The East India Company played a huge role in bringing the concept of public
borrowing. The East Indian Company started borrowing during the eighteenth
century to finance its campaigns in South India. The debt which was owed by the
government to the public was referred as the public debt. Debts are taken from
public with the view to meet the deficit in revenue of the government.
In India, the first borrowing was made in 1867 for the purposes of railway
construction. Apart from that a rise in public debt was also encountered during
the first world war. Interest rate of bonds varied in India from time to time.
In 1857 it came down to 5% and gradually to 4% in 1871.
Bonds are regarded as securities under Section 2(h) of the Securities Contract
(Regulation) Act, 1956. Bonds could be referred as loans provided by investors
to the organizations. Bonds have interest rates at which they are redeemed after
a certain maturity period. The borrower has obligation to pay interest on the
principal amount. The interest is termed as coupons in the Indian Bond Market.
There are various types of bonds which currently exists in the Indian Bond
The plain vanilla bond is the simplest amongst all bonds. The bonds that
currently exists are callable bonds, puttable bonds, zero coupon bond,
amortizing bond, zero coupon bond, floating rate bond, government securities,
and corporate bonds. The study would be focused on an overview of the Indian
Bond Market. Apart from that a comparison between Indian and US bond market
would also be drawn to acknowledge recommendations.
Bonds and its types
The bond market has seen significant changes with the emergence of
liberalization in India. it has influenced several foreign investors to hold 30%
of financials in the bond market of India . The bond market plays an immense
role in raising funds by government and companies for expansion. The
understanding of different types of bonds would be helpful in acknowledging the
purposes of adapting each bond significantly.
Plain vanilla bond
Plain vanilla bond is the simplest form of debt. It requires the periodical
payment of interest at a fixed rate. The principal amount is required to be
returned with the maturity of the bond . This type od bond also allow slight
variations in redemption price or make changes in the payment of frequency of
interest quarterly, monthly, or annually.
Zero coupon bond
Zero coupon bond are such that they do not pay any coupons during the period of
bond. This kind of bond is issued at a discount to the face value and redeemed
at face value. The benefit gained from this kind of bond is the discounted price
in face value and its difference with face value price while redeeming .
Especially, in this kind of bond there must be no intermediate payments of
coupon during the term of bond.
Floating rate bond
Floating rate bonds could be regarded as those bonds in which the interest rate
is not fixed. In this case a pre-determined benchmark is considered, and the
interest rate is re-set periodically. These are also known as variable rate
bonds and adjustable rate bonds. The referred terms are used only in cases when
the coupon rates are set at longer intervals.
Callable bonds are of such nature that it allows the issuer to redeem the bonds
before the original maturity date arrives. These kinds of bonds have call option
in the contract which provides the issuer to make alterations in the period of
the security. The main disadvantage in this kind of bond is that the investor
might lose his position to secure higher interest. This is because the issuer
might call bonds while the interest rates decline and then re-issue fresh bonds
at lower interest.
Puttable bonds provide the investor a right to redeem bonds before its actual
date of redemption. This is opposite from callable bonds because the investor
has discretion to exit the bond at any point of time . The investors could exit
from low coupon bonds and invest in high coupon bonds.
Amortizing bonds refer to those bonds where the principal is not repaid when the
bond matures. Payment is made periodically within the life cycle of bond. These
periodic payments include both the interest and principal amount. Home loans,
auto loans, and consumer loans are some examples of amortizing bonds.
Government securities are those that include government bonds issued by
governmental bodies at various levels. Government securities also known as G-secs
include central governmental bonds, quasi-government bonds are issued by state,
local, and municipal governments. Investment in government securities are
secured because they could be considered free of default or credit risk . The
government has authority to increase taxes for the purpose of meeting its
obligations. Apart from that they could also borrow easily from others or print
notes to repay the debts in extreme cases.
Corporate sector debt includes two sectors namely, the public sector units and
private corporate sectors. The Corporate Bond Market is usually comprised of
short-term commercial papers and long-term commercial papers. Certificate of
deposit which comes under corporate bond market are short term debts issued by
banks . The rate fixed by corporates, banks, and institutions depend upon the
credit quality of borrower. The default risk or credit risk is measured by
credit rating of the bond. If the credit rating is higher then the risk of
default becomes less.
Advantages and disadvantages of bond market
There are various benefits and risk of investment in the debt market. However,
the risk element of debt market is separate from that of equity market . Most
importantly, the rate of interest in debt market is determined previously by the
Advantages of bond marketIncome is fixed:
Bonds have pre-decided coupon rates mutually agreed between the issuer and
investor. This coupon rate is foxed at the time when issuance is made. The
period of payment of interest is decided by entering a debt contract. Therefore,
the issuer is obliged to pay interest unlike equity where the variables are not
fixed . Bonds are ideal for persons who have interest in incurring less risk.
The debt is held for a stipulated period in case of bonds. As soon as the
principal amount has been repaid to the investor, the security strives to
Bonds as a source of income:
There are several types of investments available in the market. Bonds amongst
such forms of investments could be considered as the most reliable source of
income. This is because the rate of interest is pre-determined in case of bonds
. Even when the interest rate is low, investors could invest in high yield bonds
Bonds are a secured mode of investment. It helps in reducing the risk and
preserve the capital for a longer time. The amount of risk is less in case of
bonds and return is higher. This helps the equity investors to preserve their
capital at times when the market is falling.
Preservation of principal:
Investors who have the need to preserve their capital for a fixed period are the
best persons to invest in bonds. Stocks or equity have high volatility than
bonds and hence the preservation of capital could not be made.
There are certain types of bonds which enables to get tax advantages. For
instance, a municipal bond is tax free bond. Investors mostly opt for government
bonds to get tax advantages.
Disadvantages Of Bond Market
Lower returns in case of inflation:
Returns received from returns are fixed and predictable. However, loses could be
incurred when the inflation rate rises than the percentage of return . For
instance, if the coupon rate is 8% and the inflation rate rises above 8% then
there rises a problem.
Credit risks persists when the issuer makes defaults in payments of interest or
the principal amount. The only advantage lies in case of government bonds. The
default risk could be avoided if invested in government bonds.
Risk of reinvestment:
There are certain debt securities which provides the option to choose between
periodic payment of interest and re-investing . Risk arises before the investors
when they pull out the interest and face problems in investing in same coupon or
higher than that.
This type of risk persists in case of callable bonds. The issuer has the option
to call bonds at lower interest and re issue debts at lower interest rates. This
leads the investors to reinvest in lower interest rates.
Risk of liquidity:
Stock market is different from bonds in terms of liquidity. Bonds are not as
flexible as equities. The dominance created in the secondary market created by
the institutional investors creates difficult for small investors to sell bonds.
This results in holding of bonds by investors till they reach the maturity date.
There are three limitations:
Difference between bonds and stocks
- The price of bonds increases if the market rates goes down. This creates
difficulty in selling of bonds at higher price
- In case the rates rise then the investors face difficulty in switching
to higher rates bond
- The decrease in credit quality increase the credit risk
Since, 1926 the big companies have provided investors annual return of 10% on
average. Whilst the government bonds have provided annual return between 5 to 6%
on average. The main difference between stocks and bonds is the risk appetite.
Generally, the younger generation have the tendency to take more risk than the
Apart from that both the different from each other because of their nature.
Bonds are more income oriented whereas equities are more growth oriented.
Investors who seek to make earnings on a regular basis and require cash for
their case might invest in bonds. On the other hand, investors who have could be
comfortable with irregular payments get inclined towards equity investment.
Debt instruments like bonds have certain period of maturity which lies between 7
days to 30 years. Investors who are interested in investing for short period of
time might invest in bonds whereas equity investment provide long term benefit
mostly. However, day to day trading is also done in equities. In short term
equity investment, the risk is much higher due to fluctuations in prices.
The most important difference between bond and equity is the risk appetite.
Debts instruments are more stable than that of equity. Bonds carry risk only in
default of paying interest or principal amount. On the other hand, equity does
not assure any return in the principal invested.
Unlike bonds there is no pre-agreed rate of interest between the issuer and
investor. If a company is sound and healthy then it provides profit. In case the
company fails to maintain its sustainability then there is loss. The risk of
investment in case of equity is much higher than that of bonds.
Lastly, investors who are willing to keep continuous review of their investments
mostly prefer equity. In case of bonds, the investors tend to buy and keep such
instrument till maturity.
Development of Indian Bond Market
The emergence of liberalization in India has impacted the bond market majorly.
With liberalization there has been complete evolution of the bond market and has
been rapidly increasing ever since. The Indian debt market includes both
government as well as corporate bonds. However, liquidity of government bonds is
more feasible than that of corporate bonds.
With the emergence of liberalization, doors have been opened for global market
to invest in debt and semi-debt instruments. For instance, Euro bonds and
Foreign Currency Convertible Bonds (FCCB) are also available for trading in
India. Indian issuers have the availability of the Floating Rate Notes to bring
liquidity in the market. Floating Rate Notes provides the investors to avoid
losses while the interest rates go high . It rather helps in keeping a balance
for the purpose of maintaining its value.
Government bonds have significantly impacted the bind market to develop
steadily. It has helped in creating an increase in supply, bringing reforms, and
enhance infrastructures. The Indian government have been borrowing since 1990
has grown rapidly over the year. There was an increase in 5% of the GDP in the
fiscal year 2001-2002.
Since then the growth process has remained strong in the Indian economy. As per
the report provided by Asian Development Bank in 2008, the economy has risen in
India by 8.5% annually for the past four years . However, due to the current
pandemic Covid-19 in the year 2020, economy has drastically contracted to 23.9%
Trading of bonds in India is done electronically through Negotiated Dealing
System-Order Matching Segment (NDS-OM). Apart from that over the counter (OTC)
trading is also made for some transactions. In the year 2007, the Securities and
Exchange Board of India (SEBI) had launched certain initiatives to make sure
that comprehensive reporting is done for over the counter trade.
To ensure fairness and transparency, the Securities and Exchange Board of India
provided a new circular in the year 2014 . OTC trading is mostly done in cases
of corporate bonds as they do not have liquidity like government bonds.
Securities and Exchange Board of India had taken the statutory power since 1992.
It has strived to make developments in the discipline of capital market. The
equity market was much more liberal than that of the bonds market. In 2005,
which indicates that after 11 years of the equity market, the bond market was
made as an electronic order limit market.
In today's date the Indian Bond Market is traded electronically and greatly
monitored by legal authorities. The Indian Bond Market is governed by the
Securities and Exchange Board of India. SEBI received its statutory powers in
the year 1992 from the Securities and Exchange Board of India Act, 1992.
The Debt Market which is also regarded as Fixed Income Securities is one of the
earliest securities markets in the world. It has helped in empowering economic
growth over the years. The debt market is the largest capital market in the
world. The debt market could be regarded as the pillars of Indian economy. The
Indian economy which has risen by more than 7% per annum since the past decade
and growing in fast pace could meet the requirements of resources from a
Government securities or G-secs are the oldest and one of the largest traded
securities in the Indian Market. they play an especially important role in
strengthening the Indian economy. They strive to set a benchmark of interest
rate through the yields in government securities. G-secs are risk-free rate of
return in any economy. Though retail investors focus more on government
securities yet there is another market for corporate debt papers which are for
The retail debt market has huge opportunities for retail investors who does not
have ample knowledge to enter equity market. More than 40 million investors have
entered the debt market. stock exchanges like the Bombay Stock Exchange carry
out various campaigns to create the retail debt market. The retail debt market
was prevalent in India through the forties, fifties, and sixties. Currently,
there is a requirement to create a change in the portfolio and include debt
instruments like bonds.
This is because due to the volatility in the equity market, investors would
require a fixed income return which could mostly be availed from the Indian Bond
Market. The debt market in India is dominated by Government Securities. It holds
almost 50-70% of the trading volumes . The outstanding value of G-secs is around
90-95% in the Indian market.
Bonds are more predictable than that of equity. This is because they provide
interest periodically or annually unlike equity who might end up incurring
losses or yield when invested for a longer term. By making investments in bonds,
investors could preserve their capital and receive predictable interest income.
Apart from that bonds also help in creating diversification in the investment
portfolio. The reason being bonds consider predictable returns they could be
sought for retirement planning.
While the economy has been seeing downward trends, bonds are a secured place for
investment. However, in comparison with other economies across the globe like
US, Japan, Korea, and China Indian Bond Market requires a lot of funding and
investment. In the year 2010, the size of Indian Bond Market was approximately
equivalent to 27% of the Chinese bond and 29% of the Korean bond .
From the discussed it could be identified that corporate bond market is quite
smaller in India as compared with India and other Asian economies. Liquidity in
the corporate bond market could mitigate the problem easily. According to the
reports provided by the Securities and Exchange Board of India in 2012 the
outstanding corporate bonds amounted to 9 trillion and contributed almost 10.5%
in the GDP. India has been more focused towards banking system and other
Corporate bonds have lagged because of their narrow investor base,
unavailability of access for small and medium enterprises, high costs of
issuance, and lack of liquidity in the security market. Investments in bond
depends upon the goal an investor seeks to achieve.
It is important to keep diversification for the purpose of meeting various
needs. Investments in one basket could lead towards a greater risk and low
returns at times. Thus, it could be conclusively determined that choosing of
different bonds with various maturities helps in managing risk and meeting of
cash flow needs.
Award Winning Article Is Written By: Ms.Soumi Saha
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