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Debt Concept of Fixed Income Products
Concept of Fixed Income Products Back
 
Debt instruments are contracts in which one party lends money to another on pre-determined terms with regard to rate of interest to be paid by the borrower to the lender, the periodicity of such interest payment, and the repayment of principal amount borrowed (either in installments or bullet). In the Indian securities market we generally use the term ‘bond’ for debt instruments issued by the central and state governments and public sector organisation, and the term ‘debentures’ for instruments issued by Private corporate sector.
 
The principal features of a bond are:
In the bond markets, the terms maturity and term-to-maturity are used quite frequently.
 
Maturity  of a bond refers to the date on which the borrower has agreed to pay (redeem) the principal amount to the lender, the borrowing is extinguished with redemption, and the bond ceases to exist after that date. Term to maturity, on the other hand, refers to the number of years remaining for the bond to mature. Term to maturity of a bond changes everyday from the date of issue of a bond until its maturity. Coupon rate refers to the periodic interest payments that are made by the borrower (who is also the issuer of the bond) to the lender (the subscriber of the bond) and coupons are stated upfront either directly specifying then number (e.g. 8%) or indirectly tying with a benchmark rate (e.g. MIBOR+0.5%). Coupon rate is the rate at which interest is paid, and is usually represented as a percentage of the par value of a bond. Principal is the amount that has been borrowed, and is also called the par value or face value of the bond. The coupon is the product of the principal and coupon rate. Typical face values in the bond market are Rs.100 though there are bonds with face values of Rs.1000 and Rs.100000 and above. All government bonds have the face value of aRs.100. In many cases, the name of the bond itself conveys the key features of a bond. For example a GS CG2008 11.40%. Since the central government bonds have a face value of Rs.100, and normally pay coupon semi-annually, this bond will pay Rs.5.70 as six-monthly coupon, until maturity when the bond will be redeemed.
 
The term to maturity   of a bond can be calculated on any date, as the distance between such a date and the date of maturity, when the bond will be redeemed. The term to maturity of a bond can be calculated on any date, as the distance between such a date and the date of maturity. It is also called the term or the tenor of the bond. For instance on February 17,2004, the term to maturity of the bond maturing on May 23, 2008 will be 4.27 years. The general day count convention in bond market is 30/360, European that assumes total 360 days in a year and 30 days in a month.
 
There is not rigid classification of bonds on the basis of their term to maturity. Generally bonds with tenor of 1-5 years are called short-term bonds; bonds with tenors ranging 4 to 10 years are medium term bonds and above 10 years are long-term bonds. In India central government has issued upto 30-year bonds.
 
Bonds can be issued in secured or unsecured form. Normally bonds issued in the form of debentures are secured. Bond issued by Financial Institutions offer attractive returns. Interest under the scheme is paid monthly, quarterly, half yearly, annually and on maturity. Most of the bonds provide flexibility, liquidity and safety. The flexibility can be seen from the range of options provided (i.e.) frequency of return/tenure/tax benefits etc. Bonds provide good liquidity, option to withdraw on pre-specified dates, listing on major stock exchanges, avail loans from banks by pledging bonds/securities.

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