Government securities

Introduction
• The marketable debt issued by the Government and Semi-Government
bodies which represents a claim on the Government is called
Government Securities.
• Government Securities are issued for the purpose of refunding the
maturing securities for advance refunding of securities which have not
yet matured, and raising fresh cash resources.
• Treasury Bills and Bonds are the examples of Government Securities.
• There are three forms of Central and State Government Securities. Stock
certificate, Promissory note and bearer bond..
 Meaning of government securities
• A government security is a bond or other type of debt obligation that is
issued by a government with a promise of repayment upon the security's
maturity date.
• Government securities are usually considered low-risk investments
because they are backed by the taxing power of a government.
 Why Are They
• Issued?
Government securities are usually issued for two different reasons.

– The primary reason that most government securities are issued

is to raise funds for government expenditures.
– Secondary reason is to control the supply of money in an economy.(eg
if securities are sold-economy growth rate will go down).
 Characteristics of Government Securities
• Issuing authority
• Government securities are issued only by the Central Government,
State Governments and quasi-Government authorities.
• In India, Gold bonds, National Defense Bonds, Rural Development Bonds etc.,
are the securities issued by the Central Government.
• Purpose of issue of Government Securities
• mobilizing funds(priority programmes)
• meeting deficit budgets
• have high liquidity, they largely influence the stock market.
 Characteristics of Government Securities
• Nature of securities
•They offer a relatively lower interest rate. Issued in denominations of Rs.100,
Rs.1000 or Rs. 10,000. They have a fixed maturity time period. Interest is paid
half-yearly. These are eligible as SLR investments. The value of investment in
these securities and the interest from these securities, is exempt from income tax
subject to a limit.

•Trading
•A central government security is deemed to be listed in the stock exchange. The
securities are traded in exchanges like BSE & NSE (RDM & WDM) and also
through the NDS system. Some are also traded in OTC and reported in any of the
above markets.
 Characteristics of Government Securities
• ISSUE MECHANISM –
• The Public Debt Office (PDO) of the RBI undertakes to issue the government
securities. The issue process comprises of :
• Issue Opening – Few days before the public subscription is open, it is notified to
the public through the government notification and the press communiqué. The
opening of the subscription depends on the response of the market and the
subscription is kept open for two to three days. The issue is made in a number of
branches in a year.
• Subscription – The offices of RBI and the branches of SBI receive applications
for the securities. While making allotment, the Government reserves the right to
retain over-subcription upto a pre-specified percentage, generally 10%, in excess of
the notified amount. Over-subscription as relating to the issue of Securities by the
State Government will be transferable to other State Governments whose securities
are still open for subscription at the option of the subscriber.
 How are the govt. securities issued???
• Govt. securities are issued through auctions conducted by RBI..
• Auctions are conducted on the electronic platform called NDS auction
platform.
• Commercial banks, scheduled co-operative banks, primary dealers,
insurance companies and PF, who maintain finds acc(current account) &
securities account (SGL acc) with RBI are the members of this
electronic platform
 TRADING MECHANISM of GSM
• Public Debt Office of the Reserve Bank of India issues notification: When the Reserve
Bank of India wants to sell government securities, it orders its Public Debt Office to issue a
notification specifying the date of opening of the issues for subscription. The issue is kept open
for a definite number of days. The investor can purchase securities anytime till the expiry of the
last date of the scheme. RBI also authorises other banks to sell securities on its behalf.

• Through Securities General Ledger (SGL) Account: SGL account is the account which
authorised banks need to maintain with the Reserve Bank of India for various transaction done by
them. The dealing bank has to fill up the prescribed SGL form while doing any transaction
of sale or purchase with the RBI. In SGL form particulars about date and value of the
transaction are recorded which has taken place.

• by Issuing Bank Receipt: This method is useful when the transaction of sale has a condition
that the securities will be bought back at a future date at a predetermined price. In this
method, the banks issuing government securities does not actually issue securities but issues a
receipt to the purchaser that it holds securities of that much value with it on behalf of the
investor/purchaser. by this way, physical transfer of securities is avoided. It also does not require
filling up of SGL forms and submitting them to the RBI.
TYPES OF
GOVERNMENT
SECURITIES
 Dated Government securities
The securities are named as dated securities because of the date of maturity expressed. Dated
Government securities are long term securities or bonds of the government that carries a fixed
or floating coupon (interest rate).
• Securities are held mostly by commercial banks (in the form of SLR) and other financial
institutions. The government securities are tradable in the stock market.
• The RBI sells securities through auction through the Negotiated Dealing System (NDS) and
they are bought by institutions known as primary dealers (Primary dealers are mostly
commercial banks, insurance companies etc.)
• Financing the fiscal deficit is the most important purpose for issuing the dated securities.
• The interest payment is fixed and is a percentage of the face value of the security. Interest is
paid at regular intervals (usually half-yearly).
• The tenor of dated securities can be up to 30 years. But the most common tenure is five year
and ten year.
 ZERO-COUPON BOND
A zero-coupon bond is a debt security that doesn't pay interest (a coupon) but is traded
at a deep discount, rendering profit at maturity when the bond is redeemed for its full
face value. A zero-coupon bond is also known as an accrual bond.
• The securities does not carry any coupon or interest rate
• The difference between the purchase price and the par value represents the investor’s
returns.
• The interest earned on a zero-coupon bond is an imputed interest, meaning that it is
an estimated interest rate for the bond, not an established interest rate.
• The price of a zero coupon bond can be calculated as:
Price = M / (1 + r)n
 PARTLY PAID
STOCK
Partly paid shares in a company are ones in respect of which only a partial payment (or
deposit) has been made, with the understanding that as the company requires more funds, calls
will be made from time to time until the shares are fully paid, when no further calls can be
made.
• Payment of principal amount is made in instalments over a given timeframe.
• It meets the needs of inventors with regular flow of funds and of governments when it does
not need funds immediately.
• Interest/coupon payment is made on a half yearly basis on its face value
 FLOATING RATE BONDS
A floating-rate note, also known as a floater or FRN, is a debt instrument with a variable
interest rate.
• A floating rate note’s interest rate, since it is not fixed, is tied to a benchmark such as
the Treasury bill rate
• Commercial banks, state and local governments, corporations and money market
funds purchase these notes, which offer a variety of terms to maturity and may be
callable or non-callable.
• Compared with fixed-rate debt instruments, floaters protect investors against a rise in
interest rates
• Have a two- to five-year term to maturity.
 BOND WITH CALL/PUT
OPTION
A bond option is a contract that gives an investor or issuer the right to buy or sell a
bond by a particular date for a predetermined price
• A put option on a bond is a provision that allows the holder of the bond the right to
force the issuer to pay back the principal on the bond before its maturity.
• A callable bond that gives the issuer the right to “call” or buy back its existing
bonds prior to maturity when interest rates decline.
• It removes the pricing risk bond holders face when they attempt to sell the bond into
the secondary market, where they may have to sell at a discount.
 CAPITAL INDEXED
BOND
The most common form of inflation linked bond is the capital indexed bond (CIB).
Simply, CIBs are a bond whose base payment rises and falls with the Consumer Price
Index (CPI).
• Provides direct and reliable protection against inflation
• Tradable, just like other fixed income securities
• Long terms to maturity offer long term inflation protection
• Can add diversification to your portfolio as there are many well-known issuers
• Interest/coupon payment is made on a half yearly basis on its face value.
• Interest/coupon is a fixed percentage over the wholesale price index.
 TAP
STOCK
Tap stocks are issued but are not fully subscribed and are released into market slowly, as
an when its market price reaches predetermined levels
• A tap issue is a procedure that allows borrowers to sell bonds or other short-term debt
instruments from past issues. The bonds are issued at their original face value,
maturity and coupon rate, but sold at the current market price.
• A tap issue is also referred to as a bond tap or tap sale
 STRIPS
STRIPS (Separate Trading of Registered Interest and Principal of Securities) are debt
securities that are created through the process of coupon stripping.
• Coupon interest and principle are separated and traded independently.
• It comprises of interest STRIPS and principles STRIPS.
• If securities has 5 year maturity it has 10 semi-annually interest STRIPS
and 1 principles STRIPS.
 MERITS OF GOVERNMENT SECURITIES
• Zero risk: Government securities are free from any risk as there are no chances of
default and government assures payment of principal along with interest.
• interest is paid regularly: in government bonds interest is paid at regular
intervals generally half yearly or quarterly.
• Liquidity: government securities can be bought and sold regularly and can
be instantly converted into cash.
• Tax exemptions: there is tax relief on the interest earned on government securities.
• Assured interest for long period of time.
DEMERITS OF GOVERNMENT SECURITIES
• If interest rate rises in the future investor may lose: if market rates of interest rise in
the future, the investor will have to suffer losses as his money is locked in a fixed
rate government security.
• The rate of return is lower: we already discussed that rate of return in government
securities are generally lower than that of corporate securities.
 Conclusions
• Financial reform is vital to the overall growth in an economy. Like many other
economies, financial reforms in India followed by acute foreign exchange crisis in
the Indian economy. The reform in India started with twin objectives of preventing
recurring macroeconomic imbalances on the one hand, and acceleration of long-run
growth in the economy.
• Towards the objective of developing deep and liquid secondary markets in
government securities, RBI has taken a plethora of reform initiatives since 1992.
• As government securities markets become more mature in terms of depth, liquidity
and become more integrated with the rest of the domestic and international financial
markets