DEBT MARKET

By
Nishant Bali
AGENDA
o Introduction of Debt Market
o Participants and products of debt market
o Few terms in Debt Market
o Types of Bonds
o Wholesale Debt Market (WDM) and Retail Debt Market (RDM)
o Repo and Reverse Repo
o Duration in Bond Market
o Convexity
o Relation between YTM and Bond Price
o Relationship between Maturity and Yield
o Callable and Puttable Bonds
o Brokerage Charges
o NSE MIBID/MIBOR
 Introduction of Debt Market

o Debt market : A market where fixed income securities are issued and trade

o Share of debt market is much larger than equity market in US, i.e. is close to
$31.4 trillion which is nearly equal to the total GDP of all countries taken
together

o Total size of Indian debt market is in the range of $92 billion to $100 billion i.e.
approximately 30% of Indian GDP.

o Debt market consists of three segments

– Government security market
– Public sector undertaking bond market(PSU)
– Corporate security market

o Govt. securities market accounts for more than 90% of the total turnover
 Few terms in Debt Market

o Maturity

o Coupon rate

o Principle

o Yield to Maturity (YTM)

o Current yield
 Types of Bonds
o Zero Coupon Bond

o Treasury STRIPS

o Floating Rate Bonds

o Deferred interest bonds

o Step-up bonds

o Deep discount bond

o Senior versus subordinate Bonds

o Catastrophe bonds

o Junk Bonds
 CONTI….
o Indexed bonds : Example
 Wholesale Debt Market (WDM) and
Retail Debt Market (RDM)
o WDM commenced operation on June 13, 1994 .

o Large investors like corporate, banks, FII’s actively trade in this market

o An increase of 14.57% in trading value to Rs 49,205 crore in April 2009 as

compared to Rs.42,949 crore in February 2009 .
 CONTI……

o Security-wise Distribution of WDM Trades : April 09

 Retail Debt Market (RDM)

o RDM on NSE has been introduced in January 16, 2003

o Participant includes all classes of investors across the country (including retail
investors).

o Trading in Retail Debt Market is permitted under Rolling Settlement i.e. ( T+2) .

o Eligibility:
• Members who are registered members of NSE
• Members in WDM only, can participate in RDM on submission of a letter in the prescribed
format.
o Silent features of RDM
• CM of Capital Market and TM of the WDM allowed to participate in clearing and Settlement
with minimum net worth of Rs.1 crore.
• Mark to market margins will be applicable on all-open positions and payable on T+1 basis .
 Repo and Reverse Repo
o Repo or Repurchase Agreements are short-term money market
instruments .
o What are Repo Transactions ?
o What are Reverse Repo Transactions ?
 Duration in Bond Market
o Biggest risks in the bond market - interest rate risk .
o Duration measures how quickly a bond will repay its true cost .
o Duration means “till at what time the interest rate
cannot change the amount that we can receive” .
o Example: a government bond which is having face value Rs 1000,
coupon rate 15%, YTM 17% , maturity 3 years and repayment @
4% premium.
 BOND CONVEXITY

o Relationship between price and yield has a convex structure in nature .

Price

Yield

o Tangent line (red) is know as the bond's duration .

o Tangent line shows the rate of change in price as interest rates change .
o Smaller changes in yield , duration does a good job in estimating the actual
price .
 Relation between YTM and Bond Price

o Inverse relation between the YTM and Bond Price .

o YTM> Coupon rate then Intrinsic value<Face value and vive a versa.

o Example : Vo = I/(1+Kd)^t + F/(1+kd)^n.

o Here Kd = YTM. Higher the Kd, lower the present value or V0.
 Relationship between Maturity and Yield
o Three main pattern created by term structure .

o Normal Yield Curve:

Yield

Maturity

o Flat Yield Curve:

 CONTI…..

o Inverted Yield Curve:

Yield

Maturity

o Why the investors chooses invest in such type of Inverted yield Curve?
o When economy faces slowdown ahead
o Lock their investments today, to get better return ahead.
 Callable Bonds

o Gives the right to the issuer to purchase the bond from the investor before
the maturity.
o Borrower purchase the bond when YTM<Coupon rate .
o Disadvantage to the investors:-
o Face Re-investment risk.
o Sacrifice the gain, because of low interest rate

2000
Straight Bond
1500

1300

1100
Callable
800 Bond

4% 7% 9% 11% 13% 15%

 Puttable Bonds

o Puttable bonds are inverse of Callable bonds.

o Investors sell the bond to the borrower at discount i.e. YTM> Coupon rate.
o Advantage to the investors:-
o Again Re-investment at higher rate .
 Brokerage Charges
o NSE has specified the maximum rates of brokerage
o The rate for central government securities ranges from 5 paise
to 25 paise .
Conti….
o These rates are used as benchmarks for majority of deals struck for interest rate
swaps, forward rate agreements .
o MIBID/ MIBOR are based on rates polled by NSE from a representative panel of 33
banks/institutions/primary dealers .
o The rates polled are then processed using the bootstrap method to arrive at an
efficient estimate of the reference rates .