INTRODUCTION

A bond is a fixed-income security that represents an investor's debt to a borrower

(typically corporate or governmental). A bond can be thought of as a promissory
note between the lender and the borrower that outlines the loan's terms and
instalments. Companies, municipalities, states, and sovereign governments all use
bonds to fund projects and operations. Bond holders are the issuer's debtors, or
creditors.

The end date when the principal of the loan is scheduled to be paid to the bond
owner is normally included in the bond specifics, as are the terms for the
borrower's variable or fixed interest payments.

 Bonds are securitized units of corporate debt issued by firms and traded as
assets.
 A bond is referred to as a fixed-income instrument since it pays debtholders
a fixed interest rate (coupon). Variable or floating interest rates are
becoming increasingly popular.
 Interest rates and bond prices are inversely related: as rates rise, bond
prices fall, and vice versa.
 Bonds have maturity dates after which the principal must be paid in full or
the bond will default.

THE ISSUERS OF BONDS

Governments (at all levels) and corporations commonly use bonds in order to
borrow money. Governments need to fund roads, schools, dams, or other
infrastructure. The sudden expense of war may also demand the need to raise
funds.

Similarly, businesses frequently borrow to expand their operations, purchase land

and equipment, embark on profitable ventures, conduct research and
development, or hire new personnel. The issue that huge organisations have is
that they frequently require significantly more funds than the normal bank can
supply.

Bonds offer a solution by allowing a large number of individual investors to act as

lenders. Thousands of investors can each contribute a share of the required funds
through public debt markets. Furthermore, markets enable lenders to sell or
acquire bonds from other individuals long after the initial issuing institution has
raised funds.

HOW BOND WORKS

Bonds, also known as fixed-income instruments, are one of the most common
asset classes that individual investors are familiar with, alongside stocks (equities)
and cash equivalents.

Many corporate and government bonds are exchanged on the open market;
others are only traded over the counter (OTC) or privately between the borrower
and the lender.

Companies and other entities may offer bonds directly to investors when they
need money to fund new initiatives, maintain continuing operations, or refinance
existing debts. The borrower (issuer) creates a bond that specifies the loan
conditions, interest payments, and the time when the borrowed funds (bond
principal) must be returned (maturity date).

The coupon (interest payment) is part of the return bondholders receive for
lending their money to the issuer. The coupon rate is the interest rate that affects
the payment. Most bonds are initially priced at par, or $1,000 face value per
bond. The real market price of a bond is determined by a number of factors,
including the issuer's credit quality, the length of time until expiration, and the
coupon rate in relation to the current interest rate environment. The face value of
the bond is the amount that the borrower will receive when the bond matures.
After they are issued, most bonds can be sold by the original bondholder to other
investors.
CHARACTERISTICS OF BONDS
Most bonds share some common basic characteristics including:

 The face value of a bond is the amount of money it will be worth at

maturity; it is also the amount used by the bond issuer to calculate interest
payments. For example, suppose one investor buys a bond at a premium of
$1,090, and another investor buys the identical bond at a discount of $980
later. Both investors will receive the bond's $1,000 face value when it
matures.
 The coupon rate is the percentage rate of interest that the bond issuer will
pay on the bond's face value. A 5% coupon rate, for example, means that
bondholders will get 5% x $1000 face value = $50 per year.
 The bond issuer's coupon dates are the dates on which interest will be
paid. Payments can be made at any time, however semiannual payments
are the most common.
 The bond will mature on the maturity date, and the bond issuer will pay
the bondholder the face amount of the bond.
 The issue price is the price at which the bond issuer sells the bonds for the
first time.

CATEGORIES OF BONDS
 Corporate bonds are issued by companies. Companies issue bonds
rather than seek bank loans for debt financing in many cases
because bond markets offer more favorable terms and lower interest
rates.
 Municipal bonds are issued by states and municipalities. Some
municipal bonds offer tax-free coupon income for investors.
 Government bonds such as those issued by the U.S. Treasury.
Bonds issued by the Treasury with a year or less to maturity are
called “Bills”; bonds issued with 1–10 years to maturity are called
“notes”; and bonds issued with more than 10 years to maturity are
 called “bonds.” The entire category of bonds issued by a government
treasury is often collectively referred to as "treasuries." Government
bonds issued by national governments may be referred to as
sovereign debt.
 Agency bonds are those issued by government-affiliated
organizations such as Fannie Mae or Freddie Mac.

VARIETIES OF BONDS
The bonds available for investors come in many different varieties. They
can be separated by the rate or type of interest or coupon payment, by
being recalled by the issuer, or because they have other attributes.

Zero-Coupon Bonds

Zero-coupon bonds do not pay coupon payments and instead are issued at
a discount to their par value that will generate a return once the bondholder
is paid the full face value when the bond matures. U.S. Treasury bills are a
zero-coupon bond.4

Convertible Bonds

Convertible bonds are debt instruments with an embedded option that

allows bondholders to convert their debt into stock (equity) at some point,
depending on certain conditions like the share price5 . For example, imagine
a company that needs to borrow $1 million to fund a new project. They
could borrow by issuing bonds with a 12% coupon that matures in 10
years. However, if they knew that there were some investors willing to buy
bonds with an 8% coupon that allowed them to convert the bond into stock
if the stock’s price rose above a certain value, they might prefer to issue
those.

Callable Bonds

Callable bonds also have an embedded option but it is different than what

is found in a convertible bond. A callable bond is one that can be “called”
back by the company before it matures.6  Assume that a company has
borrowed $1 million by issuing bonds with a 10% coupon that mature in 10
years. If interest rates decline (or the company’s credit rating improves) in
year 5 when the company could borrow for 8%, they will call or buy the
bonds back from the bondholders for the principal amount and reissue new
bonds at a lower coupon rate.

Puttable Bond

A puttable bond allows the bondholders to put or sell the bond back to the
company before it has matured. This is valuable for investors who are
worried that a bond may fall in value, or if they think interest rates will rise
and they want to get their principal back before the bond falls in value.

The bond issuer may include a put option in the bond that benefits the
bondholders in return for a lower coupon rate or just to induce the bond
sellers to make the initial loan. A puttable bond usually trades at a higher
value than a bond without a put option but with the same credit rating,
maturity, and coupon rate because it is more valuable to the bondholders.

Pricing Bonds

The market prices bonds based on their particular characteristics. A bond's

price changes on a daily basis, just like that of any other publicly traded
security, where supply and demand in any given moment determine that
observed price.

But there is a logic to how bonds are valued. Up to this point, we've talked
about bonds as if every investor holds them to maturity. It's true that if you
do this you're guaranteed to get your principal back plus interest; however,
a bond does not have to be held to maturity. At any time, a bondholder can
sell their bonds in the open market, where the price can fluctuate,
sometimes dramatically.

The price of a bond changes in response to changes in interest rates in the

economy. This is due to the fact that for a fixed-rate bond, the issuer has
promised to pay a coupon based on the face value of the bond—so for a
$1,000 par, 10% annual coupon bond, the issuer will pay the bondholder
$100 each year.

Inverse to Interest Rates

This is why the famous statement that a bond’s price varies inversely with
interest rates works. When interest rates go up, bond prices fall in order to
have the effect of equalizing the interest rate on the bond with prevailing
rates, and vice versa.

Another way of illustrating this concept is to consider what the yield on our
bond would be given a price change, instead of given an interest rate
change. For example, if the price were to go down from $1,000 to $800,
then the yield goes up to 12.5%. This happens because you are getting the
same guaranteed $100 on an asset that is worth $800 ($100/$800).
Conversely, if the bond goes up in price to $1,200, the yield shrinks to
8.33% ($100/$1,200).

Yield-to-Maturity (YTM)

The yield-to-maturity (YTM) of a bond is another way of considering a

bond’s price. YTM is the total return anticipated on a bond if the bond is
held until the end of its lifetime. Yield to maturity is considered a long-
term bond yield but is expressed as an annual rate. In other words, it is
the internal rate of return of an investment in a bond if the investor holds
the bond until maturity and if all payments are made as scheduled.7

YTM is a complex calculation but is quite useful as a concept evaluating

the attractiveness of one bond relative to other bonds of different coupons
and maturity in the market. The formula for YTM involves solving for the
interest rate in the following equation, which is no easy task, and therefore
most bond investors interested in YTM will use a computer:
GOVERNMENT BONDS

Government bonds are debt instruments where government borrows money for a
defined period of time at a variable or fixed interest rate from the public for
expenditure purpose. In return, government bonds provide a coupon rate which
is calculated on the face value amount and generally all bonds have a face value
amount of Rs. 100. Suppose a government bond’s name is 6.76% GS 2061 then
here the coupon rate will be calculated on face value amount which will come at
Rs. 6.76 for each unit. Here the coupon rate is the cash inflow for an Investor.

Generally, government bonds are the safest investment asset, class. All the banks
and financial institution use government bonds to park surplus money here
because the safety of funds is guaranteed by the government.

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India’s green bond issuance is set to reach a new record in 2022,

following an exceptionally strong 2021.

Corporate and bank issuers in India are likely to tap the climate-related debt
market more actively as the world's third-largest emitter of carbon dioxide will
need as much as $10 trillion to be carbon-neutral by 2070, experts said. More
issuers will also turn to the offshore market where there is a deeper and wider
pool of climate-conscious investors.

India issued $6.11 billion in green bonds during the first 11 months of 2021,
according to U.K.-based green bond tracking agency Climate Bonds Initiative. It
was the strongest year since green bonds from the country were first issued in
2015.
"We expect 2022 to be another stellar year for issuance of these bonds as
Indian companies become increasing conscious of their carbon footprint," said
Nidhi Sharma, director of investment strategy and products at LC Capital India,
an investment management firm.

Banks will likely step up issuance of green debt to fund their growing lending
program to accelerate India’s energy transition, said Sivananth Ramachandran,
director of capital markets policy, India, CFA Institute. During the first 11 months
of 2021, 94% of green bonds were issued by nonfinancial corporates, according
to Climate Bonds Initiative.

"With much lending still dominated by banks, and with pressure on banks to
accelerate lending to sustainable projects, it could be just a matter of time
before more of them become active issuers of green bonds," said
Ramachandran.
Offshore investors

More Indian issuers will also turn to the offshore bond market to access the
wider and deeper capital pool outside their home country, experts said.

"While onshore green financing in India has grown substantially from its modest
beginnings in 2004, financing net-zero for the world’s third-largest contributor of
emissions will require access to the deep pool of capital that exists offshore,"
said Mitch Reznick, head of sustainable fixed income at Federated Hermes, a
U.S.-based investment manager.

Green bonds issued by emerging markets such as India have a strong appeal
to foreign investors, due to relatively attractive valuation and decent economic
growth prospects, Reznick added.
Offshore funding could also help plug the $3.546 trillion gap between the total
investment required to achieve net-zero and the amount that can be reasonably
contributed by domestic banks, nonbank financial companies and capital
markets, according to a Nov. 18 report by the Council on Energy, Environment
and Water Center for Energy Finance, or CEEW-CEF, an Indian think tank.

The CEEW-CEF estimated India will need to invest $10.103 trillion by 2070 to
be carbon-neutral. About $8.412 trillion will be needed to transform India's coal-
reliant power sector to renewable energy sources, while another $1.494 trillion
will be required to develop carbon capture and storage and green hydrogen
technology, according to the think tank.

"The cumulative investments needed for net-zero societies may be bigger than
India’s current size of economy. Hence there should be some shortfalls on their
funding needs," said Jay Lee, Hong Kong-based partner at Simmons &
Simmons, a law firm. India's nominal GDP was $2.66 trillion in 2020.

"To plug this gap, the country will need investments from developed economies
in the form of concessional finance as well as private capital infusion from
overseas investors in the form of bond and equity investments," said Prachurjya
Bharaly, associate director, investment banking at Acuity Knowledge Partners,
a research and analytics firm.

Rising rates, costs

While low borrowing costs were behind the strong issuance of green bonds in
India in 2021, the momentum to go green will likely offset some of the impact
from rising interest rates in the near future.

"If the hikes are at moderate levels, they may not meaningfully affect the
growing green bonds issuance as the issuers’, the intermediaries’ and the
investors’ interests in green bonds may be bigger than the adverse effect of the
moderate-level hikes," said Simmons' Lee.

In addition, more financial incentives from the Indian government will also be
crucial to accelerating the growth of the nation's green bond market, analysts
said.

"These stimuli can assume the form of government grants to completely or

partially cover the costs of external review, costs of credit rating and other costs
linked to green bond issuance or tax deduction for issuance costs,” said Acuity's
Bharaly.

For instance, regulators in other markets such as Hong Kong and Singapore
fully reimburse issuers for external reviews if they meet government criteria, LC
Capital’s Sharma said. "Such strategies could be followed in India which may
make them more appealing to investors," Sharma added.

"Unlike China, which has grown its green bonds and financing steadily over
seven to eight years, India seems to be a late comer on the significant growth of
the green bonds. But, [2021] seems to show some good momentum of growth,"
said Lee.

HOW ARE CORPORATE BONDS ISSUED?

INTRODUCTION

With increasing investors’ appetite and supportive regulatory framework,

the Indian corporate bond market has transformed itself into a much more
pulsating trading field for debt instruments from the elementary market that
it was about a decade ago.

When India is endeavoring to sustain its high growth rate, this article
attempts to highlight the importance of issuance of corporate bonds,
present regulatory framework and suggest an improvement in the
participation by investors to assist corporates explore how financing
constraints in any form can be removed and alternative financing channels
through corporate bonds be developed in a systematic manner for
supplementing traditional bank credit.

While the equity market in India has been quite active, the size of the
corporate debt market is very small in comparison to not only developed
markets, but also some of the emerging market economies in Asia. Hence
it is essential that a participative and liquid corporate debt market can play
a critical role by supplementing the banking system to meet the
requirements of the corporate sector for long-term capital investment, asset
creation and moderating the cost of borrowings.

Present Status of the Corporate Bond Market in India

As per Securities and Exchange Board of India (SEBI) database,

outstanding corporate bonds amounted to around Rs.18 trillion ($ 265 bn
approx.) as on March 2015 which constitutes roughly 11% of Gross
Domestic Product (GDP) (SEBI & World Bank database), whereas the
proportion of bank loans by Scheduled Commercial Banks to GDP in India
is approximately 40%. In comparison to India, outstanding corporate bonds
are close to 115% of GDP in US, around 60% in Japan and close to 110%
in United Kingdom (Bank for Internat ional Settlements – Quarterly Review
2015).

Historically, bank finance coupled with equity markets and external

borrowings has always been the preferred funding source for Indian
corporates. The proportion of the corporate bonds, on other hand, stand at
a very meager percentage of the aggregate outstanding funding to
corporates.

In India, Infrastructure Companies, PSUs and NBFCs are dominating the

corporate bond market and frequently issue debentures. PSU bonds are
generally treated as proxies for sovereign paper, sometimes due to explicit
guarantees and often due to the comfort of public ownership. Some of the
PSU bonds are tax-free, unlike most other bonds, including government
securities and are issued at attractive rates to the Investors. Due to top
notch credit rating, public ownership and Government support, investors
are looking for an opportunity to invest in such bonds.
In order to expand business and meet working capital requirements,
NBFCs have been opting for retail issues of Non-Convertible Debentures
(NCDs) rather than commercial papers, as this helps them broaden their
investor base.

Public Issue of Corporate Bonds has not been a very popular means of
fund raising for corporates in India. Corporates are currently issuing
debentures on private placement basis to mostly Banks and Financial
Institutions and thereafter getting the same listed on stock exchange(s) for
liquidity and certain tax benefits.

Fortunately, the presence of a big private sector, deregulated interest rates,

well developed government securities market, highly developed clearing
and settlement system, credible rating agencies, and supporting regulatory
structure augur well for the development of the corporate bond market in
India.

Types of Debt Market in India

The Debt Market in India comprises of broadly two segments, viz.

Government Securities Market and Corporate Debt Market. Corporate Debt
issued by a company is either in the form of Commercial Paper (CP) or
Corporate Debentures/ Bonds (CB). At present, any company incorporated
in India, even if it is part of a multinational group, can issue corporate
bonds.

Corporate Debt can be raised through public issues or private placement

routes. Private Placement is defined as ‘any offer of securities or invitation
to subscribe securities to a select group of persons (less than 200) by a
company (other than by way of public offer) through issue of private
placement offer letter. While a Public Issue is an offer made to the public in
general to subscribe to the debentures/bonds.
There are two market segments for listing of Corporate Bonds on the
bourses i.e. BSE Ltd., National Stock Exchange Limited and Metropolitan
Stock Exchange of India Ltd. (erstwhile MCX-SX).

 Wholesale Debt Market segment for privately placed securities and

 Capital Market Segment for securities issued under public issue.

RBI and SEBI have made active efforts for the orderly development of the
Corporate Bond Market in India to ensure larger participation from all
segments of the investors including retail investors and repose confidence
by safeguarding their investments.

Public Issue of Corporate Bonds / Non-Convertible Debentures

(NCDs)

Non-Convertible Debenture is an instrument of debt executed by the

company acknowledging its obligation to repay the sum at a specified date,
carrying an interest and is not convertible into equity. It includes debenture,
bonds, and such other securities and is secured / unsecured in nature. A
Public issue of Bonds/NCDs is a means of raising funds by ‘borrowing’
money from public markets against an issue of marke table securities to
meet certain business objectives.

The issuer is the company or the organization who borrows the funds
whereas the lender is the investor. Public issue of bond is a convenient and
cost-effective way of fund raising. Bonds are less risky and volatile as
compared to equities. Bonds also have a definite period term or maturity
after which the bonds may be redeemed. The transaction of issuing bonds
by the organization to the lender takes place in the primary market, while
the bonds that are issued earlier are traded in the secondary market.
Compliance under the SEBI (Issue and listing of Debt Securities )
Regulations, 2008

The Public Issue of Corporate Bonds/ NCDs is governed by the Companies

Act, 2013 and SEBI (Issue and listing of Debt Securities) Regulations, 2008
(SEBI Debt Regulations). Issuers that are NBFCs are also subject to
compliance of regulations framed by the RBI.

Additional compliances by NBFCs

In addition to the above, NBFCs are required to comply with the

guidelines / regulations of the Reserve Bank of India which, inter alia,
requires a Systemically Important NBFCs to maintain Capital to Risk-
Weighted Assets Ratio (CRAR) of 15% and adhere to strict corporate
governance requirements. Further, for all NBFCs, Unsecured NCDs are
considered as subordinate debt and qualify for Tier II Capital for the
purpose of calculating CRAR. However, Tier II capital can only be 50% of
the Tier I Capital. Accordingly, issues of Unsecured NCDs are restricted to
that extent.

Brief process on the Public Issue of Bonds/ NCDs and Other

Compliances

Companies are permitted to raise capital as debt from the public at large as
well as institutional investors by way of a Public Issue of Non-Convertible
Debentures. Unlike a Public Issue of Equity Shares, the Offer Document for
a Public Issue of Non-Convertible Debentures is not required to be
approved by SEBI but an In-Principle approval is obtained from the Stock
Exchange on which the Debentures are to be listed.

The Offer Document is to be prepared as per the disclosure requirements

under the Companies Act, 2013 and SEBI Debt Regulations.
The Public Issue process begins with the appointment of a Merchant
Banker. The Company, along with the Merchant Banker, evaluates the
Objects for which funds are to be raised and structures the instrument
which shall be most suited for the Company based on balance sheet
considerations, profitability analysis and cash flow analysis. In structuring a
NCD Issue, several factors are to be taken into consideration including the
type of redemption pattern of securities, options of interest payments based
on redemption patterns and class of investors, the security to be offered
and the timing of the issue among several other considerations.

Once the In-principle Approval is obtained from the Stock Exchange,

marketing efforts for the NCD Issue may be initiated. NCDs are marketed
to Financial Institutions, Institutional Investors, Mutual Funds, Insurance
Companies, HNI(s) and Retail investors.

Tax benefits to Investors

 Interest received on the NCD held in dematerialized form (Demat) by

the investors would not be subject to deduction of tax at source at the
time of credit/payment.
 Long-term capital gain on the transfer of listed debentures is exempt
from the levy of tax. Though short-term capital gains on the transfer
of listed debentures, where debentures are held for a period of not
more than 12 months would be taxed at the normal rates.
 In case the debentures are held as stock in trade, the income on
transfer of debentures would be taxed as business income or loss in
accordance with and subject to the provisions of the I.T. Act
Why Public Issue of Corporate Bonds/ NCDs

1. Flexibility in Structuring the Instrument

Corporates are always on the look out for new avenues of fund raising.
Listed Corporate Bonds provides several structuring benefits in this
respect.

The Rate of Interest for the NCDs are market driven and depend upon
various criteria, including but not limited to credit rating of the Company.
Companies have an opportunity to structure their corporate bond issuance
with flexibility in the rate of interest, interest payment options – monthly,
quarterly, annually and cumulative, tenure, security, put and call options,
minimum investment amount and right to retain oversubscription up to
100% of the Base Issue Size, among others. The Issue period can be kept
open for more number of days as compared to Equity Public Issues.

Mahindra & Mahindra was the first Indian company to issue 50-year plain-
vanilla rupee-denominated instrument. This is indicative of the increasing
confidence of investors in corporate India’s long-term prospects. Long-term
investors such as pension funds and insurance companies can use such
long-tenure instruments to better align the duration of their portfolios.

2. Potential for large retail participation

In comparison to interest rates available on Fixed Deposits of Commercial

Banks, Corporate Bonds provide better returns with varying risk profiles of
instruments. At present, close to INR 81,358.4 billion of retail investments
are in FDs of Commercial Banks which may be channelized into Corporate
Bonds by creating the right awareness on the structure and form of
Corporate Bond Instruments.

3. Strong appetite of FII to invest in Corporate Bonds in India

Foreign institutional investors (FIIs) have shown a greater interest in
investing into India on account of the favourable investment scenario being
created by the government. The Corporate Bond instruments are an
attractive investment which earns slightly better yields in comparison to
Government Securities.

Future Measures and Growth of Corporate Bond Market

1. Market making mechanism - SEBI is actively considering a market

making framework to provide liquidity in the Corporate Debt Market.
This will foster interest in the seconda ry market.
2. Awareness with the retail investors - An incentivized distribution
channel can create awareness among retail investors on investment
into Corporate Bonds which shall deepen retail participation in the
market.
3. Simplified stamp duty provisions - There is inconsistency in stamp
duty provisions in primary issuances and secondary market
transactions. Clarity on this front and alignment with international
practices will contribute towards deepening the market participation.
4. Taxation - FII and QFIs are required to pay withholding tax on interest
paid by Indian Corporate which proves to be a deterrent at times.
5. Wider role and power to the Debenture Trustees (DTs) - A
strengthened role of DTs with powers to enforce contracts and
security kept in trust shall enhance the confidenc e of retail and
institutional investors.
6. Other measures - There are several other measures viz. mechanism
for credit enhancements by credit/liquid facilities, roll over or re-issue
of debt securities with minimal legal requirements, extending policy
and regulatory support, clarity on issue of partly paid NCDs; could
facilitate in the improvement in the Corporate Bond Market in India.
Conclusion

The potential of the Corporate Debt Market in India is tremendous.

However, low penetration and awareness amongst masses, especially
retail investors, mainly due to the lack of awareness on the characteristics
of these instruments is a hindrance to its growth. On a positive note, mutual
funds have found favour in well rated corporate bonds and have
contributed to the development of this market. As the economy picks up,
traditional sources of fund raising will have to be complimented with new
avenues and like financially developed nations India will also unravel the
untapped potential of the corporate debt market with greater retail
participation, akin to the developed equity markets in India.