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Indian Debt Markets1NEERAJ GUPTAIndian Debt MarketThe Indian debt market is composed of money markets, short term debt and long term government bonds and corporate bonds. However, the Central government bonds are predominant and they form most liquid component of the bond market. In 2003, the National Stock Exchange (NSE) introduced Interest Rate Derivatives.

The components of debt market Money marketsShort term instrumentsLong term Instruments

NEERAJ GUPTA2Role of Debt in Indian EconomyEfficient mobilization and allocation of resources in the economyFinancing the development activities of the Government Transmitting signals for implementation of the monetary policy Facilitating liquidity management in tune with overall short term and long term objectives.

NEERAJ GUPTA3Why should one invest in fixed income securities? Fixed Income securities offer a predictable stream of payments by way of interest and repayment of principal at the maturity of the instrument. The debt securities are issued by the eligible entities against the moneys borrowed by them from the investors in these instruments. Therefore, most debt securities carry a fixed charge on the assets of the entity and generally enjoy a reasonable degree of safety by way of the security of the fixed and/or movable assets of the companyNEERAJ GUPTA4The investors benefit by investing in fixed income securities as they preserve and increase their invested capital and also ensure the receipt of regular interest income.

The investors can even neutralize the default risk on their investments by investing in Govt. securities, which are normally referred to as risk-free investments due to the sovereign guarantee on these instruments.

The prices of Debt securities display a lower average volatility as compared to the prices of other financial securities and ensure the greater safety of accompanying investments.

Debt securities enable wide-based and efficient portfolio diversification and thus assist in portfolio risk-mitigation.

NEERAJ GUPTA5Debt Markets in IndiaIn most of the countries, the debt market is more popular than the equity market. This is due to the sophisticated bond instruments that have return-reaping assets as their underlying. In the US, the corporate bonds (like mortgage bonds) became popular in the 1980s.However, in India, equity markets are more popular than the debt markets due to the dominance of the government securities in the debt markets. Moreover, the government used to borrow at a pre-announced coupon rate targeting a captive group of investors, such as banks.This, coupled with the automatic monetization of fiscal deficit which existed, prevented the emergence of a deep and vibrant government securities market.This is surprising considering the fact that India has a strong debt preference among households for their financial investment portfolio. Since the early 90s, Indian firms have become flexible in choosing the their capital structure optimally by virtue of significant structural changes in the Indian Capital Market.

NEERAJ GUPTA6Size Of Bond And Stock Markets World Over

NEERAJ GUPTA7The Structure of Indian Debt MarketNEERAJ GUPTA8

NEERAJ GUPTA9Participants and Instruments In Debt MarketsCentral Governments,raising money through bond issuances, to fund budgetary deficits and other short and long term funding requirements.Reserve Bank of India,as investment banker to the government, raises funds for the government through bond and t-bill issues, and also participates in the market through open-market operations.Primary Dealers,who are market intermediaries appointed by the Reserve Bank of India who underwrite and make market in government securities, and have access to the call markets and repo markets for funds.State Governments,municipalities and local bodies, which issue securities in the debt markets to fund their developmental projects, as well as to finance their budgetary deficits.Public Sector Unitsare large issuers of debt securities, for raising funds to meet the long term and working capital needs. These corporations are also investors in bonds issued in the debt markets.NEERAJ GUPTA10Public Sector Financial Institutionsregularly access debt markets with bonds for funding their financing requirements and working capital needs. They also invest in bonds issued by other entities in the debt markets.Banksare the largest investors in the debt markets, particularly the treasury bond and bill markets. They have a statutory requirement to hold a certain percentage of their deposits (currently the mandatory requirement is 24% of deposits) in approved securitiesMutual Fundshave emerged as another important player in the debt markets, owing primarily to the growing number of bond funds that have mobilized significant amounts from the investors.Foreign Institutional InvestorsFIIs can invest in Government Securities upto US $ 30 billion and in Corporate Debt up to US $ 25 billion.NEERAJ GUPTA11Provident Fundsare large investors in the bond markets, as the prudential regulations governing the deployment of the funds they mobilise, mandate investments pre-dominantly in treasury and PSU bonds. They are, however, not very active traders in their portfolio, as they are not permitted to sell their holdings, unless they have a funding requirement that cannot be met through regular accruals and contributions.Corporatetreasuries issue short and long term paper to meet the financial requirements of the corporate sector. They are also investors in debt securities issued in the debt market.Charitable Institutions, Trusts and Societiesare also large investors in the debt markets. They are, however, governed by their rules and byelaws with respect to the kind of bonds they can buy and the manner in which they can trade on their debt portfolios.

NEERAJ GUPTA12The Debt Markets in India and all around the world are dominated by Government securities, which account for between 50 - 75% of the trading volumes and the market capitalization in all markets. Government securities (G-Secs) account for 70 - 75% of the outstanding value of issued securities and 90-95% of the trading volumes in the Indian Debt Markets. State Government securities & Treasury Bills account for around 3-4 % of the daily trading volumes. The trading activity in the G-Sec. Market is also very concentrated currently (in terms of liquidity of the outstanding G-Secs.) with the top 10 liquid securities accounting for around 70% of the daily volumes.

NEERAJ GUPTA13Regulators in Debt MarketThe issue and trading of fixed income securities by each of these entities are regulated by differentbodies in India. For eg: Government securities and issues by Banks, Institutions are regulated by the RBI. The issue of non-government securities comprising basically issues of Corporate Debt is regulated by SEBI.NEERAJ GUPTA14Government SecuritiesGovernment securities(G-secs) are sovereign securities which are issued by the Reserve Bank of India on behalf of Government of India, to aid the Central Government's market borrowing programme. The term Government Securities includes:Central Government Securities. State Government Securities Treasury bills The Central Government borrows funds to finance its 'fiscal deficit'.The market borrowing of the Central Government is raised through the issue of dated securities and 364 days treasury bills either by auction or by floatation of loans.In addition to the above, treasury bills of 91 days are issued for managing the temporary cash mismatches of the Government.These do not form part of the borrowing programme of the Central Government.

NEERAJ GUPTA15Types of Government SecuritiesDated Securities are 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. 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 1994-95 and 1995-96 respectively

NEERAJ GUPTA16Types Of Govt Securities -ContdPartly 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. 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..

NEERAJ GUPTA17Types Of Govt Securities -ContdBonds with Call/Put Option: First time in the history of Government Securities market RBI issued a bond with call and put option this year (2002)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.It means that holder of bond can sell back (put option) bond to Government in 2007 orGovernment can buy back (call option) bond from holder in 2007. This bond has been priced in line with 5 year bonds.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.

NEERAJ GUPTA18Corporate BondsCorporate Bonds are issued by public sector undertakings and private corporations The tenor ranges upto 15 years. Companies like Reliance have also issued Perpetual BondsCompared to government bonds, corporate bonds generally have a higher risk of default. This risk depends, of course, upon the particular corporation issuing the bond, its rating, the current market conditions and the sector in which the Company is operating. Corporate bond holders are compensated for this risk by receiving a higher yield than government bonds. Bond with embedded call option that allows the issuer to redeem the debt before its maturity date, some carry a put-option for the benefit of the investors. Convertible bonds, allow investors to convert the bond into equity.

NEERAJ GUPTA19Indian Corporate Bond MarketCorporate bond market in India remains minuscule at 3.2 per cent of gross domestic product compared with about 108 per cent for the equity market, Report released by the Asian Development Bank lastIndian bond market is inactive due tocrowding out by the government, which borrows a great deal to fund its growing fiscal deficit. lack of buying interest,poor transparency Illiquidityabsence of pricing of spreads against the benchmark yield curve

NEERAJ GUPTA20

21NEERAJ GUPTAPrimary Market

22NEERAJ GUPTASecondary Market

23NEERAJ GUPTASecurity Wise Distribution

24NEERAJ GUPTAParticipant Wise

25NEERAJ GUPTAMoney Market Call / Notice Money

It is an important segment of the Indian money market. In this market, banks and primary dealers borrow and lend funds to each other on unsecured basis. If the period is more than 1 day and up to 14 days it is called notice money. Money lent for 15 days to 1 year is called term money.No brokers. Settlement is done between the participants through the current accounts maintained with the RBI.In general, the call money rate, referred to as the overnight MIBOR.

NEERAJ GUPTA26RepoRepurchase agreements are contracts for the sale and future repurchase of a financial asset, most often sovereign securities. On the termination date, the seller repurchases the asset at the price agreed at inception of the repo.The difference between the sale and repurchase prices represents interest for the use of the funds.A repo is essentially a short term interest bearing loan against collateral.A repo transaction for the borrower is a reverse repo transaction for the lender.

NEERAJ GUPTA27Collateralized Borrowing and Lending Obligation (CBLO)

As an alternative to the call money market, CCIL has developed CBLO, a money market instrument recognized by RBI.

An instrument issued at a discount and in electronic book entry form, for initial maturities ranging from one day to one year.

CBLO rates are generally comparable to market repo rates, both being secured transactions.

NEERAJ GUPTA28Treasury Bills

Promissory notes of the central government and therefore qualify as being free of credit risks.

Issued to meet short term funding requirements of the government account with Reserve Bank.

Sale is by auction. Any individual, corporate, bank, primary dealer or other entity is free to buy T-Bill.

Denominations of 91, 182 and 364 days.

NEERAJ GUPTA29Commercial Paper (CP)

Promissory notes issued by the corporate sector for raising short term funds.

Sold at a discount to face value.

Maturity can range between a minimum of 7 days and a maximum of 1 year.

CPs are required to be rated and the minimum rating eligibility is P2.

Every CP issue has an Issuing and Paying Agent (IPA), which has to be a scheduled bank.

Stamp duty is currently payable on CP issues, depending on the maturity and who the initial buyer is.

NEERAJ GUPTA30Certificate of Deposit (CD)

Similar to CPs except that the issuer is a bank.

Minimum amount of a CD can be Rs. 1 lakh and maturity between 7 days and 1 year.

Financial Institutions can issue CDs only for maturities between 1 and 3 years.

NEERAJ GUPTA31Types of Securities

Treasury Bills: Treasury bills (T-bills) are money market instruments, i.e., short-term debt instruments issued by the Government of India, and are issued in three tenors91 days, 182 days, and 364 days. The T-bills are zero coupon securities and pay no interest. They are issued at a discount and are redeemed at face value on maturity.

Cash Management Bills: Cash management bills (CMBs)3 have the generic characteristics of T-bills but are issued for a maturity period less than 91 days. Like the T-bills, they are also issued at a discount, and are redeemed at face value on maturity. The tenure, noti ed amount, and date of issue of the CMBs depend on the temporary cash requirement of the government. The announcement of their auction is made by the RBI through a Press Release that would be issued one day prior to the date of auction. The settlement of the auction is on a T+1 basis. 32NEERAJ GUPTADated Government Securities: Dated government securities are long-term securities that carry a xed or oating coupon (interest rate), which is paid on the face value, payable at xed time periods (usually half-yearly). The tenor of dated securities can be up to 30 years. State Development Loans: State governments also raise loans from the market.

State Development Loans (SDLs) are dated securities issued through an auction similar to the auctions conducted for the dated securities issued by the central government. Interest is serviced at half-yearly intervals, and the principal is repaid on the maturity date. Like the dated securities issued by the central government, the SDLs issued by the state governments qualify for SLR. They are also eligible as collaterals for borrowing through market repo as well as borrowing by eligible entities from the RBI under the Liquidity Adjustment Facility (LAF).

33NEERAJ GUPTATypes of Dated Government Securities

Fixed Rate Bonds: These are bonds on which the coupon rate is xed for the entire life of the bond. Most government bonds are issued as xed rate bonds.

Floating Rate Bonds: Floating rate bonds are securities that do not have a xed coupon rate. The coupon is re-set at pre-announced intervals (say, every 6 months, or 1 year) by adding a spread over a base rate. In the case of most oating rate bonds issued by the Government of India so far, the base rate is the weighted average cut-off yield of the last three 364-day Treasury Bill auctions preceding the coupon re-set date, and the spread is decided through the auction. Floating rate bonds were rst issued in India in September 1995. 34NEERAJ GUPTAZero Coupon Bonds: Zero coupon bonds are bonds with no coupon payments. Like T-Bills, they are issued at a discount to the face value. The Government of India issued such securities in the 90s; it has not issued zero coupon bonds after that.

Capital Indexed Bonds: These are bonds, the principal of which is linked to an accepted index of in ation with a view to protecting the holder from in ation. Capital indexed bonds, with the principal hedged against in ation, were rst issued in December 1997. These bonds matured in 2002. The government is currently working on a fresh issuance of In ation Indexed Bonds wherein the payment of both the coupon as well as the principal on the bonds would be linked to an In ation Index (Wholesale Price Index). In the proposed structure, the principal will be indexed and the coupon will be calculated on the indexed principal. In order to provide the holders protection against actual in ation, the nal WPI will be used for indexation.

35NEERAJ GUPTABonds with Call/Put Options: Bonds can also be issued with features of optionality, wherein the issuer can have the option to buy back (call option) or the investor can have the option to sell the bond (put option) to the issuer during the currency of the bond.

36NEERAJ GUPTASpecial Securities:

In addition to T-Bills and dated securities issued by the Government of India under the market borrowing program, the government also issues special securities, from time to time, to entities such as oil marketing companies, fertilizer companies, the Food Corporation of India, and so on as compensation to these companies in lieu of cash subsidies. These securities are usually long-dated securities carrying a coupon with a spread of about 2025 basis points over the yield of the dated securities of comparable maturity. These securities are, however, not eligible SLR securities, but are eligible as collateral for market repo transactions. The bene ciary oil marketing companies may divest these securities in the secondary market to banks, insurance companies, primary dealers, etc., for raising cash. 37NEERAJ GUPTASeparate Trading of Registered Interest and Principal of Securities (STRIPS)

Steps are being taken to introduce new types of instruments such as the STRIPS (Separate Trading of Registered Interest and Principal of Securities). Accordingly, guidelines for the stripping and the reconstitution of government securities have been issued. The STRIPS are instruments in which each cash ow of the xed coupon security is converted into a separate tradable zero coupon bond and traded.These cash ows are traded separately as independent securities in the secondary market. The STRIPS in government securities will ensure the availability of sovereign zero coupon bonds, which will facilitate the development of a market-determined zero coupon yield curve (ZCYC).

The STRIPS will also provide institutional investors with an additional instrument for their asset-liability management. Further, as the STRIPS have zero reinvestment risk (being zero coupon bonds), they can be attractive to retail/non-institutional investors.

The process of stripping/reconstituting government securities is carried out at the RBI, the Public Debt Of ce (PDO) in the PDO-NDS (Negotiated Dealing System) at the option of the holder at any time from the date of issuance of a government security till its maturity

38NEERAJ GUPTA All dated government securities, other than oating rate bonds, having coupon payment dates on January 2 and July 2 (irrespective of the year of maturity) are eligible for stripping/ reconstitution.

The eligible government securities are held in the Subsidiary General Ledger (SGL)/ Constituent Subsidiary General Ledger (CSGL) accounts maintained at the PDO, RBI, Mumbai. Physical securities are not eligible for stripping/reconstitution. The minimum amount of securities that needs to be submitted for stripping/reconstitution will be ` 1 crore (face value) and multiples thereof.

39NEERAJ GUPTAIssuance of Government Securities

Government securities are issued through auctions conducted by the RBI. The auctions are conducted on an electronic platform called the NDSAuction platform. Commercial banks, scheduled urban co-operative banks, primary dealers, insurance companies, and provident funds, who maintain a funds account (current account) and securities account (SGL account) with the RBI are members of this electronic platform. All the members of the PDO-NDS can place their bids in the auction through this electronic platform. All non-NDS members, including non-scheduled urban co-operative banks, can participate in the primary auction through scheduled commercial banks or primary dealers.40NEERAJ GUPTAFor this purpose, the urban co-operative banks need to open a securities account with a bank / primary dealer; such an account is called a Gilt Account. A Gilt Account is a dematerialized account maintained by a scheduled commercial bank or primary dealer for its constituent (e.g., a non-scheduled urban co-operative bank). The RBI, in consultation with the Government of India, issues an indicative half-yearly auction calendar, which contains information about the amount of borrowing, the tenor of security, and the likely period during which auctions will be held. A Noti cation and a Press Communique giving the exact details of the securities, including the name, amount, type of issue, and the procedure of auction are issued by the Government of India about a week prior to the actual date of auction. The RBI places the noti cation and a Press Release on its website (www.rbi.org.in), and also issues an advertisement in leading English and Hindi newspapers.41NEERAJ GUPTAYield Based AuctionPrice Based AuctionAuctions42NEERAJ GUPTADifferent types of auctions used for issue of securities

Prior to the introduction of auctions as the method of issuance, the interest rates were administratively xed by the government. With the introduction of auctions, the rate of interest (coupon rate) gets xed through a market-based price discovery process. An auction may be either yield-based or price-based. Yield-Based Auction: A yield-based auction is generally conducted when a new government security is issued. Investors bid in yield terms up to two decimal places (for example, 8.19 percent, 8.20 percent, and so on). The bids are arranged in ascending order, and the cut-off yield is arrived at the yield corresponding to the noti ed amount of the auction. The cut-off yield is taken as the coupon rate for the security. Successful bidders are those who have bid at or below the cut-off yield. Bids that are higher than the cut-off yield are rejected

43NEERAJ GUPTAPrice-Based Auction: A price-based auction is conducted when the Government of India re-issues securities issued earlier. The bidders quote in terms of price per ` 100 of the face value of the security (e.g., ` 102.00, ` 101.00, ` 100.00, ` 99.00, etc. per ` 100). The bids are arranged in descending order, and the successful bidders are those who have bid at or above the cut-off price. Bids that are below the cut-off price are rejected. Multiple Price-Based: In a Uniform Price auction, all the successful bidders are required to pay for the allotted quantity of securities at the same rate, i.e., at the auction cut-off rate, irrespective of the rate quoted by them. On the other hand, in a Multiple Price auction, the successful bidders are required to pay for the allotted quantity of securities at the respective price/yield at which they have bid.44NEERAJ GUPTAHolding of Government SecuritiesPhysical FormDemat FormHoldingSGL A/CGILT A/C45NEERAJ GUPTAHolding of Government Securities

The Public Debt Ofce (PDO) of the Reserve Bank of India, Mumbai acts as the registry and central depository for the government securities. Government securities may be held by investors either as physical stock or in dematerialized form. From May 20, 2002, it is mandatory for all the RBI regulated entities to hold and transact in government securities only in dematerialized (SGL) form. Accordingly, the UCBs are required to hold all government securities in demat form. Physical form: Government securities may be held in the form of stock certi cates. A stock certi cate is registered in the books of the PDO. The ownership of stock certi cates cannot be transferred by way of endorsement and delivery. They are transferred by executing a transfer form as the ownership and transfer details are recorded in the books of the PDO. The transfer of a stock certi cate is nal and valid only when the same is registered in the books of the PDO46NEERAJ GUPTADemat form:Holding government securities in the dematerialized or scripless form is the safest and the most convenient alternative, as it eliminates the problems relating to custody, such as the loss of securities. Besides, transfers and servicing are electronic and hassle free. The holders can maintain their securities in dematerialized form in one of two ways:

47NEERAJ GUPTASGL Account: The RBI offers a Subsidiary General Ledger (SGL) account facility to select entities, who can maintain their securities in SGL accounts maintained with the PDO of the RBI.48NEERAJ GUPTA Gilt Account: As the eligibility to open and maintain an SGL account with the RBI is restricted, an investor has the option of opening a Gilt Account with a bank or a primary dealer that is eligible to open a Constituents Subsidiary General Ledger Account (CSGL) with the RBI. Under this arrangement, the bank or the primary dealer, as a custodian of the Gilt Account holders, would maintain the holdings of its constituents in a CSGL account (which is also known as an SGL II account) with the RBI. The servicing of the securities held in the Gilt Accounts is done electronically, facilitating hassle free trading and maintenance of the securities. The receipt of maturity proceeds and periodic interest is also faster, as the proceeds are credited to the current account of the custodian bank/PD with the RBI, and the custodian (CSGL account holder) immediately passes on the credit to the Gilt Account Holders (GAH). Investors also have the option of holding government securities in a dematerialized account with a depository (NSDL, CDSL, etc.). This facilitates the trading of government securities on the stock exchanges

49NEERAJ GUPTATrading of Government SecuritiesOTCNDSTradingNDS-OM50NEERAJ GUPTATrading in Government securitiesThere is an active secondary market in government securities. The securities can be bought/sold in the secondary market (i) over the counter (OTC), (ii) through the Negotiated Dealing System (NDS), or (iii) through the Negotiated Dealing System-Order Matching (NDS-OM). 51NEERAJ GUPTA Over the Counter/Telephone Market In this market, a participant who wants to buy or sell a government security may contact a bank/ primary dealer/ nancial institution either directly or through a broker registered with SEBI, and negotiate for a certain amount of a particular security at a certain price. Such negotiations are usually done over the telephone, and a deal may be struck if both the parties agree on the amount and rate. In the case of a buyer, such as an urban co-operative bank wishing to buy a security, the banks dealer (who is authorized by the bank to undertake transactions in government securities) may get in touch with other market participants over the telephone and obtain quotes. All trades undertaken in the OTC market are reported on the secondary market module of the Negotiated Dealing System (NDS). 52NEERAJ GUPTANegotiated Dealing SystemThe Negotiated Dealing System (NDS) for electronic dealing and reporting of transactions in government securities was introduced in February 2002. It allows the members to electronically submit bids or applications for the primary issuance of government securities when auctions are conducted. The NDS also provides an interface to the Securities Settlement System (SSS) of the PDO of the RBI, Mumbai, thereby facilitating the settlement of transactions in government securities (both outright and repos) conducted in the secondary market. Membership to the NDS is restricted to members holding SGL and/or current accounts with the RBI, Mumbai.53NEERAJ GUPTA Negotiated Dealing System-Order Matching In August 2005, the RBI introduced an anonymous screen-based order matching module on the NDS, called the Negotiated Dealing System-Order Matching (NDS-OM). This is an order-driven electronic system where the participants can trade anonymously by placing their orders on the system or accepting the orders already placed by other participants. The NDS-OM is operated by the Clearing Corporation of India Ltd. (CCIL) on behalf of the RBI. Direct access to the NDS-OM system is currently available only to select nancial institutions such as commercial banks, primary dealers, insurance companies, and mutual funds. Other participants can access this system through their custodians, i.e., those with whom they maintain Gilt Accounts. The custodians place the orders on behalf of their customers, like the urban co-operative banks. The advantages of the NDS- OM are price transparency and better price discovery.

54NEERAJ GUPTAStock Exchanges

Facilities are also available for trading in government securities on the stock exchanges (NSE, BSE), which cater to the needs of retail investors. The NSEs Wholesale Debt Market (WDM) segment offers a fully automated screen-based trading platform through the National Exchange for Automated Trading (NEAT) system. The WDM segment, as the name suggests, permits only high value transactions in debt securities. The trades on the WDM segment can be executed in the continuous or negotiated market. In the continuous market, orders entered by the trading members are matched by the trading system. For each order entering the trading system, the system scans for a probable match in the order books. On nding a match, a trade takes place. In case the order does not nd a suitable counter order in the order books, it is added to the order books and is called a passive order. This could later match with any future order entering the order book and result into a trade. This future order, which results in the matching of an existing order, is called the active order. In the negotiated market, deals are negotiated outside the exchange between the two counterparties, and are reported on the trading system for approval55NEERAJ GUPTASettlement of Government Securities

Primary Market Once the allotment process in the primary auction is nalized, the successful participants are advised of the consideration amounts that they need to pay to the government on the settlement day. The settlement cycle for dated security auctions is T+1, whereas that for T-bill auctions is T+2. On the settlement date, the fund accounts of the participants are debited by their respective consideration amounts, and their securities accounts (SGL accounts) are credited with the amount of securities that they were allotted56NEERAJ GUPTASecondary Market The transactions relating to government securities are settled through the members securities/ current accounts maintained with the RBI, with the delivery of securities and the payment of funds done on a net basis. The Clearing Corporation of India Ltd. (CCIL) guarantees the settlement of trades on the settlement date by becoming a central counterparty to every trade through the process of novation, i.e., it becomes the seller to the buyer and the buyer to the seller. All outright secondary market transactions in government securities are settled on a T+1 basis. However, in the case of repo transactions in government securities, the market participants will have the choice of settling the rst leg on either a T+0 basis or a T+1 basis, as per their requirement57NEERAJ GUPTADelivery versus Payment (DvP) is the mode of settlement of securities, wherein the transfer of securities and funds happens simultaneously. This ensures that unless the funds are paid, the securities are not delivered, and vice versa. The DvP settlement eliminates settlement risk in transactions. There are three types of DvP settlements, namely, DvP I, DvP II, and DvP III, which are explained below.

DvP I: The securities and funds legs of the transactions are settled on a gross basis, i.e., the settlements occur transaction by transaction without netting the payables and receivables of the participant. DvP II: In this method, the securities are settled on a gross basis whereas the funds are settled on a net basis, i.e., the funds payable and receivable of all transactions of a party are netted to arrive at the nal payable or receivable position, which is then settled.DvP III: In this method, both the securities and the funds legs are settled on a net basis, and only the nal net position of all the transactions undertaken by a participant is settled. The liquidity requirement in a gross mode is higher than that of a net mode since the payables and receivables are set off against each other in the net mode. 58NEERAJ GUPTAClearing Corporation of India Limited (CCIL) The CCIL is the clearing agency for government securities. It acts as a Central Counterparty (CCP) for all transactions in government securities by interposing itself between two counterparties. In effect, during settlement, the CCP becomes the seller to the buyer and the buyer to the seller of the actual transaction. All outright trades undertaken in the OTC market and on the NDS-OM platform are cleared through the CCIL. Once the CCIL receives the trade information, it works out the participant- wise net obligations on both the securities and the funds legs. The payable/receivable position of the constituents (gilt account holders) is re ected against their respective custodians. The CCIL forwards the settlement le containing the net position of the participants to the RBI, where the settlement takes place by the simultaneous transfer of funds and securities under the Delivery versus Payment system. The CCIL also guarantees the settlement of all trades in government securities. This means that during the settlement process, if any participant fails to provide funds/securities, the CCIL will make the same available from its own means. For this purpose, the CCIL collects margins from all participants, and maintains a Settlement Guarantee Fund. 59NEERAJ GUPTACorporate Bonds60NEERAJ GUPTAIssuers of Corporate BondsPublic sector units including public nancial institutions and bonds issued by the private corporate sector61NEERAJ GUPTAGeneral Conditions for Issuance of Corporate Bonds

No issuer can make a public issue of debt securities unless the following conditions are satis ed (on the date of ling the draft offer document and the nal offer document): (a) The issuer has to apply to one or more recognized stock exchanges for the listing of such securities. If the application is made to more than one recognized stock exchange62NEERAJ GUPTAthe issuer should choose one of them as the designated stock exchange (having nationwide trading terminals). However, for any subsequent public issue, the issuer may choose a different stock exchange as the designated stock exchange, subject to the requirements of the SEBI (Issue and Listing of Debt Securities) Regulations, 2008.

(b) The issuer has to obtain in-principle approval for the listing of its debt securities on the recognized stock exchanges where the application for listing has been made.

(c) Credit rating has to be obtained from at least one credit rating agency registered with SEBI, and has to be disclosed in the offer document.

63NEERAJ GUPTA (d) It has entered into an arrangement with a depository registered with SEBI for the dematerialization of the debt securities that are proposed to be issued to the public, in accordance with the Depositories Act, 1996 and other relevant regulations. (e) The issuer is required to appoint one or more merchant bankers registered with the Board, at least one of whom has to be a lead merchant banker. (f) The issuer is required to appoint one or more debenture trustees in accordance with the provisions of Section 117B of the Companies Act, 1956 (1 of 1956) and the Securities and Exchange Board of India (Debenture Trustees) Regulations, 1993. (g) The issuer is not allowed to issue debt securities for providing loans to or the acquisition of shares of any person who is part of the same group or who is under the same management.

NEERAJ GUPTA64Price Discovery through Book Building

The issuer may determine the price of the debt securities in consultation with the lead merchant banker, and the issue may be at a xed price or the price may be determined through the book building process in accordance with the procedures speci ed by SEBI65NEERAJ GUPTAMinimum Subscription The issuer can decide the amount of minimum subscriptions that it seeks to raise by the issue of debt securities, and disclose the same in the offer document. In the event of non- receipt of the minimum subscription amount, all the application money received in the public issue has to be refunded to the applicants. 66NEERAJ GUPTADebenture Redemption Reserve

For the redemption of the debt securities issued by a company, the issuer has to create a debenture redemption reserve in accordance with the provisions of the Companies Act, 1956 and the circulars issued by the central government in this regard. Where the issuer has defaulted in the payment of interest on debt securities, or the redemption thereof, or in the creation of security as per the terms of the issue of debt securities, any distribution of dividend would require the approval of the debenture trustees.

67NEERAJ GUPTAListing of Debt Securities

Mandatory listing

An issuer wanting to make an offer of debt securities to the public has to apply for listing to one or more recognized stock exchanges according to the terms of the Companies Act, 1956 (1 of 1956). The issuer has to comply with the conditions of listing of debt securities as speci ed in the Listing Agreement with the stock exchange where such debt securities are sought to be listed. Conditions for listing of debt securities issued on private placement basis An issuer may list its debt securities issued on a private placement basis on a recognized stock exchange subject to the following conditions: (a) The issuer has issued such debt securities in compliance with the provisions of the Companies Act, 1956, the rules prescribed in it, and other applicable laws;(b) Credit rating has been obtained in respect of such debt securities from at least one credit rating agency registered with SEBI; (c) The debt securities proposed to be listed are in a dematerialized form; (d) The prescribed disclosures have been made. 68NEERAJ GUPTATrading of Debt securities

(1) The debt securities issued to the public or on a private placement basis that are listed in recognized stock exchanges are traded, cleared, and settled in recognized stock exchanges, subject to the conditions speci ed by the SEBI. (2) In the case of trades of debt securities that have been made over the counter, such trades are required to be reported on a recognized stock exchange having a nationwide trading terminal or another such platform as may be speci ed by the SEBI. 69NEERAJ GUPTAClearing and SettlementThe corporate bonds are cleared and settled by the clearing corporations of stock exchanges, i.e., the ICCL and the NSCCL. All trades in corporate bonds available in demat form that are reported on any of the speci ed platforms (including the FIMMDA, the NSE-WDM, and the NSE Website) are eligible for settlement through the NSCCL. In order to facilitate the settlement of corporate bond trades through the NSCCL, both buy as well as sell participants are required to explicitly express their intention to settle the corporate bond trades through the NSCCL. The trades will be settled at the participant level on a DvP I basis, i.e., on a gross basis for securities and funds. The settlements shall be carried out through the bank/DP accounts speci ed by the participants. On the settlement date, during the pay-in, the participants are required to transfer the securities to the depository account speci ed by the NSCCL, and to transfer the funds to the bank account speci ed by the NSCCL within the stipulated cut-off time. On successful completion of pay-in of securities and funds, the securities/funds shall be transferred by the NSCCL to the depository/bank account of the counterparty. 70NEERAJ GUPTARegulatory FrameworkThe SEBI (Issue and Listing of Debt Securities) Regulations, 2008 (private placement) for over one year

The SEBI is responsible for the primary and the secondary debt market, while the RBI is responsible for the market for repo/reverse repo transactions in corporate debt. Issuance of Non-Convertible Debentures (Reserve Bank) Directions, 2010 (for issuance of NCDs of original or initial maturity up to one year) According to the Repo in Corporate Debt Securities (Reserve Bank) Directions 2010, dated January 8, 2010, issued by the RBI, the NBFCs registered with the RBI (other than government companies as de ned in Section 617 of the Companies Act, 1956) are eligible for participation in repo transactions in corporate debt securities. The NBFCs participating in such repo transactions are advised to comply with the directions and accounting guidelines issued by the RBI. 71NEERAJ GUPTACorporate Bonds The movement in the corporate bond market is shown in Table 5-11. The data on corporate bonds at the NSE and the BSE includes the trades on the respective trading systems as well as the reports of the trades carried out in the OTC market. The volumes of the trades on the NSE increased by 25.2 percent to ` 2,421 billion (US $ 44.5 billion) in 201213 from ` 1,934.3 billion (US $ 37.8 billion) in the previous fiscal year. The BSE volumes in 2012-13 were at ` 516.2 billion (US $ 9.4 billion), while the FIMMDA volumes were ` 4,449 billion (US $ 81.8 billion). 72NEERAJ GUPTA

73NEERAJ GUPTAFIMMDA-NSE MIBID/MIBORThe NSE has been computing and disseminating the NSE Mumbai Inter-bank Bid Rate (MIBID) and the NSE Mumbai Inter-bank Offer Rate (MIBOR) for the overnight money market from June 15, 1998, the 14-day MIBID/MIBOR from November 10, 1998, the 1-month and 3-month MIBID/MIBOR from December 1, 1998, and the 3-day MIBID/MIBOR from June 06, 2008, which are calculated and disseminated on the last working day of every week. In view of the robust methodology of the computation of these rates and their extensive use by the market participants, these have been co-branded with the Fixed Income and Money Market Dealers Association (FIMMDA) from March 4, 2002. These are now known as the FIMMDA-NSE MIBID/MIBOR. 74NEERAJ GUPTAMIBID/MIBORThe FIMMDA-NSE MIBID/MIBOR are based on rates polled by the NSE from a representative panel of 32 banks/ institutions/primary dealers. Currently, the quotes are polled and processed daily by the Exchange at 09:40 (IST) for the overnight rate, at 11:30 (IST) for the 14-day, 1-month, and 3-month rates, and at 09:40 (IST) for the 3-day rate, on the last working day of the week. The rates polled are then processed using the bootstrap method to arrive at an efficient estimate of the reference rates. The overnight rates are disseminated daily, and the 3-day rates are disseminated on the last working day of the week to the market at about 09:55 (IST), whereas the 14-day, 1-month, and 3-month rates are disseminated at about 11:45 (IST).

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