Debt Instruments

debt instruments

Debt instruments, in financial terms, represent a category of assets that signifies a contractual obligation for the issuer to repay the investor under predetermined terms. Essentially, when an individual, company, or government entity issues a debt instrument, they are essentially borrowing money from the investor. In return, the investor receives periodic interest payments and, upon maturity, the return of the principal amount.

These instruments play a fundamental role in the financial markets, providing a means for entities to raise capital and for investors to secure fixed income returns.

Debt Market

The debt market is where investors trade various debt instruments, offering regular interest payments and principal repayment at maturity. For instance, if Varun invests Rs. 100 in a debt instrument with a 10% return over 1 year, he receives Rs. 110 at maturity.

In India, entities like

  1. Central and State Governments,
  2. Municipal Corporations,
  3. Government agencies,
  4. Banks,
  5. NBFCs,
  6. Public Sector Units,
  7. and Corporates

are authorized by the Reserve Bank of India to issue these debt instrument.

Types of Debt Instruments in India

  1. Government Bonds:

    • Issued by central or state governments.
    • Considered a safe investment with a sovereign guarantee.
    • Can be bought through NSEGoBID or RBI Retail Direct.
  2. Debentures:

    • Issued by companies to raise funds.
    • Investors rely on the credit ratings of issuing companies.
    • Inherent risk, suitable for long-term investment.
  3. Fixed Deposits:

    • Popular, versatile investment product.
    • Offered by banks, NBFCs, and post offices.
    • Provides flexibility and liquidity.
  4. Debt Mutual Funds:

    • Invest in fixed-income products like government securities and corporate bonds.
    • Considered less volatile than equity funds.
    • Various types available, each serving different needs.
  5. Certificates of Deposit (CDs):

    • Short-term debt instruments issued by banks and financial institutions.
    • Minimum duration of seven days, maximum up to one year.
    • Individuals can invest a minimum of Rs. 5 lakh.
  6. Public Provident Fund (PPF):

    • Long-term investment product since 1968.
    • Minimum investment of Rs. 500, maximum Rs. 1,50,000 per year.
    • Offers guaranteed returns, tax-saving benefits under Section 80C.

Issuers of Debt Instruments 

In India, various entities are authorized to issue debt instruments, contributing to the diverse landscape of the debt market. The primary issuers include:

  1. Central and State Governments:

    • Issue government securities (G-Secs) and bonds.
  2. Municipal Corporations:

    • Issue bonds for local development projects.
  3. Government Agencies:

    • Engage in debt issuance for specific purposes.
  4. Banks:

    • Issue Certificates of Deposit (CDs) and bonds.
  5. Non-Banking Financial Companies (NBFCs):

    • Issue bonds and debentures.
  6. Public Sector Units:

    • Engage in debt issuance for funding and operations.
  7. Corporates:

    • Raise funds by issuing debentures and bonds.

Government Securities (G-Secs)

  1. Issued by the Reserve Bank of India on behalf of the Government of India.
  2. Dated government securities typically range from 1 to 30 years.
  3. Sovereign instruments with a fixed interest rate, paying interest semi-annually and principal as scheduled.
  4. For shorter terms, Treasury Bills (T-Bills) are issued (91 days, 182 days, 364 days).
  5. Provides a risk-free return (credit risk) to investors.

Corporate Bonds:

  • Issued by public sector undertakings and private corporations, usually for up to 15 years.
  • Some corporations issue perpetual bonds.
  • Generally higher risk compared to government bonds, dependent on the issuing corporation, market conditions, industry, and company rating.
  • Investors compensated with a higher yield than government bonds.

Certificate of Deposit (CD):

  1. Negotiable money market instruments issued in demat form or as Usance Promissory Notes.
  2. Banks issue CDs with a maturity of not less than seven days and not more than one year.
  3. Financial Institutions can issue CDs for a period between 1 year and up to 3 years.
  4. Offers a higher return than bank term deposits.
  5. Rated by approved agencies (e.g., CARE, ICRA, CRISIL, FITCH), enhancing tradability in the secondary market.
  6. Issued in denominations of Rs. 1 Lac and multiples thereof.

In the interconnected world of finance, these instruments work together, ensuring capital flows efficiently, interest rates respond to market dynamics, and the broader economy thrives. Whether you’re an investor or simply curious about the financial realm, understanding the symbiotic relationship between debt, money markets, and commercial papers is essential to comprehend the complex mechanisms that underpin our financial landscape.

G Akshay Associates