Introduction:The bond market is a financial market where participants buy and sell debt securities, usually in the form of bonds. Bond Market is composed of Treasury bond, Municipal Bond and Corporate Bond. This is of two kinds- Organized and OTC markets. There are various types of bond products depending on provisions, maturities, coupon rate, options, convertibility, etc. Bond Market in Bangladesh is dominated by treasury debt securities. It has now only one corporate bond; but does not have any municipal bond/debenture. In recent years, around 70 percent of the domestic savings are held in the form of bank deposits, while only 30 percent are investments in the debt market which is entirely dominated by government instruments. There hardly exists a corporate bond market in the country, it has a debenture market with only a small number f well-known issuers. As of today, only one corporate bond has been floated.

History of bond market of Bangladesh:Before independence, the use of bonds as a means of resource mobilization was virtually non-existent in Bangladesh. Immediately after liberation, the government of Bangladesh reissued long-term bonds accepting the liabilities of the Income Tax Bonds and the Defense Bonds of the Pakistan government held by Bangladeshi nationals and institutions. The government also issued a 5% non-negotiable bond to Bangladeshi shareholders of nationalized industries. In addition, savings bonds were also issued to pay for the value of demonetized 100-taka notes in 1974. Most of these bonds are held by Bangladesh bank.

The first effort to mobilize savings for use of development expenditure was the issue of Wage Earners Development Bonds in 1981 to be sold to Bangladeshi wage earners abroad. Later, a two-year special treasury bond was issued in January 1984 to be sold to individuals, public and private sector organizations including banks. In December 1985, another instrument, the National Bond, was issued to be sold to non-bank investors.

During the implementation period of the financial sector reform programmed that took effect from 1990, Nationalized commercial banks, specialized banks and development financial institutions had to make considerable provisions for huge classified loans. As a result, the capital base of those banks and financial institutions eroded severely and their viability was seriously threatened. In this situation, the government issued a series of bonds to restructure the capital base of these banks and financial institutions as well as to assume the liabilities of the bad loans made to a number of public sector organizations.

The government also issued some bonds for augmenting loan able funds for specialized banks and financial institutions. Moreover, some bonds were also issued to mobilize funds for a number of public sector organizations like the T&T Board, Bangladesh Biman etc.

Types of bonds:On the basis of Variability of Coupon:

1. Zero Coupon Bonds Zero Coupon Bonds are issued at a discount to their face value and at the time of maturity, the principal/face value is repaid to the holders. No interest (coupon) is paid to the holders and hence, there are no cash inflows in zero coupon bonds. The difference between issue price (discounted price) and redeemable price (face value) itself acts as interest to holders.

2. Floating Rate BondsIn some bonds, fixed coupon rate to be provided to the holders is not specified. Instead, the coupon rate keeps fluctuating from time to time, with reference to a benchmark rate. Such types of bonds are referred to as Floating Rate Bonds. These bonds are known as Inverse Floaters and are common in developed markets.

On the Basis of Variability of Maturity:

1. Callable BondsThese securities have provisions allowing the issuer to redeem the issue prior to the scheduled maturity date

2. Puttable BondsThe holder of a puttable bond has the right (but not an obligation) to seek redemption (sell) from the issuer at any time before the maturity date. The holder may exercise put option in part or in full.

3. Convertible BondsThe holder of a convertible bond has the option to convert the bond into equity (in the same value as of the bond) of the issuing firm (borrowing firm) on pre-specified terms. This results in an automatic redemption of the bond before the maturity date.

On the basis of Principal Repayment:

1. Amortizing Bonds Amortizing Bonds are those types of bonds in which the borrower (issuer) repays the principal along with the coupon over the life of the bond. For example - auto loans, home loans, consumer loans, etc.

2. Bonds with Sinking Fund Provisions Bonds with Sinking Fund Provisions have a provision as per which the issuer is required to retire some amount of outstanding bonds every year. The issuer has following options for doing so:

i. By buying from the market ii. By creating a separate fund which calls the bonds on behalf of the issuer

Types of bond market:The Securities Industry and Financial Markets Association classify the broader bond market into five specific bond markets.

1. Corporate2. Government & Agency3. Municipal4. Mortgage Backed, Asset Backed, and Collateralized Debt Obligation5. Funding

Corporate bond market of Bangladesh:

The issues of developing a corporate bond market that is currently near non-existent in Bangladesh. The two major sources of financing are the banks and capital market. Equity financing from capital markets through issuing new shares is lenient whereas debt financing through issuing corporate bonds is almost nonexistent.

Reasons for Non-existence of Corporate Bond Market:1. High interest rate is a barrier to the corporate bond market. Government still borrows

through various national savings schemes at high interest rates and banks collect deposits at quite high interest rates in competition with government securities. High interest rates deterred public borrowings by the corporate bodies, thereby thwarting the expected development of a corporate debt market.

2. Absence of secondary bond market is a major reason for non-existence of corporate bond market in Bangladesh. They mean that secondary organized market which includes OTC market, and private placement market for corporate bonds.

3. Lack of awareness and education deter to attract right issuers and investors in the corporate bond market. SOEs, multinational companies, infrastructure projects and large as well as medium enterprises shy away. The corporate sector of Bangladesh, for instance, insurance companies, provident funds and pension funds of various organizations, mutual funds, etc., are not involved in this venture.

4. Lack of knowledge-based trading even for government bonds is an important reason for inactive corporate bond market. Bangladesh Bank has issued nine PD licenses but these are yet to fully start their activity. In the government bond market, PDs can play an important role to activate the secondary market of treasury bills and government securities. Later on, PDs can spread this knowledge based trading to the corporate sector.

5. Lack of innovative products has kept the market unattractive .Securities bearing zero and fixed coupons, and bonds following Islamic shariah only are available currently in Bangladesh. Bonds like Treasury Inflation Protected Securities (TIPS), Islamic Bonds (SUKUK Bond), High-Yield Bonds (HYB), and Deep Discount Bonds may help formation of corporate bonds market in Bangladesh.

Bond Market Participants of Bangladesh:One of the preconditions of being efficient bond market is the existence of large number of market participants. Market participants can be divided into issuers, investors and intermediaries.

1. Issuers:

Most private sector enterprises are small and owner-run, many are of “cottage size” and most are in the garment industry, which to date depends largely on short-term bank loans for financing. These enterprises could benefit from longer-term funding but are neither large enough nor well known enough to issue bonds. Most of the large-scale industrial units and commercial enterprises are state owned. Their shares are not listed, and they do not offer debentures since their financing needs are met by the government or by the state-owned NCBs. These state-owned firms generally stay outside the capital market.

Although Bangladesh has a debenture market, to date only a small number of well-known issuers have used the market. The liquidity in those debentures at the stock exchange is insignificant because of the small number of investors and their buy-and-hold mentality. The investor community does not seem to find this market too attractive owing to weak disclosure by the issuers, which in turn reduces credibility and investor confidence.

2. Investors:

Few investors are sophisticated enough to think about investing in bonds. About 80% of the base here is made up of retail investors, whose primary concerns include the equity at the stock exchange or the government savings certificate. Of the few institutional investors that could support a bond market, most are either prevented from investing in corporate bonds by restrictive guidelines or are not professionally managed. The major institutional investors are the Investment Corporation of Bangladesh—a government-owned financial institution—and the insurance companies. The mutual fund industry in Bangladesh is the exclusive domain of ICB. There are no private mutual funds to mobilize savings toward the debt market, and the ICB’s monopoly has prevented new investor companies, that is, mutual funds, from developing in Bangladesh. Few foreign investors are attracted to this, mainly because of the weak disclosure by the borrowers..

3. Intermediaries:

Intermediaries in Bangladesh lack many of the skills needed to foster an active local corporate bond market. Commercial banks dominate the financial sector and not enough intermediaries are skilled in securities. Few are able to identify issuers and investors and bring them to the market. They provide little or no research analysis on industries or companies to encourage investment in the local debt market. Too few private merchant banks are able to conduct financial advisory and trust services. Hence the market is illiquid, with large spreads. At the same time, the fee structure and pricing are high enough to allow intermediaries to make money. Even if they are able to participate, intermediaries are reluctant to take any risk in dealing.

Benefits of Bond Market for Market Participants:Bond Market acts as buffer of equity market. This enables issuers and investors to convert the limitations of equity market into the opportunities. Financial system to be sound and effective has to have an efficient bond market. Otherwise, Capital Market especially cannot play its due role for developing economy through allocation of capital; and generating employment opportunities through industrialization of economy of the country.

1. Benefits for Issuers: Raising funds without collateral for long term. Lower cost of debt and thereby lowering cost of capital for the firm. Lower effective rate of interest for not being able to be compounded. No change in interest rate with the increase in inflation rate. Reduces tax burden since interest is shown as a charge. Protecting firms from the exposition to the market volatility

2. Benefits of Investors:

Pays higher interest rates than savings. Offers safe return of principal. Have less volatility than the stock market. Offers regular income. Requires smaller initial investment. Highly liquid

3. Benefits of Intermediaries: Large spread can be exploited. High commission/fees. Phenomenal growth opportunities. Cut down policy of commercial lending brings opportunity for broadening bond

market base.

Market Interest Rates and Bond Prices:Once a bond is issued the issuing corporation must pay to the bondholders the bond’s stated interest for the life of the bond. While the bond’s stated interest rate will not change, the market interest rate will be constantly changing due to global events, perceptions about inflation, and many other factors which occur both inside and outside of the corporation.

The following terms are often used to mean market interest rate:

1. effective interest rate2. yield to maturity3. discount rate4. desired rate

Cost of bond issuance in Bangladesh bond market:To issue new bonds in Bangladesh is very much formal which includes huge amount of oversubscription fees. It greatly affects the issuance of bond in Bangladesh. The following is a list of considering factor.

1. Securities and Exchange Commission registration.2. Publication of prospectus3. Printing of prospectus and application4. Certificate, postissue, postage5. Listing fees6. Issue manager or underwriter7. Trustee fee8. Credit rating ,bankers, legal and audit 9. Central depository fee

Regulators and Regulations of Bangladesh bond market:

The regulator and regulation level is the overlapping authority between the two financial market regulators, Bangladesh Bank and the Securities and Exchange Commission (SEC), and no clear jurisdiction over the fixed-income market. In general, BB regulates the commercial banks and their activities, while the SEC regulates the NBFIs, the two stock exchanges, and the capital market.

The SEC has no authority to issue rules and regulations, and the procedure as a whole is long and drawn out. As a result, the SEC has not proposed any regulations for the issuance of bonds or debentures. All rule proposals must first be submitted to the Minister of Finance for approval and then passed on for approval from Ministry of Law. Furthermore, potential issuers have to look at various sets of regulations and follow a long and cumbersome procedure.

Although the SEC requires listed companies to meet international standards on accounting and auditing, accounting information appears to be of doubtful quality and reliability.

The Securities and Exchange Act of 1993 confers vast regulatory authority on the state, and is regarded as a constraint on capital market development. There is a board of policymakers. Three of its members are appointed by the state, another is from the Ministry of Finance and one from the central bank, and the chairman is appointed by the government.

In the present system, a company can float debentures up to a maximum amount of its current asset value and has to register its assets in the name of the Trustee as Security. Hence there is no provision for floating unsecured debentures.

Status of bond market of Bangladesh in South Asia:The bond market has played a limited role in the Bangladesh economy. The Bangladesh bond market is also rather shallow compared to the neighboring countries. The size of debt market is very low as compared to other SAARC countries. There are huge opportunities for growth and making money for bond market participants.

Bangladesh's bond market represents the 'smallest' in South Asia, accounting for only 12 per cent of the country's gross domestic product (GDP), a World Bank report said.

At US$7.35 billion, the size of the country's bond market is far smaller than the banking assets, estimated at nearly $32 billion-equivalent to more than 50 per cent of GDP, the bank's report on "South Asian domestic debt market" said.

"It is surprising that Bangladesh, which is much larger than Nepal in terms of population, land area and other measures, has the smallest bond market in the region. It said that India's bonds amounted to 35 per cent of GDP while Nepal's domestic bonds were 15 per cent.

As a per cent of GDP, South Asian equities account for 77 per cent, banking assets around 61 per cent and bonds for only 34 per cent.

While India dominates all three markets, Sri Lankan bond market accounts for almost 51 per cent of its GDP, comprising entirely of government bonds.

For the East Asian countries, corporate bonds have amounted to nearly 9.0 per cent of the GDP while for the selected OECD countries the ratio is around 16 per cent.

The size of the South Asian financial markets was some 14 per cent that of East Asia's. The total financial assets in the region amounted to nearly US$2 trillion as of end 2006 and India accounted for 89 per cent of the total.

The largest component of the South Asian financial assets is attributed to the equity market at $877 billion followed by the banking sector at $685 billion and the bond market at $380 billion.

As the country's bond market remains less-developed, the report said Bangladesh should improve the efficiency of the primary market for government securities by gradually increasing the share of marketable government securities, thereby raising liquidity in the secondary market.

Turning to the Islamic bonds, the bank report praised the issuance of Islamic bonds with six-month, 1.0 year and 2.0-year maturities that are in compliance with Islamic shariah rules.

To purchase such bonds, Bangladeshi institutions and individuals as investors, are required to share profits or losses with bond issuers in accordance with the Islamic regulations.

Problems of bond market of Bangladesh:1. Absence of Market-determined Interest Rate

2. Regulatory Reform

3. Lack of Benchmark Bonds

4. Unbundled Pension and Insurance Funds

5. High Yielding Government Instruments Hindering Private Sector Bond Issue

6. Poor Marketability

7. High Time to Market for Time Consuming and Complicated Administrative Process

8. Undefined Economic Benefits

9. Investor’s Reluctance to Maintain Bond Portfolio

10. Conservative Policy of Investors

11. Lack of Awareness Program for Investors and Risk Associated Sequential Process

12. Adverse Perception by Market Participant of Settlement Risk

13. Lack of Intermediaries with Expertise in Debt Products

14. High Floatation Cost

15. Political Instability

16. Poor Disclosure of Accounting Information

17. Lack of Awareness and Confidence in Debt Products

18. Dominance of Banking System

19. Poor Savings and Investment Rate

20. Financial Sector Vulnerability for Huge Non-Performing Loans

21. Moderate Economic Growth

22. Low Interest Rate Environment

Prospects of a bond market in Bangladesh:Despite the earlier setbacks the bond markets in Bangladesh is ready to take off. The need for a bond market in Bangladesh deserves attention because of the following:

1. Foreign aid flow is diminishing and the trend is expected to continue.

2. Specialized banks are not in a position to supply desired level of long term fund.

3. Commercial banks have strategically cut down their long term lending.

4. The concept of prudent asset mix is most likely to generate demand for investment grade

bonds.

5. The Provident Funds and Insurance Companies Funds are not generally allowed to invest

their funds in stock market instruments. There is a bright possibility that these funds may

be permitted to invest a part of their funds in marketable instruments subject to prudential

guidelines, which may necessitate supply of lucrative debt instruments.

6. Reduction in the interest on Govt. savings instruments and withdrawal of certain savings

instruments is expected to boost demand for debt instruments.

7. The registration fee for trust deed has been reduced from 2.5% (on the amount of

debentures) to Tk. 2500.00 providing a very significant incentive.

8. There are now credit rating agencies to provide rating prospective issuer.

9. Any interest paid by investor on money borrowed for investment in debentures is deducted

from total income.

10. Interest income not exceeding Tk. 20000 received by an individual investor on debentures

approved by SEC is excluded from total income.

11. The interest on Zero coupon bond approved by SEC at the hand of the recipient is tax

exempt up to Tk. 25000.00. Such interest exceeding Tk. 25000.00 is subjected to tax @

10% deducted at source. Banks and other financial institutions and insurance companies

which are the mainstay of demand for bonds will now pay 10% tax on interest on such

bonds instead of 45% tax payable on other income.

Measures to develop the bond market of Bangladesh:A sustainable bond market needs enabling policies. The following actions and policy measures are seen important to promote a bond market in Bangladesh.

1. Rationalization of the Interest Rate Structure whereby the Government borrows at the lowest possible rate

2. Establish benchmarking and long-term Yield Curve.

3. Provide a Legal Framework of user friendly Rules & Regulations

4. Develop a system of issuance of future Sovereign Papers as Tradable and Transferable Securities.

5. Fund future infrastructure projects through issuance of Government and Private Bonds.

6. Lower Registration and Issue cost

7. Create independent Credit Rating Agencies.

8. Develop and strengthen market intermediaries like dealers, investment analysts, investment/ merchant bankers’ etc.

9. Facilitate education process of market participants

10. Unbundle pension and insurance funds and establish Money Market Mutual Funds.

11. Allow Investment Grade Corporate Bonds and Debentures to form part of SLR of Banks

12. Facilitate Securitization and issuance of Asset Backed Securities and Collateralized Loan Obligations with the backing of multilateral agencies and development of Money Market instruments.

13. Establish Central Depository and Electronic Settlement and Registration System.

14. Upgrade Accounting and Disclosure Standards as well as Foreclosure Laws.

Conclusion:Bond Market is an integral part of the financial market of a country. It provides a medium for the redistribution of short term loan-able funds among financial institutions, which perform this function by selling these short term securities that usually are highly marketable .it can contribute a lot to a developing country like Bangladesh. Though the bond market of Bangladesh is very prospective, it is bested with numerous problems. If all the above things can be done, then this could pave the path for a well-functioning bond market that can change the existing bank-oriented financial system to a multilayered system, where capital markets can complement bank financing.