Bonds are fixed income instruments which pay fixed rate of interest at regular intervals and the principal amount on maturity. Bonds as an asset class are very popular in the developed economies. However, the bond market in India has historically been relatively small. In more recent times, with Bank FD interest rates declining, bonds are gaining a lot of popularity among retail and HNI investors.
You can buy bonds both from the primary market (at the time when the bond is issued) or from the secondary market. You need to have Demat accounts to invest in bonds. If you buy in the primary issue, you will get the bond at face value. In the secondary market, the bonds will be priced either at premium or discount to the face value based on prevailing interest rates. The bond will make periodic interest payments to you based on the coupon rate. On maturity you will get the face value of the bond. You can also sell the bond before maturity in the secondary market at prevailing market price.
Secured investments are backed by assets or collateral, providing a safety net to investors. Unsecured investments, on the other hand, are not backed by any collateral and carry higher risk but may offer better returns.
The bonds are issued at face value. Face value is the amount that will be paid to you upon maturity of the bond. Coupon or interest paid by the bond is on face value. Bonds may trade at premium or discount to the face value. In other words, if you are buying the bond in secondary market, then the price at which you buy will be higher or lower than the face value.
This is the rate of interest that will be paid to you on a periodic basis. For example, if face value of a bond is Rs 1,000 and the coupon rate is 8%, then you will get Rs 80 as interest every year
This refers to the intervals at which coupon payments will be made e.g. monthly, half yearly, annual etc.
This refers to the date when the bond will mature. You will get the face value of the bond, along with accrued interest (if any) on the redemption date.
Accrued interest is the interest accrued by the seller from the last coupon payment date till the date on which the bond is sold. Since the buyer will get the full years interest on the next coupon date, the accrued interest is included in the bonds quoted price. The bonds price including the accrued interest is known as the dirty price. The clean price of the bond = Dirty price - accrued interest.
YTM of a fixed income instrument is the return on investment (assuming interest payments are re-invested at the same rate) if you hold the instrument till its maturity. When calculating yields, both interest payments (coupons) and principal payment (face value) on maturity must be taken into consideration. Higher the YTM, higher the returns.
Duration refers to the interest rate risk of a bond. There are two types of durations - Macaulay Duration and Modified Duration. Macaulay and Modified Durations are closely related. Macaulay duration is the weighted average term to maturity of the cash flows from a fixed income security. In simplistic terms, Macaulay Duration is the weighted average number of years an investor must maintain a position in a fixed income instrument until the present value of the fixed income instruments cash flows equals the amount paid for the instrument. Duration and maturity are related - longer the maturity, longer is the duration. It is important for you to know that duration is directly related to the interest rate sensitivity of a bond. Higher the duration, higher is the bonds sensitivity to interest changes. Modified duration is simply the percentage change in price due to the percentage change in interest rate.
Bonds are rated by credit rating agencies like CRISIL and ICRA. Higher the credit rating lower is the credit risk. You should know that bo nds with lower ratings will have higher YTMs but the risk is also higher. You should make informed investment decisions.
The general rating scale for long term rating instruments likely to be as follows. AAA consider to be highest rated safety and C is the lowest rated rating which tend to be risky.
| AAA (Highest Safety) AA (High Safety) A (Adequate Safety) |
Instruments with this rating are considered to have the highest degree of safety regarding timely servicing of financial obligations.Such instruments carry low credit risk. |
| BBB (Moderate Safety) BB (Moderate Risk) |
Instruments with this rating are considered to have moderate degree of safety regarding timely servicing of financial obligations. Such instruments carry moderate credit risk. |
| B (High Risk) C (Very High Risk) |
Instruments with this rating are considered to have very high risk of default regarding timely servicing of financial obligations. |
| D (Default) | Instruments with this rating are defaulted and would be difficult for them to meet the financial obligation. |
Secured NCDs - Secured NCDs are those NCDs that are backed by the issuer company's assets.
Unsecured NCDs - When the NCDs are based only on the creditworthiness of the issuer and not backed by assets, they are called unsecured NCDs.
We can help at two levels, first we can assist investors in assessing the credit rating and finding the best offer from the secondary bond market, which is most suitable to investor. We will compare and analyse the various offers and align with the investor's income requirements and risk tolerance. The second place where we can assist is to execute the transaction.
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