All You Need To Know About Debt Markets

Debt is integral to the functioning of any modern economy, affecting individuals, private sector corporations as well as government entities. A debt market, where the debt of various entities are bought and sold, is a big enabler of liquidity and thus ensures the smooth functioning of the country’s economic engine. India’s debt market is one of Asia’s largest, bringing together those who want to issue debt and those who want to profit from it.

Basic features of the debt market in India

In the Indian debt market, fixed income securities are traded. From an investor’s point of view, fixed income instruments are low-risk, even though they may offer less returns than other assets like, say, equity. Much of the debt market is made up of government bonds and corporate securities.

While these bonds carry a fixed rate of return, how much money an investor makes from them will depend on the movement of interest rates. Generally traders do not hold these bonds till maturity while buying and selling, and their returns will depend on what is called `yield’, and yields will go down when interest rates rise, and go up when they fall.

Let’s see how this works. Let’s take the example of a debt fund that has government bonds with a coupon rate of 8 per cent in its portfolio. The government thereafter raises interest rates to 10 per cent. The yield of government bonds that the debt fund already has in its portfolio thus loses in value because the newer bonds will have a higher coupon rate. Therefore the yields will fall, as does the debt fund’s NAV, leading to losses for investors.

Debt can be issued by central and state governments and local bodies like municipal corporations. The other players in this market include banks and financial institutions, public sector units, public limited companies as well as other private companies.

How is the debt market in India classified?

The Indian debt market is classified into two broad categories:

Government Securities Market: Also referred to as the G-sec market, this comprises securities issued by the central and the state government. G-sec securities are considered risk-free, which explains their popularity among investors.

Corporate Bond Market: The bond market comprises bonds and debentures issued by financial institutions, corporates and public sector units. These are issued to meet the financial requirements of the various entities at fixed costs. From the investor perspective, these involve a higher risk than government bonds, but lower than equities.

Importance of debt market

The debt market plays a crucial role in the Indian Economy such as:

• It aids efficient mobilisation and resources allocation within an economy.
• It helps finance the development plans initiated by the government.
• It facilitates liquidity management aligned to an investor’s short and long term financial goals.
• It prevents the government from taking foreign aid for the development of the country.

Debt instruments traded in India

You can find a wide range of debt instrument in the debt market in India such as:

Government Securities: Government securities are issued by the RBI on behalf of the Indian government. These come with maturity periods ranging from 1 to 30 years and offer a fixed rate of interest. The RBI also issues treasury bills for shorter durations of 91, 182 and 364 days.

Corporate Bonds: These are issued by PSUs and private companies and can come with long tenures lasting up to 15 years. These bonds are comparatively riskier than government securities, since there is some risk of default if a company is in financial difficulties. However returns are higher compared to government securities.

Certificates of deposit: These debt market instruments typically provide higher returns than bank savings accounts. They are issued in demat form and may also be given as Usance Promissory notes. CoDs are offered by various institutions including banks, financial institutions and financial agencies, and have different maturity periods.

Commercial paper: Commercial paper is a short-term security with maturity periods of seven to 365 days and are issued by corporate entities.

Nirav Singhaniya is a Financial Advisor and Share Marketer with 10 years of experience. In his free time, he likes to research on stock trading and share market trends.