Introduction

The marketable debt issued by the Government and Semi-Government bodies which
represents a claim on the Government is called Government Securities. It is also called as giltedged security. Government Securities are issued for the purpose of refunding the maturing
securities for advance refunding of securities which have not yet matured, and raising fresh
cash resources. Treasury Bills and Bonds are the examples of Government Securities. One of the
important features of the Government Securities is that they are considered to be totally secured
financial instruments. They ensure safety of both capital and income.
Central Government Securities are the safest amongst all securities. Thus Government
Securities are unique and important financial instruments in the financial market of any country.
These securities are normally issued in the denomination of Rs.100 or Rs.1000. the face value,
which was Rs.100 till the middle of 1980, was raised to Rs.1000 in the recent years. These
instruments are liquid and safe and hence the rate of interest on these instruments is relatively
lower.
There are three forms of Central and State Government Securities. Stock certificate,
Promissory note and bearer bond. Bearer bonds and stock certificates are not very popular in
India Government Securities currently are in the form of Promissory notes.
Government securities are issued by Central Government, State Government, SemiGovernment authorities like Municipal corporations, Port Trusts, State Electricity Boards, Public
Sector Enterprises and other Government agencies like IFCI, ICICI, IDBI, NABARD,SIDC S and
Housing Boards. These agencies supply government securities and the demand essentially comes
from banks, financial institutions and other investors. RBI plays an active role in the purchase
and sale of these securities as a part of its monetary management exercise. There is no
underwriting or guaranteeing required in the sale of Government Securities, as Reserve Bank of
India is Policy-bound to buy a substantial portion of the loan unsubscribe by the public. Dealings
in Government Securities are made through the mechanism provided by the Reserve Bank of
India. The Brokers and Dealers are approved by the RBI who is eligible to deal in these
securities.
One of the important features of the Government Securities is that they offer wide
ranging tax incentives to the investors. Therefore, these securities are popular in the market.
Investors in these securities get tax rebate under the Income Tax Act. The Central Government
securities have high profile of liquidity. However, state government and local government
securities have limited liquidity.
The government securities market in India has two segments, namely, primary market
and secondary market. The issue of securities by Central and State Government constitute the
primary market. The secondary market comprises the exchange of these securities by the banks,
financial institutions, insurance companies, provident funds trusts, primary dealers, individuals
and Reserve Bank of India. The Public Debt

Office (PDO) of the RBI undertakes to issue government securities. A notification for the issue
of securities is made a few days before the public subscription is open. The opening of the
subscription depends on the response of the market and varies between two to three days. The
issue is made in a number of branches in order to avoid flooding of securities in the market. It
facilitates smooth subscription to securities and helps to avoid sudden liquidity problems in the
market. The offices of RBI and SBI receive applications for the securities. Government reserves
the right to retain over-subscription up to a pre-specified percentage which is normally 10
percent in excess of the notified amount of issue.

EVOLUTION
The genesis of the Government Securities market arises from the requirement of the
Government to fund its deficit, which is primarily met out of borrowings. Thus, the level of
deficit determines the amount of market borrowings by the Government. In almost all the
developed countries, Government securities market is much wider and deeper than equity
market. India, however, till recently was an exception to this trend and equity market still
commanded a major share, as the Indian debt market was in its nascent stage.

Pre-reform period
Prior to liberalization of 1990s, the Government securities market was underdeveloped
partly because of inefficient market practices and partly because of limited institutional
infrastructure. Further, in order to keep the cost of Government borrowings low, the coupon rates
offered on Government securities remained negative in real terms (i.e. after factoring in inflation)
for several years till about mid-eighties. The Reserve Bank of India also had little control over
some of the essential facets of debt management, like volume and maturity profile of debt and
the interest rate structure. This, coupled with automatic monetization of budget deficit without
any limits, prevented the development of a deep and vibrant Government securities market. A
retail market for Government securities simply did not exist. With a captive investor base
through Statutory Liquidity Ratio (SLR) prescription and interest below the market rate,
secondary market for Government bonds remained dormant.
Against the above backdrop and in the context of the overall economic reforms,
development of the Government securities markets was initiated in the 1990s through carefully
and cautiously sequenced measures within a clear cut agenda for primary and secondary market
design.

Post-Reforms Developments
In the post reforms era, considering the significance of a vibrant Government securities
market for activating internal debt management policy, a number of measures were introduced.
One major step in the reforms process was the elimination of the automatic monetization
of the Centrals fiscal deficit by gradually phasing out ad hoc treasury bills, in 1997. A system of
Ways and Means Advances (WMA) to the Central Government, subject to mutually agreed limits

at market-related rates, was put in place instead, to meet mismatches in the cash-flows. Such
phasing was necessary to permit the development of the money markets and for a credible
benchmark rate to emerge.
The RBI reserves the right to trigger floatation of fresh Government loans as and when
the actual utilization crosses 75% of the limit, WMA does not acquire the cumulative character
of ad hocs. This enables the RBI to accommodate the Government as its discretion and helps
impose market discipline.

Features of Government Securities

I.

II.

Governments of India Securities are sovereign debt obligations of Government of India.

Government Securities, thus, is a constituent of national debt along with State

Government Securities, Treasury bills and Government guaranteed bonds.

III.

The tenors of Government securities range from two to thirty years.

IV.

Coupons offered on Government Securities are either pre-determined by RBI or arrived

through competitive bidding or auction process.

V.

Issues have varied from fixed semi-annual coupons and bullet redemption on maturity, to
zero coupon bonds, floating rate bonds and also securities which are partly paid up at the
time of the issue.

VI.

Coupons are fixed and paid out semi-annually to the holder of the security (except zero
coupons).

VII.

Nomenclature: The coupon rate and year of maturity identifies the government security.
Example: 12.25% GOI 2008 indicates the following: 12.25% is the coupon rate, GOI
denotes Government of India, which is the borrower, and 2008 is the year of maturity.

VIII.

Eligibility: All entities registered in India like banks, financial institutions, Primary
Dealers, firms, companies, corporate bodies, partnership firms, institutions, mutual funds,

Foreign Institutional Investors, State Governments, Provident Funds, trusts, research

organizations, and even individuals are eligible to purchase Government Securities.

IX.

Availability: Government securities are highly liquid instruments available both in the
primary and secondary market. They can be purchased from Primary Dealers.

X.

Forms of Issuance of Government Securities: Banks, Primary Dealers and Financial

Institutions have been allowed to hold these securities with the Public Debt Office of
Reserve Bank of India in dematerialized form in accounts known as Subsidiary General
Ledger (SGL) Accounts. Entities having a Gilt Account with Banks or Primary Dealers
can hold these securities with them in dematerialized form.

XI.

Minimum Amount: In terms of RBI regulations, government dated securities can be

purchased for a minimum amount of Rs. 10,000/-only. Treasury bills can be purchased
for a minimum amount of Rs 25000/- only and in multiples thereof. State Government
Securities can be purchased for a minimum amount of Rs 1,000/- only.

XII.

Repayment: Government securities are repaid at par on the expiry of their tenor. The
different repayment methods are as follows:
1) For SGL account holders, the maturity proceeds would be credited to their current
accounts with the Reserve Bank of India.
2) For Gilt Account Holders, the Bank/Primary Dealers would receive the maturity
proceeds and they would pay the Gilt Account Holders.
3) For entities having a demat account with NSDL, the maturity proceeds would be
collected by their DP's and they in turn would pay the demat Account Holders.

XIII.

Day Count: For government dated securities and state government securities the day
count is taken as 360 days for a year and 30 days for every completed month. However
for Treasury bills it is 365 days for a year.

TYPES OF GOVERNMENT SECURITIES

Government of India (GOI) Securities is sovereign debt obligations/instruments. They are

issued by Reserve Bank of India (RBI) on behalf of the Government to finance deficit and public
sector development programs.

Main Types:
1) Government of India Securities issued by Government of India.
2) State Government Securities issued by the state Governments.
3) Agency Bonds issued by Government agencies or public sector undertakings wherein
the principal and interest are guaranteed by the Central Government or one of the
state Governments.

Government Securities are further classified in the following types:

1) Dated Securities: are generally fixed maturity and fixed coupon securities usually carrying
semi-annual coupon. These are called dated securities because these are identified by their
date of maturity and the coupon, e.g., 11.03% GOI 2012 is a Central Government security
maturing in 2012, which carries a coupon of 11.03% payable half yearly.
The key features of these securities are:
a. They are issued at face value.
b. Coupon or interest rate is fixed at the time of issuance, and remains constant till
redemption of the security.
c. The tenor of the security is also fixed.
d. Interest /Coupon payment is made on a half yearly basis on its face value.
e. The security is redeemed at par (face value) on its maturity date.

2) Zero Coupon bonds: are bonds issued at discount to face value and redeemed at par. These
were issued first on January 19, 1994 and were followed by two subsequent issues in 199495 and 1995-96 respectively. The key features of these securities are:
a. They are issued at a discount to the face value.
b. The tenor of the security is fixed.

c. The securities do not carry any coupon or interest rate. The difference between the
issue price (discounted price) and face value is the return on this security.
d. The security is redeemed at par (face value) on its maturity date.

3) Partly Paid Stock: is stock where payment of principal amount is made in installments over
a given time frame. It meets the needs of investors with regular flow of funds and the need of
Government when it does not need funds immediately. The first issue of such stock of eight
year maturity was made on November 15, 1994 for Rs. 2000 crore. Such stocks have been
issued a few more times thereafter. The key features of these securities are:

a. They are issued at face value, but this amount is paid in installments over a specified
period.
b. Coupon or interest rate is fixed at the time of issuance, and remains constant till
redemption of the security.
c. The tenor of the security is also fixed.
d. Interest /Coupon payment is made on a half yearly basis on its face value.
e. The security is redeemed at par (face value) on its maturity date.

4) Floating Rate Bonds:

are bonds with variable interest rate with a fixed percentage over a
benchmark rate. There may be a cap and a floor rate attached thereby fixing a maximum and
minimum interest rate payable on it. Floating rate bonds of four year maturity were first
issued on September 29, 1995, followed by another issue on December 5, 1995. Recently
RBI issued a floating rate bond, the coupon of which is benchmarked against average
yield on 364 Days Treasury Bills for last six months. The coupon is reset every six
months

The key features of these securities are:

a. They are issued at face value.
b. Coupon or interest rate is fixed as a percentage over a predefined benchmark rate at
the time of issuance. The benchmark rate may be Treasury bill rate, bank rate etc.

c. Though the benchmark does not change, the rate of interest may vary according to the
change in the benchmark rate till redemption of the security. The tenor of the security
is also fixed.
d. Interest /Coupon payment is made on a half yearly basis on its face value.
e. The security is redeemed at par (face value) on its maturity date.

5) Bonds with Call/Put Option:

First time in the history of Government Securities market

RBI issued a bond with call and put option this year. This bond is due for redemption in 2012
and carries a coupon of 6.72%. However the bond has call and put option after five years i.e.
in year 2007. In other words it means that holder of bond can sell back (put option) bond to
Government in 2007 or Government can buy back (call option) bond from holder in 2007.
This bond has been priced in line with 5 year bonds.

6) Capital indexed Bonds: are bonds where interest rate is a fixed percentage over the
wholesale price index. These provide investors with an effective hedge against inflation.
These bonds were floated on December 29, 1997 on tap basis. They were of five year
maturity with a coupon rate of 6 per cent over the wholesale price index. The principal
redemption is linked to the Wholesale Price Index.
The key features of these securities are:
a. They are issued at face value.
b. Coupon or interest rate is fixed as a percentage over the wholesale price index at the
time of issuance. Therefore the actual amount of interest paid varies according to the
change in the Wholesale Price Index.
c. The tenor of the security is fixed.
d. Interest /Coupon payment is made on a half yearly basis on its face value.
e. The principal redemption is linked to the Wholesale Price Index.

PARTICIPANTS IN THE
GOVERNMENT SECURITIES MARKET
Primary Issuance Process:
The issue of Government securities is governed by the terms and conditions specified in
the general notification of the Government and also the terms and conditions specified in the
specific notification issued in respect of issue of each security.

Who can apply:

Any person including firm, company, corporate body, institution, state government,
provident fund, trust, NRI, OCB predominantly owned by NRIs and FII registered with SEBI
and approved by RBI can submit offers, including in electronic form, for purchase of
Government securities.

Denomination:
For Central Government securities, the minimum denomination is Rs. 10000 and trading
takes place in multiples of Rs. 5 crores. For state Government securities, it is Rs. 1000 and
trading takes place in multiples of Rs. 1-5 crores. For agency bonds, it is Rs.5000 and in
multiples thereof.

Mode of payment:
Payments for the securities are made by the applicants on such dates as mentioned in the
specific notification, by means of cash or cheque drawn on RBI or Bankers pay order or by
authority to debit their current account with RBI or by Electronic Fund Transfer in a secured
environment.

RECENT DEVELOPMENTS
The RBI has undertaken reforms in the Government Securities Market. The RBI has
started providing liquidity support with regard to mutual funds that are dedicated exclusively to
investment in Government Securities. The purpose is to create an enhanced and wider investor
base for such securities. The support is made available to mutual funds to the extent of 20
percent of outstanding investment in Government Securities, either by way of outright purchase
or reverses repos, Banks and selected entities are permitted to carry out Ready Forward (REPO)
transactions in government Securities.
As regards to Market to Market valuation of Government Securities, the ratio of
investment classified in current category for public sector banks has been raised from 40 percent
to 50 percent and for the new private sector banks it has been fixed at 100 percent of their
investments. The RBI has extended the Delivery v/s payment system with regard to auctioning of
treasury bills with effect from February 14, 1996 to the banks. With effect from October 21, 1997
all categories of foreign Institutional investors were allowed by the RBI to make Investment in
Government Securities that are registered with and approved by the SEBI for making
investments in gilt-edged securities has been permitted up to a ceiling of 30 percent in debt
instruments. As per amended guidelines of June, 1998 equity funds were permitted to invest in
dated Government Securities and Treasury bills, both in Primary and Secondary Markets within
their 30 percent debt ceiling. Uniform price auction was introduced on November 6, 1998
regarding the auction of 91 days Treasury bills on an experimental basis.

With effect from June, 23, 1998. Satellite Dealers were permitted to issue commercial
paper with maturity ranging from 15 days to one year. There were some conditions. The issue
should be made within a period of 2 months of obtaining credit rating and every renewal is
treated as a fresh issue. The issue should be made in the multiple of Rs. 5 lakhs with a minimum
of investment by a single investor being Rs. 25 lakhs. The aggregate limit is raised within two
weeks from the date of RBI approval and the issue is not underwritten or co-accepted in any
manner. The RBI and the Government have made arrangement for the setting up of a clearing
corporation to provide for the opening of the repo market to PSU bonds and bonds of financial
institutions held in demat form in depositories and traded in recognized Stock Exchanges with
essential safeguards.

RISKS INVOLVED IN HOLDING GOVERNMENT SECURITIES

AND TECHNIQUES FOR MITIGATING SUCH RISKS
Government securities are generally referred to as risk free instruments, in view of
The fact that sovereigns are not expected to default on their payments. However, as is the
case with any financial instrument, there are risks associated with holding the Government
securities. Hence, it is important to identify and understand such risks and take appropriate
measures for mitigation of the same. The following are the major risks associated with holding
Government securities.
Market risk Market risk arises out of adverse movement of prices of the securities that
are held by an investor due to change in interest rates. This will result in booking losses on
marking to market or realizing a loss if the securities are sold at the adverse prices. Small
investors, to some extent, can mitigate market risk by holding the bonds till maturity so
that they can realize the yield at which the securities were actually bought.
Reinvestment risk Cash flows on a Government security includes fixed coupon every
half year and repayment of principal at maturity. These cash flows need to be reinvested
whenever they are paid. Hence there is a risk that the investor may not be able to reinvest
these proceeds at profitable rates due to changes in interest rate scenario.
Liquidity risk Liquidity risk refers to the inability of an investor to liquidate (sell) his
holdings due to non availability of buyers for the security, i.e., no trading activity in that
particular security. Usually, when a liquid bond of fixed maturity is bought, its tenor gets
reduced due to time decay. For example, a 10 year security will become 8 year security after
2 years due to which it may become illiquid. Due to illiquidity, the investor may need to sell
at adverse prices in case of urgent funds requirement. However, in such cases, eligible
investors can participate in market repo and borrow the money against the collateral of the
securities.

IMPORTANT INFORMATION FOR INVESTOR REGARDING

INVESTMENT

1) How are the dealing transactions recorded by the dealing desk?

For every transaction entered into by the trading desk, a deal slip should be generated which
should contain data relating to nature of the deal, name of the counter-party, whether it is a
direct deal or through a broker (if it is through a broker, name of the broker), details of
security, amount, price, contract date and time and settlement date. The deal slips should be
serially numbered and verified separately to ensure that each deal slip has been properly
accounted for. Once the deal is concluded, the deal slip should be immediately passed on to
the back office (it should be separate and distinct from the front office) for recording
and processing. For each deal, there must be a system of issue of confirmation to the
counter-party. The timely receipt of requisite written confirmation from the counter-

party, which must include all essential details of the contract, should be monitored by the back
office. With respect to transactions matched on the NDS-OM module, the need for
counterparty confirmation of deals matched on NDS-OM will not arise as NDS-OM is an
automated order
matching system wherein trades are automatically executed on
matching buy/sell orders. However, in case of trades finalized in the OTC market and
reported on NDS, confirmations have to be submitted by the counterparties in the system.

2) What a r e t h e i m p o r t a n t c o n s i d e r a t i o n s w h i l e u n d e r t a k i n g s e c u r i t y
transactions?

The following steps should be followed in purchase of a security:

i)
Identify which security to invest in Typically this involves deciding on the
maturity and coupon. Maturity is important because this determines the extent of
risk an investor like an UCB is exposed to higher the maturity, higher the interest
rate risk or market risk. If the investment is largely to meet statutory requirements, it
may be advisable to avoid taking undue market risk and buy securities with shorter
maturity. Within the shorter maturity range (say 5-10 years) it would be safer to buy
securities which are liquid, that is, securities which trade in relatively larger
volumes in the market. The information about such securities can be obtained from
the website of the CCIL (http://www.ccilindia.com/OMMWCG.aspx), which gives
real-time secondary market trade data on both NDS and NDS-OM. Since pricing is
more transparent in liquid securities, prices for these securities are easily obtainable
thereby reducing the chances of being misled/misinformed on the price in these

cases. The coupon rate of the security is equally important for the investor as it
affects the total return from the security. In order to determine which security to buy,
the investor must look at the Yield to Maturity (YTM) of a security (please refer to
Box III under para 19.4 for a detailed discussion on YTM). Thus, once the maturity
and yield (YTM) is decided, the UCB may select a security by looking at the
price/yield information of securities traded on NDS-OM or by negotiating with bank
or PD or broker.
ii)

Where and Whom to buy from- In terms of transparent pricing, the NDS-OM is the
safest because it is a live and anonymous platform where the trades are disseminated
as they are struck and where counterparties to the trades are not revealed. In case the
trades are conducted on the telephone market, it would be safe to trade directly with a
bank or a PD. In case one uses a broker, care must be exercised to ensure that the
broker is registered on NSE or BSE or OTC Exchange of India. Normally, the
active debt market brokers may not be interested in deal sizes which are smaller
than the market lot (usually Rs.5 crore). So it is better to deal directly with bank / PD
or on NDS-OM, which also has a screen for odd-lots. Wherever a broker is used, the
settlement should not happen through the broker. Trades should not be directly
executed with any counterparties other than a bank, PD or a financial institution, to
minimize the risk of getting adverse prices.

iii)

How to ensure correct pricing Since investors like UCBs have very small
requirements, they may get a quote/price, which is worse than the price for standard
market lots. To be sure of prices, only liquid securities may be chosen
for
purchase.
A safer alternative for investors with small
requirements is to buy under the primary auctions conducted by RBI through
the non-competitive route. Since there are bond auctions about twice every month,
purchases can be considered to coincide with the auctions. Please see question 12
for details on ascertaining the prices of the Government securities.

3) Why does the price of Government security change?

The price of a Government security, like other financial instruments, keeps fluctuating
in the secondary market. The price is determined by demand and supply of the securities.
Specifically, the prices of Government securities are influenced by the level and changes in
interest rates in the economy and other macro-economic factors, such as, expected rate of
inflation, liquidity in the market, etc. Developments in other markets like money, foreign
exchange, credit and capital markets also affect the price of the government securities.
Further, developments in international bond markets, specifically the US Treasuries affect
prices of Government securities
in India. Policy
actions by RBI
(e.g.

announcements regarding changes in policy interest rates like Repo Rate, Cash Reserve
Ratio, Open Market Operations etc.) Can a ls o a ffec t th e p ri c es o f government
securities.

http://in.investing.com/rates-bonds/india-10-year-bond-yield-historical-data