BOND MARKETS Presented By Group 2

Indian Debt Market - Pillars of the Indian Economy

The Debt Market plays a very critical role for any growing economy which need to employ a large amount of capital and resources for achieving the desired industrial and financial growth. The Indian debt market is today one of the largest in Asia and includes securities issued by the Government (Central & State Governments), public sector undertakings, other government bodies, financial institutions, banks and corporates.

DEBT MARKET SIZE

The Indian debt markets is the largest segment of the Indian financial markets. (Source RBI & CCIL) Outstanding issue size of Government securities (Central and state) close to Rs.13,474 billion (or Rs. 1,34,7435 crore) Secondary market turnover of around Rs 56,033 billion (in the previous year 2007)

DEBT MARKET SIZE

INCREASED FROM $ 13 BILLION IN 2006 TO $ 20 BILLION IN 2007 Non-government sector expected to grow to $ 575 BILLION $ BY 2016,ACCORDING TO A GOLDMAN SACHS REPORT

INTRODUCTION
The Bond Market is the financial market where debt securities or bonds are traded. Those buying these bonds become the creditors of the company. The most distinguishing feature of these instruments is that the return is fixed i.e. they are as close to being risk free as possible, if not totally risk free

Contd.

The debt market in India can be divided into two categories 1. The government securities market or the GSec markets consisting of central government and state government securities (therefore loans being taken by the central and state governments) 2. Bond market consisting of FI (financial institutions) bonds, PSU (public sector units) bonds and corporate bonds/debentures.

Pros n cons
Pros The returns are risk free. High liquidity. Loans can be easily procured from banks against govt. securities Cons The returns are not as high as securities markets. The retail debt market is not very well developed

Types of bonds
Dated Securities Zero Coupon Bonds Capital Indexed Bonds Fixed Income Instruments issued by corporates T-Bills

T-Bills
Treasury bills (T-bills) offer short-term investment opportunities, generally up to one year. At present, the Government of India issues three types of treasury bills through auctions, namely, 91-day, 182-day and 364-day. Treasury bills are available for a minimum amount of Rs.25,000 and in multiples of Rs. 25,000. Treasury bills are issued at a discount and are redeemed at par. Treasury bills are also issued under the Market Stabilization Scheme (MSS).

Dated Securities
These instruments are of the face value of Rs 100, which the buyer has to pay upfront. The return is pre-decided. This is known as the coupon rate or the interest rate. The interest rate indicates the amount that will be paid out by the government every year till maturity. Time to maturity is fixed. When the security matures the face value will be returned to the holder

Zero Coupon Bonds

ZCBs are available at a discount to their face value. There is no interest paid on these instruments but on maturity the face value is redeemed from the RBI The difference between the issue price (discounted price) and face value is the return on this security

Capital Indexed Bonds

Capital indexed bonds have interest rates as fixed percentage over the wholesale price index The purpose is to provide investors with an effective hedge against inflation They are issued at face value. The coupon is fixed as a percentage over the WPI

Fixed Income instruments issued by Corporates

The companies issue debentures, which have a face value and fixed coupon rate Debentures can be converted into shares depending on the type of the instruments Those that cannot be converted are known as NCD (non-convertible debentures). Some of the debentures can be partly converted to stocks. These are known as PCDs (partly convertible debentures). Those debentures that can be fully converted into stocks are known as FCDs (fully convertible debentures).

Calculation of Yields
Current Yield-The current yield calculates the percentage return that the annual coupon payment provides the investor. In other words, this yield calculates what percentage the actual coupon payment is of the price the investor pays for the bond.

Current Yield= Coupon Rate 100 Purchase Price

Contd.

Yield to Maturity-YTM is discount rate that equates present value of the all the cash inflows to the cost price of the government security (market price), which is actually the Internal Rate of Return of the government security. The concept of Yield to Maturity assumes that the future cash flows are reinvested at the same rate at which the original investment was made.

Contd.

YTM = I+(F-M)/N (F+M)/2 where I = Annual interest Rate F = Face value of bond M = Market price of the bond N = Number of years to maturity

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Types of Risk Bondholders Face

Interest Rate Risk
The risk of a bond changing in value when interest rates change. This affects all bonds regardless of credit quality, but is more severe for longer maturity bonds. The risk that investors will be unable to reinvest the coupon payments at the coupon rate. This is more important for high coupon bonds. The risk that the firm will go bankrupt and not make all payments to bondholders.

Reinvestment Risk

Default (Credit) Risk

Other Risks: Inflation, Liquidity

Factors that affect valuations of debt instruments

Monetary policy Economic growth Fiscal policy Inflation Attractiveness of debt market

Wholesale Debt Market

The Wholesale Debt Market (WDM) segment commenced operations on June 30, 1994. This provided the first formal screen-based trading facility for the debt market in the country. Provides trading facility for G-secs, TBills, Bonds issued by PSUs, commercial papers, corporate debentures etc

WHOLESALE DEBT MARKETMAJOR PLAYERS

BANKS FIs RBI Primary Dealers Insurance Companies Provident Funds MFs Corporates FIIs

TYPES OF TRADE IN THE WDM

1. 2. OUTRIGHT SALE OR PURCHASE REPO TRADE-Also known as Ready Forward Trade, trade which is intended to be reversed at a later point in time at a rate which will include interest component for the remaining period, one participant sells the securities to the other with an agreement to purchase them back at a later date Advantages:Facilitates creation of liquidity by permitting the seller to avail a specific sum of money in lieu of interest payment
Broken Period Concept

G-SEC
Government securities, also called the gilt edged securities or G-secs-free from default risk, provide reasonable returns and offer the most suitable investment opportunity to provident funds. The Government Securities market is the oldest and the largest component of the Indian debt market in terms of market capitalization, outstanding securities and trading volumes. The G-Secs market plays a vital role in the Indian economy as it provides the benchmark for determining the level of interest rates in the country through the yields on the government securities which are referred to as the risk-free rate of return in any economy

Growth in WDM
The Debt Segment has shown a gradual but consistent growth in turnover in the past few years with increased participation from the mainstream banking and institutional players. This Segment expects a sustained rise in turnover and participation in the coming years with the initiation of activity by new Members and the continued support and participation of major banks, Primary Dealers and institutions.

Transformations in the Market Structure

The first half of the twentieth century had witnessed a significant amount of retail interest and participation in the G-Sec market with more than half the holdings of G-Secs issued being held by retail investors, a trend which continued until the early sixties. The Indian Debt Market structure was hitherto that of a wholesale market with participation largely restricted to the Banks, Institutions and the Primary Dealers. The volumes in the Wholesale Debt Market over the past few years are rapidly expanding showing attractive financial market with a strong potential for retail participation. The Retail Debt Market in India is being created, thanks to the pioneering efforts of the Exchanges and the market participants and the strong leadership and guidance by SEBI, RBI and the Govt. of India.

Govt. Initiative
The Hon'ble Union Finance Minister, while presenting the Union Budget for 2006-2007, accepted the recommendations of the High Level Committee on Corporate Bonds and Securitization and made a significant policy announcement about creation of a single, unified exchange-traded market for corporate bonds in India. SEBI has subsequently taken several steps towards creation of a vibrant Corporate Bond market. On July 2,2007 SEBI permitted BSE to launch a trade matching platform with essential features of an OTC Market. Several other initiatives like simplification of the Debt listing agreement, rationalization of stamp duty and introduction of Repos on Corporate Bonds have been taken by SEBI.

Retail Debt Market Segment (RDM)

The Retail Debt Market, in the new millennium, presents a vast kaleidoscope of opportunities for the Indian investor whose knowledge and participation hitherto has been restricted to the equity market. The development of the Retail Debt Market has engaged the attention of policy makers, regulators and the Government in the past few years. The potential of the Retail Debt Market can be gauged from the investor strength of more than 40 million in the Indian equity market

Emergence of the Retail Debt Market

It would surprise many to know that a retail debt market was at one point of time very much present in India. The growing investments in the Bond Funds and the Money Market Mutual Funds are a sign of the increasing recognition of this fact by the retail investors. Retail investors would have a natural preference for fixed income returns and especially so in the current situation of increasing volatility in the financial markets. The Central Government Securities (G-Secs) are the one of the best investment options for an individual investor today in the financial markets

WHY
Zero default risk - due to their sovereign guarantee, ensures the total safety of all investments in G-Secs Lower average volatility in bond prices Greater returns as compared to the conventional safe investment avenues like Bank Deposits and Fixed Deposits, which also contain credit risk Higher leverage -Greater borrowing capacity against G-Secs due to their zero risk status Wider range of innovations in the nature of securities like TBills, Index linked Bonds, Partly Paid Bonds and others like STRIPS and securities with call and put options to follow soon Better and greater features to suit a large range of investment profiles and investor requirements Growing liquidity and the increased turnover in recent times in the Indian Debt Markets

Retail Trading in G-Secs

The Government of India and RBI, in early 2000 announced a scheme for enabling retail participation through a noncompetitive bidding facility in the G-Sec auctions with a reservation of 5% of the issue amount for non-competitive bids by retail investors. The Retail Trading in G-Secs. commenced on January 16, 2003 . The Indian Fixed Income Markets, which until some time ago was the mainstay of the wholesale investors, were made accessible to the retail investors to enable retail trading in G-Secs through stock exchanges. The Indian Investor is today able to buy or sell G-Secs through the nationwide BSE BOLT Network of more than 7,000 terminals spread across 410 cities around the country.

The Retail Debt Market Module of BSE

The key features of the system are: Trading: by electronic order matching based on price-time priority through the BOLT. Retail Trading in G-secs is on a Rolling Settlements basis with a T+2 Delivery Cycle Clearing and Settlement: The Clearing and Settlement mechanism for the Retail trading in G-Secs is based on the existing institutional mechanism available at BSE. The trades executed throughout the continuous trading sessions are netted out at the end of the trading hours through a process of multilateral netting. The transactions are netted out member-wise and then scrip-wise so as to determine the net settlement and payment obligations of the Members.

..cont
The Delivery obligations and the payment orders in respect of these Members are generated by the Clearing and Settlement system of BSE. These statements indicate the pay-in and pay-out positions of the Members for securities and funds who then give the necessary instructions to their Clearing Banks and depositories. The entire risk management and the clearing and settlement activities for the trades executed in the Retail Debt Market System is undertaken by BSE Exchange Clearing House Holding and Transfer of G-Secs: The G-secs for retail trading through BSE can be held by investors in the same Demat account

FUTURE
The BSE Debt Market solution would soon provide live Internet trading on its state-of-the-art BSEWebx Trading System. The BSE Debt segment would seek to pave the way for the development of a healthy, efficient and active debt market mechanism and market structure in line with world class standards and greater integration with the global economy. This will truly help the Indian capital markets to attain a place of pride among the leading capital markets of the world