Modules for Beginners
Debt and Securities
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Glossary: 20 terms you should know about the debt market
In its simplest form, debt is a sum of money that one party borrows from another. The borrower can be an individual, a company, a bank, or even the government. Similarly, the lender can also be an individual, a company, or a bank. The sum of money borrowed is to be repaid as per the terms and conditions of the contract between the lender and the borrower.
2. Secured debt
Sometimes, lenders require a collateral security that they can fall back on in case the borrower defaults on the loan. For example, say you want to purchase a house, and you approach a bank for a home loan. The bank lends you the amount, and in return, secures the house you purchase as collateral for the loan. In the event that you fail to repay the loan, the bank can seize the asset and shield themselves from the loss arising on account of the default. These loans, which are backed by collaterals, are secured debts.
3. Unsecured debt
A debt that is not backed by any collateral is known as an unsecured debt. In the case of unsecured debt, the lender relies on good faith and the borrower’s credit history as assurance that the loan will be repaid. Some examples of unsecured debt that you may have come across in everyday life include personal loans and credit cards.
4. Corporate debt
Corporate debt is debt that is accumulated by companies - both private and public. Companies require money for various purposes like business expansion, regular operations, or even a business process overhaul. While some companies resort to bank loans to fund these requirements, others issue debt instruments like bonds. In both cases - whether companies opt for loans or issue debt instruments - they will need to repay the corporate debt.
5. Government debt
Government debt, also known as public debt, refers to the borrowings in the name of the government. Just like individuals and corporates, the government also requires funds to carry out its operations and complete various projects. The government, in such cases, can either resort to loans or issue debt instruments. The total outstanding debt of the government represents the government debt.
6. Government securities
Government securities are tradable debt instruments issued by central and state governments. They represent the government’s debt to the investor, who essentially takes on the role of a creditor to the government. These debt instruments are backed by the government. The guarantee that the government gives assures you that the debt will be certainly repaid. This guarantee is known as sovereign guarantee.
7. Treasury bills
Treasury bills or T-bills are short-term debt instruments. They are issued by the Central Government of India. State governments cannot issue treasury bills. T-bills are issued with three different maturity periods:
- 91 days
- 182 days
- 364 days
T-bills are zero coupon instruments. This means that treasury bills do not pay you any interest. Instead, they are issued at a discount and then, upon maturity, they are redeemed at face value.
8. Cash Management Bills
Cash Management Bills are also debt instruments issued to meet the temporary cash flow requirements of the central government. CMBs were introduced in the Indian financial markets only recently, in 2010. Just like treasury bills, cash management bills are also zero coupon instruments, so they do not pay any interest to the investor. Instead, they are issued at a discount and redeemed at face value, thereby giving you a positive return on your investment. The key difference between T-bills and CMBs is the tenure. While T-bills have three different tenures (91 days, 182 days and 364 days), as you saw in the previous section, cash management bills mature within 91 days.
9. Dated G-Secs
Dated G-Secs are long-term debt instruments issued by the government. They can be issued by the central and the state governments, and their maturity periods vary from around 5 years to 30 years or more, depending on the type of dated G-Sec. These instruments are called dated securities because their names contain the date of maturity.
10. Fixed rate bonds
Fixed rate bonds, as the name makes it evident, offer interest at a fixed rate throughout the investment tenure, right up to maturity. The interest is paid out half-yearly, and, at the end of the tenure, the principal is returned to the investor.
11. Floating rate bonds
Unlike fixed rate bonds, floating rate bonds do not come with a fixed rate of interest. The interest rate is variable, and it is reset at predetermined intervals such as every six months or each year. This continues right up to maturity.
12. State Development Loans
Much like the central government, state governments also require additional funds from time-to-time to carry out their developmental activities. And to meet these requirements, they also issue debt instruments in the form of SDLs or State Development Loans. They are issued only by the state governments in India. SDLs help fund the activities of the state governments and satisfy their budgetary needs. Similar to dated G-Secs, SDLs also pay interest half-yearly. They come in a wide range of investment tenures.
13. Corporate bonds
Corporate bonds are debt instruments that are issued by private and public companies in India. These debt securities are issued to investors - both institutional and retail - and the company that issues the corporate bond utilizes the funds mobilized for the specific purposes. In return, investors are paid interest at periodic intervals regularly throughout the tenure of the bond. At the end of the tenure, on the redemption date, the company returns the principal to the investor.
14. Bond yield
Bond yield is the rate of return on the amount you invest in a bond. There are three types of yield: the coupon rate, the current yield and the Yield to Maturity (YTM).
15. Liquid funds
Liquid funds invest in debt instruments that are highly liquid in nature. Generally, liquid funds have a short maturity period of up to 91 days. In addition to being liquid, these funds are also relatively much safer with very low amounts of risk. Collateralized Lending & Borrowing Obligations (CBLOs), Certificates of Deposit (CD), Treasury Bills (T-bills), and Commercial Paper (CP) are some of the instruments that these funds invest in.
16. Fixed Maturity Plans
Fixed Maturity Plans are basically close-ended debt mutual funds that carry a fixed maturity date. They’re very similar to term deposits. These funds typically invest in instruments with a pre-determined maturity period that’s slightly less than the period of maturity of the fund. Upon maturity, the fund is automatically redeemed at the present NAV and the proceeds are returned to the investors. Although they are close-ended funds, FMPs are listed on the stock exchange and can be sold to meet your liquidity requirements.
17. Gilt funds
The term ‘gilt’ refers to government securities. And as the name implies, these funds invest only in government securities. Since the instruments are all issued by the government, they carry absolutely no risk of default whatsoever. That said, the market value of these funds tends to shift in accordance with the interest rates in the country.
For instance, if the interest rates fall, the market value of these funds rise up and vice versa. The maturity period of gilt funds is generally very long. They tend to start at around 3 years and go all the way up to 20 years.
18. Monthly Income Plans
Monthly Income Plans are funds that invest in a mix of both equity and debt instruments. These funds typically invest not more than 30% of their funds in equity, with the rest going towards debt securities. As the name indicates, MIPs provide investors with a regular source of income in the form of dividend and interest payouts. That said, there’s no dividend guarantee and the payment of the same is subject to availability of profits.
19. Capital Protection Oriented Funds
CPFs are specially crafted debt funds that're designed to prevent erosion of investment capital. The focus of these funds is primarily towards protection of capital instead of guaranteed returns or capital appreciation. Being close-ended debt funds, CPFs invest around 80% of their funds in AAA-rated bonds (which are among the bonds with the highest credit ratings), and the remaining funds go towards equity.
20. Dynamic bond funds
Dynamic bond funds invest in debt securities with widely varying maturity periods. Such funds are actively managed by fund managers who have the freedom and the flexibility to invest in debt instruments that are in line with their interest rate views. In an environment where the interest rates are rising, the fund manager actively invests in debt funds with short maturity periods, and vice versa.
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