall be eligible to issue CP provided - (a) the tangible net worth
of the company, as per the latest audited balance sheet, is not less than Rs. 4 crore (b)
the working capital (fund-based) limit of the company from the banking system is not
less than Rs.4 crore and (c) the borrowal account of the company is classified as a
Standard Asset by the financing bank/s. The minimum maturity period of CP is 7
days. The minimum credit rating shall be P-2 of CRISIL or such equivalent rating by
other agencies.

Treasury Bills-Treasury Bills are short term (up to one year) borrowing instruments
of the union government. It is an IOU of the Government. It is a promise by the
Government to pay a stated sum after expiry of the stated period from the date of
issue (14/91/182/364 days i.e. less than one year). They are issued at a discount to the
face value, and on maturity the face value is paid to the holder. The rate of discount
and the corresponding issue price are determined at each auction.

Certificate Of Deposit- Certificates of Deposit (CDs) is a negotiable instrument and

issued in de-materialized form or as a Usance Promissory Note, for funds deposited at
a bank or other eligible financial institution for a specified time period. Guidelines for
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issue of CDs are presently governed by various directives issued by the Reserve Bank
of India, as amended from time to time. CDs can be issued by (i) scheduled
commercial banks excluding Regional Rural Banks (RRBs) and Local Area Banks
(LABs); and (ii) select all-India Financial Institutions that have been permitted by
RBI to raise short-term resources within the umbrella limit fixed by RBI. Banks have
the freedom to issue CDs depending on their requirements. An FI may issue CDs
within the overall umbrella limit fixed by RBI, i.e., issue of CD together with other
instruments viz., term money, term deposits, commercial papers and intercorporate
deposits should not exceed 100 per cent of its net owned funds, as per the latest
audited balance sheet.
8

American Depository Receipt (ADR) -Certificates issued by a U.S. depository bank,

representing foreign shares held by the bank, usually by a branch or correspondent in
the country of issue. One ADR may represent a portion of a foreign share, one share
or a bundle of shares of a foreign corporation. If the ADR's are "sponsored," the
corporation provides financial information and other assistance to the bank and may
subsidize the administration of the ADR "Unsponsored" ADRs do not receive such
assistance.

Global Depository Receipt (GDR)-A global depository receipt is a dollar

denominated instrument traded on a stock exchange in Europe or the U.S.A . or both.
It represents a certain number of underlying equity shares. Though the GDR is quoted
& traded in dollar terms, the underlying equity shares are denominated in rupees. The
shares are issued by the company to an intermediary called depository in whose name
the shares are registered. It is the depository which subsequently issues the GDRs.

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4th CHAPTER:

DEFINITION & TYPES OF DEBT INSTRUMENTS

In most of the countries, the debt market is more popular than the equity market. This is due
to the sophisticated bond instruments that have return-reaping assets as their underlying. In
the US, for instance, the corporate bonds (like mortgage bonds) became popular in the 1980s.
However, in India, equity markets are more popular than the debt markets due to the
dominance of the government securities in the debt markets.
Moreover, the government is borrowing at a pre-announced coupon rate targeting a captive
group of investors, such as banks. This, coupled with the automatic monetization of fiscal
deficit, prevented the emergence of a deep and vibrant government securities market.
The bond markets exhibit a much lower volatility than equities, and all bonds are priced
based on the same macroeconomic information. The bond market liquidity is normally much
higher than the stock market liquidity in most of the countries. The performance of the
market for debt is directly related to the interest rate movement as it is reflected in the
yields of government bonds, corporate debentures, MIBOR-related commercial papers,and
non-convertible debentures.

Importance and significance of Debt Market

The debt market is a market where fixed income securities issued by the Central and state
governments, municipal corporations, government bodies, and commercial entities like
financial institutions, banks, public sector units, and public limited companies. Therefore, it is
also called fixed income market.
The key role of the debt markets in the Indian Economy stems from the following reasons:

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Efficient mobilization and allocation of resources in the economy

Financing the development activities of the Government

Transmitting signals for implementation of the monetary policy

Facilitating liquidity management in tune with overall short term and long term
objectives.

Since the Government Securities are issued to meet the short term and long term financial
needs of the government, they are not only used as instruments for raising debt, but have
emerged as key instruments for internal debt management, monetary management and short
term liquidity management.
The returns earned on the government securities are normally taken as the benchmark rates of
returns and are referred to as the risk free return in financial theory. The Risk Free rate
obtained from the G-sec rates are often used to price the other non-govt. securities in the
financial markets.
Advantages of debt instruments:

Reduction in the borrowing cost of the Government and enable mobilization of

resources at a reasonable cost.

Provide greater funding avenues to public-sector and private sector projects and
reduce the pressure on institutional financing.

Enhanced mobilization of resources by unlocking illiquid retail investments like gold.

Development of heterogeneity of market participants

Assist in development of a reliable yield curve and the term structure of interest rates.

Risks associated with debt securities:

The debt market instrument is not entirely risk free. Specifically, two main types of risks are
involved, i.e., default risk and the interest rate risk. The following are the risks associated
with debt securities:
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Default Risk: This can be defined as the risk that an issuer of a bond may be unable to
make timely payment of interest or principal on a debt security or to otherwise
comply with the provisions of a bond indenture and is also referred to as credit risk.

Interest Rate Risk adverse change in the interest rate prevalent in the market so as to
affect the yield on the existing instruments. A good case would be an upswing in the
prevailing interest rate scenario leading to a situation where the investors' money is
locked at lower rates whereas if he had waited and invested in the changed interest
rate scenario, he would have earned more.

Reinvestment Rate Risk: can be defined as the probability of a fall in the interest rate
resulting in a lack of options to invest the interest received at regular intervals at
higher rates at comparable rates in the market.The following are the risks associated
with trading in debt securities:

Counter Party Risk: is the normal risk associated with any transaction and refers to
the failure or inability of the opposite party to the contract to deliver either the
promised security or the sale-value at the time of settlement.

Price Risk: refers to the possibility of not being able to receive the expected price on
any order due to a adverse movement in the prices.

SIGNIFICANCE
The Indian debt market is composed of government bonds and corporate bonds. However, the
Central government bonds are predominant and they form most liquid component of the bond
market. In 2003, the National Stock Exchange (NSE) introduced Interest Rate Derivatives.
The trading platforms for government securities are the Negotiated Dealing System and the
Wholesale Debt Market (WDM) segment of NSE and BSE. In the negotiated market, the
trades are normally decided by the seller and the buyer, and reported to the exchange through
the broker, whereas the WDM trading system, known as NEAT (National Exchange for
Automated Trading), is a fully automated screen-based trading system, which enables
members across the country to trade simultaneously with enormous ease
and efficiency.
Price determination of debt instruments:
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The price of a bond in the markets is determined by the forces of demand and supply, as is the
case in any market. The price of a bond also depends on the changes in:
Economic conditions
General money market conditions, including the state of money supply in the economy
Interest rates prevalent in the market and the rates of new issues
Future Interest Rate Expectations
Credit quality of the issuer
Debt Instruments are categorized as:
Government of India dated Securities (G Secs) are 100-rupee face-value units/ debt paper
issued by the Government of India in lieu of their borrowing from the market. They are
referred to as SLR securities in the Indian markets as they are eligible securities for the
maintenance of the SLR ratio by the banks.
Corporate debt market:
The corporate debt market basically contains PSU bonds and private sector bonds. The Indian
primary Corporate Debt market is basically a private placement market with most of the
corporate bonds being privately placed among the wholesale investors, which include banks,
financial Institutions, mutual funds, large corporates & other large investors.
The following debt instruments are available in the corporate debt market:
Non-Convertible Debentures
Partly-Convertible Debentures/Fully-Convertible Debentures (convertible into Equity
Shares)
Secured Premium Notes
Debentures with Warrants
Deep Discount Bonds
PSU Bonds/Tax-Free Bonds

Interest Rate Derivatives

An interest rate futures contract is "an agreement to buy or sell a package of debt instruments
at a specified future date at a price that is fixed today." The price of debt securities and,
therefore, interest rate futures, is inversely proportional to the prevailing interest rate. When

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the interest rate goes up, the price of debt securities and interest rate futures goes down, and
vice versa. Some of the assets underlying interest rate futures include US Treasuries, EuroDollars, LIBOR Swap, and Euro-Yen futures.
Tenure
Interest rate futures contracts can have short-term (less than one year) and long-term (more
than one year) interest bearing instruments as the underlying asset. In the US, short-term
interest rate futures like 90-day T-Bill and 3-month Euro-Dollar time deposits are more
popular. Long-term interest rate futures include the 10-year Treasury Note futures contract,
and the Treasury Bond futures contract.
Hedging with Interest rate futures
Interest rate futures can be used to protect against an increase in interest rates as well as a
decline in interest rates. By selling interest rate futures, also known as short hedging, an
investor can protect himself against an increase in interest rates; and by buying interest rate
futures, also known as long hedging, an investor can protect himself against a decline in
interest rates. Thus, short, medium, and long-term interest rate risks can be managed with
products based on Euro-Dollars, US Treasuries, and Swaps in Europe and the US. In India,
interest rate derivatives would be used for hedging in the near future.
Money market opportunities for SMEs
To begin with a brief rejoinder, the Indian money market is a market for short term securities
like T-bills, certificates of deposits, commercial papers, repos and others. These debts are
issued by the government, banks, companies and financial institutions, respectively. The
papers traded are almost like a promissory note which usually has a fixed interest rate and a
maturity of less than one year.
Since the securities in this market are less than one year, and the source of these securities is
the government/banks/highly-rated companies, the credit risk involved is considered to be
low (though slightly higher than an FD). Moreover, the tax incidence on the income from
these schemes (depending on the plan) is usually lower than the one that the interest on
savings accounts or FDs invite.
Therefore, from the SME point of view, the leveraging of the debt market can actually come
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in two forms. First, as a supplier of debt, and second, as the buyer. The capacity of the SME
to tap the debt market is correlated directly to the growth trajectory of the corporate debt
segment. However, the real and immediate gain potential for SMEs rests on their ability as
the buyer of debt, especially of short term debts.
A convenient alternative and yet a potentially enhanced revenue-generative method of
parking the surplus is in the liquid, ultra-short term and the bond/gilt schemes of mutual
funds. These schemes usually also invest your money in the money market and debt market
securities, depending on the investment mandate of the fund.
Debt market refers to the financial market where investors buy and sell debt securities,
mostly in the form of bonds. These markets are important source of funds, especially in a
developing economy like India. India debt market is one of the largest in Asia. Like all other
countries, debt market in India is also considered a useful substitute to banking channels for
finance. The most distinguishing feature of the debt instruments of Indian debt marketis that
the return is fixed. This means, returns are almost risk-free. This fixed return onthe bond is
often termed as the 'coupon rate' or the 'interest rate'. Therefore, the buyer (ofbond) is giving
the seller a loan at a fixed interest rate, which equals to the coupon rate.

TYPES OF DEBT INSTRUMENTS

There are various types of debt instruments available that one can find in Indian debt market.
Government Securities:
It is the Reserve Bank of India that issues Government Securities or G-Secs on behalf of the
Government of India. These securities have a maturity period of 1 to 30 years. G-Secs offer
fixed interest rate, where interests are payable semi-annually. For shorter term, there are
Treasury Bills or T-Bills, which are issued by the RBI for 91 days, 182 days and 364 days.
Advantagesof Government Securities

Greater safety and lower volatility as compared to other financial instruments.

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Variations possible in the structure of instruments like Index linked Bonds, STRIPS

Higher leverage available in case of borrowings against G-Secs.

No TDS on interest payments

Tax exemption for interest earned on G-Secs. up to Rs.3000/- over and above the limit
of Rs.12000/- under Section 80L (as amended in the latest Budget).

Greater diversification opportunities

Adequate trading opportunities with continuing volatility expected in interest rates the
world over

Corporate Bonds
These bonds come from PSUs and private corporations and are offered for an extensive range
of tenures up to 15 years. There are also some perpetual bonds. Comparing to G-Secs,
corporate bonds carry higher risks, which depend upon the corporation, the industry where
the corporation is currently operating, the current market conditions, and the rating of the
corporation. However, these bonds also give higher returns than the G-Secs

Advantages of Corporate Bonds:

They are provide a fixed stream of income so they are safer than stocks.
Bond holders get paid by companies before stock holders. For example, companies
are required to make interest payments to bondholders, but are not required to make
dividend payments to stock holders. Another example of this is that if the company
went bankrupt, the bond holders would bethe ones to get the proceeds from auctioning

off the company's assets and the stock holders would get nothing.
Another advantage of corporate bonds over government bonds is that they provide
higher interest. The reason for this is because interest rates are made up of a few
ingredients. First is the real interest rate (the actual money you are receiving simply

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for loaning money), then the inflation premium (bonds have to pay extra interest so
that bond holders don't have the value of their payments decline due to inflation), then
is the liquidity premium (this is extra interest bond issuers have to pay if their bond is
not easily bought and sold.
Disadvantages of Corporate Bonds:

As we said earlier, bonds are considered safer than stocks because they offer a steady
flow of income while there is no guaranteed income from stocks. However, stocks
offer greater potential returns if its price increases. So in this way, bonds and stocks
obey a fundamental rule of economics: with greater risk there is greater reward. So in
periods of slow economic growth, bonds may look more attractive because it is
unlikely stocks will provide good returns. In a period of expansion, however, stocks
look much more attractive than bonds because you could make a lot more in much

less time if your stocks go up.

Another disadvantage of corporate bonds over government bonds is that corporate
bonds have more risk. While this does offer a higher yield in return, if you are risk
averse, you would view this as a disadvantage of corporate bonds. This is where the
biggest difference between corporate and government bonds lies. Government bonds
are considered to be the safest investments having basically no risk that the
government will default on its loans. On the other hand, corporations can and do go
bankrupt. Because of this, corporate bonds are considered riskier than government

bonds.
Because bonds are a fixed investment, they may not offer protection against inflation
changes within an economy. If the interest rates on a bond investment are low and
inflation increases more than average or expected, the investor has the potential to

lose purchasing power within their portfolio.

The prices of bonds are affected by fluctuations in interest rates within the economy.
Bond prices move inversely to interest rates; when interest rates rise, bond rates fall

and vice versa.

Some bonds are callable, meaning that the Issuer can redeem the bonds issued. This is
common when interest rates decline, making it more favorable for the Issuer to
refinance their debts. If this occurs, the investor would be forced to redeem their bond
and replace it with a new one that potentially would have lower coupon rates. For an
investor who is relying on this income for their lifestyle, this can be a substantial
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disadvantage.
Certificate of Deposit
These are negotiable money market instruments. Certificate of Deposits (CDs), which usually
offer higher returns than Bank term deposits, are issued in demat form and also as a Usance
Promissory Notes. There are several institutions that can issue CDs. Banks can offer CDs
which have maturity between 7 days and 1 year. CDs from financial institutions have
maturity between 1 and 3 years. There are some agencies like ICRA, FITCH, CARE, CRISIL
etc. that offer ratings of CDs. CDs are available in the denominations of Rs. 1 Lac and in
multiple of that.
Advantages of Certificate of Deposit:

CDs typically offer a higher rate of interest than Treasury bills and savings account
due to the higher risk associated with them.

As the rate of interest is fixed, your return on investment is ensured despite the rate
fluctuations in the market.

CDs are insured by Federal Deposit Insurance Corporation and hence are a good
investment option for single income households and retired folks. CDs are a risk-free
investment.

The return on CDs is assured and helps in financial planning.

Its very easy to set up a CD. One needs to just walk to their local bank and request
for purchase of CD. Money from the existing savings account will be ear-marked
against the CD that has been purchased. The only thing to be made sure that the bank
is FDIC ensured.

CDs can be purchased and sold through a brokerage firm. This way you can encash
the CD before the maturity term without paying the penalty.

Disadvantages of Certificate of Deposit:

Money is tied down for long durations of time. Though the investor can withdraw
money, he has to generally incur penalty in terms of some amount of loss of interest
on the deposit amount. You can get a waiver on the penalty in case of special
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circumstances like disability, death or retirement.

As the rate of interest is fixed, it is difficult to change or to take advantage of the

market situation when the market rates are favorable. You will not be able to get an
interest rate that favors inflation.

Though the return rate is higher on CDs than savings account, it is much lower than
other money market instruments where you can make possible investments.

Commercial Papers
In the global money market, commercial paper is a unsecuredpromissory note with a fixed
maturity of 1 to 270 days. Commercial Paper is a money-market security issued (sold) by
large banks and corporations to get money to meet short term debt obligations (for example,
payroll), and is only backed by an issuing bank or corporation's promise to pay the face
amount on the maturity date specified on the note. Since it is not backed by collateral, only
firms with excellent credit ratings from a recognized rating agency will be able to sell their
commercial paper at a reasonable price. Commercial paper is usually sold at a discount from
face value, and carries higher interest repayment dates than bonds. Typically, the longer the
maturity on a note, the higher the interest rate the issuing institution must pay. Interest rates
fluctuate with market conditions, but are typically lower than banks' ratesThere are short term
securities with maturity of 7 to 365 days. CPs are issued by corporate entities at a discount to
face value.
Advantage of commercial paper:

High credit ratings fetch a lower cost of capital.

Wide range of maturity provide more flexibility.

It does not create any lien on asset of the company.

Tradability of Commercial Paper provides investors with exit options.

Disadvantages of commercial paper:

Its usage is limited to only blue chip companies.

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Issuances of Commercial Paper bring down the bank credit limits.

A high degree of control is exercised on issue of Commercial Paper.

Stand-by credit may become necessary

Non-Convertible Debentures
Non-convertible debentures, which are simply regular debentures, cannot be converted into
equity shares of the liable company. They are debentures without the convertibility feature
attached to them. As a result, they usually carry higher interest rates than their convertible
counterparts.
Advantages of Non-Convertible Debentures:

The advantage of issuing corporate bonds can be seen in achieving a higher degree of
company capital structure flexibility, and a company is thus more able to react
promptly to constantly changing conditions, which consequently leads to generating

larger financial sources.

Another advantage means that corporate bonds emissions can make up a considerable

amount of money provided by a large number of creditors.

As a consequence of a risk distribution among a large number of creditors the bond
emission is a lower costs alternative in comparison to bank loans under a certain debt

level condition.
Companies first accept bank loans, and that is to the degree to which the loan is
cheaper and otherwise more advantageous than bonds emissions. Then they issue
bonds and use a part of the gained finance to paying loans and other liabilities off,
which increases the ability to accept other bank loans. After reaching the top limit of

bank loans a company issues bonds again and the cycle repeats itself.
In the third cycle a company issues shares and a part of sources is used for paying off
the bank loans, paying off the bonds and the rest is used tofinance a further

development. Then a company increases bank loans and the cycle repeats itself again.
A significant advantage rests in the fact that returns of corporate bonds represent a tax

base and in case of a company profitability an interest tax shield can be used.
Furthermore shareholders do not lose a company activity control when issuing
corporate bonds, while issuing them often does not even need a collateral in a form of
a property pledge.
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It is due to say that as a consequence of an obligation to pay back the principal and
returns of bonds managers get a clearer view of rate of returns and that successful
issuing of corporate bonds (especially their placement) is considered a prestigious
thing helping the company to gain respect by the public and business partners.

Disadvantages of Non-Convertible Debentures:

On the other hand, the disadvantage of corporate bonds rests in the fact that investors
require a lot from credit issuer credibility, while returns and principal must be always

paid in time regardless the company profit.

A substantial disadvantage of bonds emissions lies in considerable emission costs
created by costs of issue (costs directly connected with issuing corporate bonds) and
costs of bonds life cycle (costs connected with the particular emission, arising in

course of the life cycle and in connection to paying back the emission).
On the top of it creditors may restrict the issuing company in various ways and have a
right to express their opinions on problem issues the solution of which may affect

setting up claims to the bonds themselves.

The bond holder meeting decides common concerns of bond holders and expresses
opinions on problem issues that may affect setting up claims to a bond, especially on
suggestions of changes in terms of bond emission conditions, on suggestions
regarding: issuer exchanges, issuer takeover bids by another subject, conclusions of a
contract to control a company or contracts on the profit transfer, a sale of a company,
a hire of a company or its part - all this in the meaning of a Commercial Code; further
on suggestions regarding abond programme, however also on problemissues of a
common process providing a bond issuerdelays in discharging the bond

engagements.
If a bond holder meeting does not agree on any of the suggestions, they can decide an
issuer obligation to pay back bond holders a nominal bond value or an emission rate
(in case of zero coupon bonds) including a proportionate return. An issuer must do so
before one-month time from the date of this decision at the very latest.

Partly-Convertible Debentures/Fully-Convertible Debentures (convertible in to

Equity Shares)
Convertible debenture is basically is a type of commercial loan or a debenture. A convertible
debenture, as the name suggests gives a lender the option of converting a loan into stock. So
the company who has issued the debentures can convert these into equity shares after, during
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or on certain dates, making the debenture holder, a share holder. This conversion factor also
depends upon the type of convertible debenture the company has issued and the exact
agreement between company and debenture holders. The 'convertible' factor is often added to
the commercial loan so as to attract the buyers as they can be the share holders later.
Advantages of Convertible Debenture:

Convertible bonds are usually issued offering a higher yield than obtainable on the
shares into which the bonds convert.

Convertible bonds are safer than preferred or common shares for the investor. They
provide asset protection, because the value of the convertible bond will only fall to the
value of the bond floor. At the same time, convertible bonds can provide the
possibility of high equity-like returns.

Also, convertible bonds are usually less volatile than regular shares. Indeed, a
convertible bond behaves like a call option.

The simultaneous purchase of convertible bonds and the short sale of the same issuer's
common stock is a hedge fund strategy known as convertible arbitrage. The
motivation for such a strategy is that theequity optionembedded in a convertible bond
is a source of cheap volatility, which can be exploited by convertible arbitrageurs.

In limited circumstances, certain convertible bonds can be sold short, thus depressing
the market value for a stock, and allowing the debt-holder to claim more stock with
which to sell short. This is known as death spiral financing

Disadvantages of Convertible Debenture:

To convert the debentures into shares, if these are new:

They dont pass immediately through the quotations.
The securities have a less quotation price due that temporarily they have lesser rights.
They are less liquid, due that there is a lesser amount of them.
You cant dispose of money soon due to the former explanation. Usually the type of
interests that they offer is inferior to that of the ordinary debentures due that they offer
the additional advantage of placing them as shares on the markets

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5th CHAPTER:
CLASSIFICATION OF INDIAN DEBT MARKET
Indian debt market can be classified into two categories:
Government Securities Market (G-Sec Market): It consists of central and state government
securities. It means that, loans are being taken by the central and state government. It is also
the most dominant category in the India debt market.
Bond Market: It consists of Financial Institutions bonds, Corporate bonds and debentures and
Public Sector Units bonds. These bonds are issued to meet financial requirements at a fixed
cost and hence remove uncertainty in financial costs.
ADVANTAGES:
The biggest advantage of investing in Indian debt instrument is its assured returns. The
returns that the market offer is almost risk-free (though there is always certain amount of
risks, however the trend says that return is almost assured). Safer are the government
securities. On the other hand, there are certain amounts of risks in the corporate, FI and PSU
debt instruments. However, investors can take help from the credit rating agencies which rate
those debt instruments. The interest in the instruments may vary depending
upon the ratings.
Another advantage of investing in India debt instrument is its high liquidity. Banks offer easy
loans to the investors against government securities.
DISADVANTAGES:
As there are several advantages of investing in India debt instrument, there are certain
disadvantages as well. As the returns here are risk free, those are not as high as the equities
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instrument at the same time. So, at one hand you are getting assured returns, but on the other
hand, you are getting less return at the same time.
Retail participation is also very less here, though increased recently. There are also some
issues of liquidity and price discovery as the retail debt instrument is not yet quite well
developed.

STRUCTURE OF INDIAN DEBT MARKET

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6th CHAPTER:
PARTICIPANTS IN DEBT MARKETS
Debt markets are pre-dominantly wholesale markets, with dominant institutional
investor participation. The investors in the debt markets concentrate in banks, financial
institutions, mutual funds, provident funds, insurance companies and corporates. Many of
these participants are also issuers of debt instruments.
The market participants in the debt market are:

Central Governments, raising money through bond issuances, to fund budgetary

deficits and other short and long term funding requirements.

Reserve Bank of India, as investment banker to the government, raises funds for the
government through bond and T-bill issues, and also participates in the market
through open- market operations, in the course of conduct of monetary policy.
Primary dealers, who are market intermediaries appointed by the Reserve Bank of
India who underwrite and make market in government securities, and have access to

the call markets and repo markets for funds.

State Governments, municipalities and local bodies, which issue securities in the
debt markets to fund their developmental projects, as well as to finance their

budgetary deficits.
Public sector units are large issuers of debt securities, for raising funds to meet the
long term and working capital needs. These corporations are also investors in bonds

issued in the debt markets.

Corporate treasuries issue short and long term paper to meet the financial
requirements of the corporate sector. They are also investors in debt securities issued

in the market.
Public sector financial institutions regularly access debt markets with bonds for
funding their financing requirements and working capital needs. They also invest in

bonds issued by other entities in the debt markets.

Banks are the largest investors in the debt markets, particularly the Treasury bond and
bill markets. They have a statutory requirement to hold a certain percentage of their
deposits (currently the mandatory requirement is 25% of deposits) in approved
securities (all government bonds qualify) to satisfy the statutory liquidity
requirements. Thus Bank Fixed Deposit investments are indirect way of investing in
Debt markets. They are arrangers of commercial paper issues of corporates. They are
also active in the inter-bank term markets and repo markets for their short term
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funding requirements. Banks also issue CDs and bonds in the debt markets.
Mutual funds have emerged as another important player in the debt markets, owing
primarily to the growing number of bond funds that have mobilised significant
amounts from the investors. Most mutual funds also have specialised bond funds such
as gilt funds and liquid funds. Mutual funds are not permitted to borrow funds, except
for very short-term liquidity requirements. Therefore, they participate in the debt

markets pre-dominantly as investors, and trade on their portfolios quite regularly.

Foreign Institutional Investors are permitted to invest in Dated Government

Securities and Treasury Bills within certain specified limits.

Provident funds are large investors in the bond markets, as the prudential regulations
governing the deployment of the funds they mobilise, mandate investments predominantly in treasury and PSU bonds. Thus provident fund investments are indirect

way of investing in Debt markets.

Charitable Institutions, Trusts and Societies are also large investors in the debt
markets. They are, however, governed by their rules and byelaws with respect to the
kind of bonds they can buy and the manner in which they can trade on their debt
portfolios.
(20132014)

REGULATORS OF DEBT MARKET

The Securities Contracts Regulation Act (SCRA) defines the regulatory role of
various regulators in the securities market. Accordingly, with its powers to regulate the
money and Government securities market, the RBI regulates the money market segment of
the debt products (CPs, CDs) and the Government securities market. The non Government
bond market is regulated by the SEBI. It regulates the manner in which money is raised and
to ensure a fair play for the retail investor. It forces the issuer to make the retail investor
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aware of the risks inherent in the investment and its disclosure norms The SEBI also
regulates the stock exchanges and hence the regulatory overlap in regulating transactions in
Government securities on stock exchanges have to be dealt with by both the regulators (RBI
and SEBI) through mutual cooperation. In any case, High Level Co-ordination Committee on
Financial and Capital Markets (HLCCFCM), constituted in 1999 with the Governor of the
RBI as Chairman, and the Chiefs of the securities market and insurance regulators, and the
Secretary of the Finance Ministry as the members, is addressing regulatory gaps and
overlaps.

7th CHAPTER
CLASSIFICATION OF DEBT MARKET ON THE BASIS OF
INSTRUMENTS TRADED

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Debt market is called by different names based on the types of debt instruments traded.

Bond Market: In the event that the market deals mainly with the trading of
government, semi-government, municipal and corporate bondissues, the debt market

may be known as abond market.

Credit Market: Where asset-backed mortgages and promissory notes are the main

focus of the trading, the debt market may be known as acredit market.
Fixed Income Market:When fixed rates are connected with the debt instruments, the
market is known as afixed incomemarket.
Generally, the instruments traded in the Bond and Credit market also have fixed

income rates and hence, come under Fixed Income Market. Amongst the above classification
the Bond Market with fixed rate instruments is highly traded in by the retail as well as
wholesale investors. Hence, debt markets are simultaneously called as the Bond Market as
well as Fixed Income Market.

SECTORS OF THE BOND MARKET

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From the perspective of a country the Bond Market is classified into two markets.

Internal Bond Market: The internal bond market of a country is also known as the
National Bond Market. It is divided into the domestic bond market and foreign bond
market. The domestic bond market is where issuers domiciled in the country issue
bonds and where those bonds are subsequently traded.
The foreign bond market is where issuers not domiciled in the country are issued and
traded. For example, in India the foreign bond market is the market where the bonds
are issued by non-Indian entities and then subsequently traded. Bonds in the foreign
sector of a bond market have nicknames and can be denominated in any currency.
Issuers of foreign bonds include central governments and their subdivisions,
corporations and supranational. A Supranational is an entity is formed by two or more
central governments to promote economic development of member countries, through
international treaties.

Foreign bonds must comply with the security laws in the country where they are
issued. Foreign bonds issued in India must meet same legal requirements as complied

with by the domestic bond issuers.

External Bond Market: The external bond market includes bonds with the following
distinguishing features:
They are underwritten by an international syndicate.
At issuance, they are offered simultaneously to investors in a number of
countries.
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They are issued outside the jurisdiction of any single country.

They are in unregistered form.
The external bond market is referred to as the international bond market, the offshore
bond market, or, more popularly as the Eurobond market. Eurobonds are classified
based on the currency in which the issue is denominated.

CONCLUSION

For a developing economy like India, debt instruments are crucial sources of capital funds.
The debt instrument in India is amongst the largest in Asia. It includes government securities,
public sector undertakings, other government bodies, financial institutions, banks, and
companies.
Transparency and easy accessibility to the markets with introduction of financially
engineered instruments has led to volumes in the market. The corporate bond investments
have seen a upsurge due to role of credit rating and other financial services in the Fixed
Income Sector.
Still, there is lot to go between a Bank FD and Post Office FD to G-Sec and other Fixed
Income Securities not only primarily in small towns but also in cities. Public awareness,
availability of broking services, reduction in minimum investment caps will bring out the
actual potential of the Fixed Income Market.

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An investor can invest in money market mutual funds for a period of as little as one day.
Avenues are also available for investing for longer horizons according to your risk
appetite.
In conclusion, the ability of a continuously evolving and self-propelling enterprise is its
ability to not only learn and adapt to changes and opportunities, but also to make full use of
them as and when possible.

BIBLIOGRAPHY

http://www.franklintempletonindia.com/downloadsServlet?docid=i3kgj8fp
http://business.mapsofindia.com/india-market/debt.html
http://www.moneycontrol.com/glossary/fixed-income/what-are-debt-marketinstruments_4087.html
http://indianmoney.com/how/what-are-the-different-types-of-debt-instrumentsavailable-in-india
http://www.investopedia.com/walkthrough/corporate-finance/3/bonds/market.aspx
http://www.akcapindia.com/Knowledge.aspx?linkId=0458F7F3-DFA5-4007-AB7AB654FCA6F86C
http://www.crisil.com/bond-market/pdf/2015/crisil-yearbook-on-the-indian-debtmarket-2015.pdf
http://www.livemint.com/Opinion/rn5OoH2KhB9RVTGxT8ujEN/India-needs-a-

robust-corporate-bond-market.html\
http://iosrjournals.org/iosr-jbm/papers/Vol4-issue4/G0444650.pdf

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