BOND CAPITAL
Presented by-:
•Nishan
•Palli pallavi
•Dillip patel
BOND
• A Bond is a debt instrument issued for a period of more than one year with
the purpose of raising capital by borrowing .
• The Federal government, states, cities, corporations, and many other
types of institutions sell bonds.
• A bond is generally a promise to repay the principal along with
interest on a specified date.
• A bond is like a loan -the issuer is the borrower (debtor), the holder is the
lender (creditor), and the coupon is the interest.
• Bonds provide the borrower with external funds to finance
long-term investments, or, in the case of government bonds,
to finance current expenditure.
• Certificates of deposit (CDs) or commercial paper are
considered to be money market instruments and not bonds.
• Bonds must be repaid at fixed intervals over a period of time.
ISSUING BONDS
• Bonds are issued by public authorities, credit institutions, companies
and supranational institutions in the primary markets.
• The most common process of issuing bonds is through underwriting. In
underwriting, one or more securities firms or banks, forming a syndicate
buy an entire issue of bonds from an issuer and re-sell them to investors.
• The security firm takes the risk of being unable to sell on the issue to end
investors.
• Primary issuance is arranged by book runners who arrange the bond
issue, have the direct contact with investors and act as advisors to the
bond issuer in terms of timing and price of the bond issue.
• In the case of Government Bonds, these are usually issued by auctions,
where both members of the public and banks may bid for bond.
• the coupon is fixed, but the price is not, the % return is a function both of
the price paid as well as the coupon
Types of Bonds
• High-Yield Bonds: High-yield bonds are usually priced at a nominal yield
spread to a specific on-the-run U.S. Treasury bond. However, sometimes
when the credit rating and outlook of a high-yield bond deteriorates, the
bond will start to trade at an actual dollar price.
• Corporate Bonds: A corporate bond is usually priced at a nominal yield
spread to a specific on-the-run U.S. Treasury bond that matches its
maturity
• Fixed rate bonds: have a coupon that remains constant throughout the life
of the bond.
• Zero-coupon bonds: pay no regular interest. They are issued at a
substantial discount to par value, so that the interest is effectively rolled up
to maturity (and usually taxed as such). The bondholder receives the full
principal amount on the redemption date.
• Inflation linked bonds: in which the principal amount and the interest
payments are indexed to inflation. The interest rate is normally lower than
for fixed rate bonds with a comparable maturity . However, as the principal
amount grows, the payments increase with inflation.
• Perpetual bonds: are also often called perpetuities or ‘ Perps'. They have
no maturity date. The most famous of these are the UK Consols, which are
also known as Treasury Annuities or Undated Treasuries. Some of these
were issued back in 1888 and still trade today, although the amounts are
now insignificant.
• Bearer bond: is an official certificate issued without a named holder. In
other words, the person who has the paper certificate can claim the value
of the bond. Often they are registered by a number to prevent
counterfeiting, but may be traded like cash. Bearer bonds are very risky
because they can be lost or stolen.
• Registered bond :is a bond whose ownership (and any subsequent
purchaser) is recorded by the issuer, or by a transfer agent. It is the
alternative to a Bearer bond. Interest payments, and the principal upon
maturity, are sent to the registered owner.
• Municipal bond: is a bond issued by a state, U.S. Territory, city, local
government, or their agencies. Interest income received by holders of
municipal bonds is often exempt from the federal income tax and from the
income tax of the state in which they are issued, although municipal bonds
issued for certain purposes may not be tax exempt.
• Lottery bond :is a bond issued by a state, usually a European state.
Interest is paid like a traditional fixed rate bond, but the issuer will redeem
randomly selected individual bonds within the issue according to a
schedule. Some of these redemptions will be for a higher value than the
face value of the bond.
• War bond: is a bond issued by a country to fund a war.
• Serial bond: is a bond that matures in installments over a
period of time. In effect, a $100,000, 5-year serial bond would
mature in a $20,000 annuity over a 5-year interval.
• Revenue bond: is a special type of municipal bond
distinguished by its guarantee of repayment solely from
revenues generated by a specified revenue-generating entity
associated with the purpose of the bonds. Revenue bonds are
typically "non-recourse," meaning that in the event of default,
the bond holder has no recourse to other governmental assets
or revenues.
SOME MAJOR BONDS INVESTED
• Government and Federal Agency Bond Investing market
• Municipal Bond Investing market
• Corporate Bond Investing market
• Mortgage Backed, and Asset Backed Bond Investing market as well as
markets for the Collateralized Bond Obligations (or CBOs)
• Funding Bond Investing market
• INFRASTRUCTURE BONDS TO INVEST IN INDIA FOR 2010
• During the financial year 2010-2011, Investors will take tax benefits by
investing in the long term infrastructure bonds.
• Infrastructure bonds came as the relief to the person taxpayers in context
of expenses as well as saving.
• It is available via issues of ICICI Bank and IDBI, and carried out in the
name of ICICI Safety Bonds and Flexi bonds.
• To take the benefits of tax savings, investor must invest up to 20,000 in
infrastructure bonds. These tax-saving benefits provides under Section 88
of the Income Tax Act, 1961.
• Infrastructure bonds are one of the fresh tax reliefs in the 2010 budget. The
announcement of the tax free Infrastructure Bonds not only surprised the
common man but also the industry observers.
RETURN ON BONDS
• It reacts to the movement in the interest rates
• Interest rate moves up, value of bond moves down
• Interest rates moves down, value of the bond moves up
• Coupon rate termed as the return on the bonds invested
A Bond's Expected Return
• Yield is the measure used most frequently to estimate or determine a
bond's expected return. Yield is also used as a relative value measure
between bonds. There are two primary yield measures that must be
understood to understand how different bond market pricing conventions
work: yield to maturity and spot rates.
A yield-to-maturity calculation is made by determining the interest rate (
discount rate) that will make the sum of a bond's cash flows, plus accrued
interest, equal to the current price of the bond. This calculation has a
couple important assumptions: First, that the bond will be held until
maturity, and second that the bond's cash flows can be re-invested at the
yield to maturity.
• A spot rate calculation is made by determining the interest rate (discount
rate) that makes the present value of a zero-coupon bond equal to its
price. A series of spot rates must be calculated to price a coupon paying
bond - each cash flow must be discounted using the appropriate spot
rate such that the sum of the present values of each cash flow equals the
price. As we discuss later, spot rates are most often used as a building
block in relative value comparisons for certain types of bonds.
What Determines the Price of a Bond in the
Open Market?
• Bonds can be traded in the open market after they are issued. When listed
on the open market, a bond’s price and yield determine its value.
Obviously, a bond must have a price at which it can be bought and sold
(see “Understanding Bond Market Prices” below for more). A bond’s yield is
the actual annual return an investor can expect if the bond is held to
maturity. Yield is therefore based on the purchase price of the bond as well
as the coupon.
• A bond’s price always moves in the opposite direction of its yield, as
illustrated above. The key to understanding this critical feature of the bond
market is to recognize that a bond’s price reflects the value of the income
that it provides through its regular coupon interest payments.
• When prevailing interest rates fall—notably rates on government bonds—
older bonds of all types become more valuable because they were sold in
a higher interest-rate environment and therefore have higher coupons.
• Investors holding older bonds can charge a “premium” to sell them in the
open market. On the other hand, if interest rates rise, older bonds may
become less valuable because their coupons are relatively low, and older
bonds therefore trade at a “discount.”
TAX IMPLICATION
• The tax implication of each investment has been dealt with under the
following categories:-
• (i) Tax implication at the time of making the contribution
• (ii) Tax implication of any accretion of the investment’
• (iii) Tax implication at the time of withdrawal.
We will discuss the tax implications of the following instruments available in
the debt market.
• 1. Bonds issued by the Central and State governments
• These bonds are issued by the Central or the State governments. These
are basically suitable for people who want a guaranteed coupon rate.
• 2. Capital gains bonds:
• a. Sec. 54EC of the IT Act: any individual who has capital gains can look
at section 54EC bonds for saving the capital gain tax. While investing in
Sec. 54EC bonds, one can claim exemption from long term capital gains
• Arising out of the sale of any capital asset (except shares and equity
oriented units). According to section 54EC, any person (individuals, HUFs,
partnership firms, companies etc.) can avail exemption in respect of long
terms of the bond with term capital gains (arising from the sale of long term
capital asset other than equity shares and securities), by investing Capital
gains bonds.
• b. Issuers: The following institutions can issue these bonds:
• I. NABARD
• II. REC
• III. NHAI
• IV. SIDBI
• V. NHB
• c. Tax benefits available:
• I. At the time of contribution: The amount invested in these bonds will be
reduced from the long term capital gains, this results in a reduction in your
taxable income and will further reduce your tax liability.
• II. Interest accrued: Interest amount accrued is fully taxable
• d. Other restrictions:
• I. The investment is to be made within a period of 6 months from the date
of sale/transfer of the asset.
• II. These bonds are subject to a lock-in-period of three years. It means that
if the bonds are sold or transferred within a period of 3 years from the date
• of acquisition, the capital gains which were earlier exempt are taxable in
the year of sale or transfer of the bonds.
• e. Suitability:
• I. For saving long term capital gains tax.
• II. For people who can lock their funds for 3/5 years.
• III. For people who believe in capital preservation with
• a guaranteed coupon rate
• 3. Infrastructure bonds
• These bonds are issued by banks like ICICI, IDBI, IFCI etc.
• Such bonds come with a lock in period of 3 years. The tax
• implications of such bonds are:
• A. The contribution towards these bonds will be eligible for a deduction
under section 80C. The maximum amount of investment that is eligible for
a deduction will be Rs.1,00,000.
• B. Interest accretion will be fully taxable.
• C. These bonds are subject to a lock-in of 3 years.
REGULATORY FRAMEWORK OF BONDS
• The fundamental parts of the legal framework supporting an efficient
domestic government securities market usually include an explicit
empowerment of the government to borrow, budgetary rules for the
issuance of government securities, rules for the organization of the primary
market, role of central bank as agent for the government, the debt-
management framework, rules governing issuance of government
securities, and rules pertaining to the secondary market.
• Some of the more important areas
• where the legal framework will affect the development of government
securities markets include (i) defining the exact parameters under which
fiscal budgeting processes will be linked to government securities issuance,
(ii) limiting issuance, via debt ceilings or other devices such as sinking
funds, and (iii) defining the legal properties of government securities and
their use as collateral in transactions such as repos
• At another level, the legal framework must define the rights and obligations
• of parties to debt contracts in the primary and secondary markets for
issuers, investors, and intermediaries. This definition should include
• (i) minimum guidelines for disclosure of material information,
• (ii) liability for entities involved in distributing securities and for entities
handling third-party investment accounts, and
• (iii) vehicles to allow proper legal recourse against mutual funds, pension
funds, and even the government as an issuer. Investment regulations need
to permit sufficient flexibility for investors, yet create adequate safeguards
for prudent operations and for the safeguarding of fiduciary obligations, as
in the case of pensions.
THANK YOU
