PROJECT INTERIM REPORT

ON
Debt Market in India

Faculty Guide: Prof. Dr.P R Kulkarni

Submitted By

Mohamed Faraz Siddiqui

09BS0001286

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ABSTRACT
This analysis gives brief information about Indian Debt Market in depth. Research
work of this project report is purely secondary data based analysis and findings.
Report gives insights of Debt Market evolution in India to till date prosperity.
Analysis part involves strategic market analysis of this industry to showcase the
industry in a simple framework as players involved, competitive strategy analysis,
instruments traded etc. Financial booming of this sector is known through analysis
of top three Company’s financial statement analysis as they have major stake in
this industry’s revenue. This analysis gives forecasting reports about Bond sector
of India. Future of this sector lies on collaborations as various alliances which
build this sector in advanced as globalised industry. For proper alliances to form it
requires qualitative analysis of the sectors. This analysis can be known through this
report. Whole report includes qualitative to quantitative research data to know the
sector in superior approach.

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INTRODUCTION
The debt market is much more popular than the equity markets in most parts of the
world. In India the reverse has been true. Nevertheless, the Indian debt market has
transformed itself into a much more vibrant trading field for debt instruments from
the rudimentary market about a decade ago. The sections below encompass the
transformation of government and corporate debt markets in India along with a
comparison of the developments in equity market.

Prior to 1992, money was collected and lent according to Plan. Lacunae in
institutional infrastructure and inefficient market practices characterized the
government securities market. In fact the sole objective pursued was to keep the
cost of government borrowing as low as possible. If planning went awry, the
government sent word to its banker. The central bank made a few phone calls to
the heads of banks and bonds were issued and the money arranged. No questions
asked, no explanations given. The GOI bond market did not use trading on an
exchange. It featured bilateral negotiation between dealers. The market thus lacked
price-time priority and the bilateral transactions imposed counterparty credit risk
on participants. This narrowed down the market into a “club” with homogeneous
credit risk. This was the state of the government debt market in India ten years ago.

The major thrust of Financial Reforms commenced in 1992. This was when the
contours of the debt market began taking shape. The idea of the financial reform
movement was to have more and more different markets and not necessarily have
whole financial intermediation left to the banks. The reform process attempted at
doing away with regulations in favor of controls based on market forces i.e. an era
where the interest rates are governed more by the market forces of demand and
supply and less by centralized supervision. Slowly, but steadily, the market grew,
adding fresh players and novel instruments. Several measures have added greater
transparency and have brought the issuances closer to the market levels.

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OBJECTIVES
 This report will let investors know about this sector and decide upon
prosperity while investing in it. Market analysis of Bond sector at country
level using marketing tools to know about various factors by which this
Industry can be evaluated.
 To know different levels through which bond companies market its products.
 To know business strategy followed by the industries in this sector. These
strategies will let any investor or entrepreneur to know in depth about this
sector.
 Gain an in-depth knowledge about various types of instruments available in
the market.
 Understand the growth in the industry.
 Understand the Financial impact of the industry.
 Study the regulations governing the policy in India in Debt Market.

METHODOLOGY
Steps followed in this research report design are:

• Historical analysis

• Data aggregation

• Forecasting numbers and detailed industry studies

• Idea generation from insightful analysis

From the above steps:

In this interim report, first two steps were done or completed. Historical analysis
and data aggregation will give base to start with research work.

Data is aggregated from different resources which are shown in reference section
of the report.

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This methodology is comprised of following structure as:

Industry Snapshot & Analysis

It will give a holistic overview of the industry. It starts with defining the market
and goes on to give historical and current market size figures.
It also involves a comprehensive analysis of the industry and its market segments.
This section discusses the key developments that have taken place in the industry.
It also identifies and analyzes the driving factors and challenges of the industry. A
description of the regulatory structure tells us about the major regulatory bodies,
laws and government policies.

Country Analysis
This section presents the key facts & figures of the country. It also discusses the
political environment and the macroeconomic indicators. It analyzes government
stability and economic growth of the country.

Comparison with equity market

This section compares the major competitors in the industry. The Competitors At-
a-Glance is aimed at giving an overview of the competitive landscape in the
industry.

Instruments traded
The major instruments are profiled in this section. For each instrument,
description is given followed by highlights and recent developments.

Future Outlook
This section presents the future outlook of the industry. The analyst opinion and
projections help us in evaluating the future of the industry. It gives an insight into
the investment opportunities present in the sector.

All these above steps involved in forming this research report will be beneficial for
user to get information in the entire report. Each topic framed to get insights
related to them.

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INDUSTRY SNAPSHOT & ANALYSIS

The major thrust of Financial Reforms commenced in 1992. This was when the
contours of the debt market began taking shape. The idea of the financial reform
movement was to have more and more different markets and not necessarily have
whole financial intermediation left to the banks. The reform process attempted at
doing away with regulations in favour of controls based on market forces i.e. an
era where the interest rates are governed more by the market forces of demand and
supply and less by centralized supervision. Slowly, but steadily, the market grew,
adding fresh players and novel instruments. Several measures have added greater
transparency and have brought the issuances closer to the market levels.

The major reforms that took placein 90’s were:

• Introduction of the auction system for sale of dated government securities in

June1992. This signaled the end of the era of administered interest rates.
• The RBI moved to computerize the SGL and implement a form of a ‘delivery
versus payment’ (DvP) system. The DvP enabled mitigating of settlement risk in
securities and ensured the smoothness of settlement by synchronizing the payment
and delivery of securities.
• Innovative products in form of Zero Coupon Bonds and Capital Indexed Bonds
(Ex. Inflation Linked) were issued to attract a wider gamut of investors. However,
the pace of innovation suffered due to non-sophistication of the markets and lack
of persistence with some of the new bonds like Inflation Indexed bonds after the
initial lukewarm response.
• The system of Primary Dealers was established in March 1995. These primary
dealers have since then acquired a large chunk of share in the GOI bond market
and have played the role of market makers.
• The RBI setup “trade for trade” regime, a strong regulatory system which
required that every trade must be settled with funds and bonds. All forms of netting
were prohibited.
• Wholesale Debt Market (WDM ) segment was set up at NSE, A limited degree of
transparency came about through the WDM at NSE, where roughly half the trading
volume of India’s GOI bond market is reported.
• The Ways And Means agreement put an end to issuance of ad hoc treasury bills,
the governments favourite instrument of funding its profligacy.
• Interest Income in G-Secs was exempted from the purview of TDS.
• FIIs with 100% Debt Schemes were allowed to invest in GOI Securities and T-
Bills while other FIIs were allowed 30% investment in these instruments.

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Though significant improvements have been made in the primary market, the
secondary market continued to be plagued by certain shortcomings like dominance
of a few players (acted as a deterrent to lending width in the market), strategy of
holding to maturity by leading players (prevented the improvement in the depth of
the market), the pre-1992 “telephone market” continued to exist (prevents
information dissemination and hence price discovery is limited) and low retail
participation in G-Secs continues to exist even today. Experts believe that there is
tremendous potential for widening the investor base for Government securities
among retail investors. This requires a two-pronged approach, increasing their
awareness about Government securities as an option for investment and improving
liquidity in the secondary market that will provide them with an exit route. Also
infrastructure is seen as the vital element in the further development and deepening
of the market.

Corporate Bond Market

In the last decade, market related borrowings by the corporate sector have
remained depressed as a plethora of Financial Institutions were available for
disbursal of credit. These Institutions managed to mobilize a significant amount of
domestic savings and route them for corporate consumption.

Also the reforms abolished the office of the Controller of Capital Issues (CCI),
which meant that companies were free to price their equity issues as per the market
appetite. This led to a slew of primary issue of equity and the relative attractiveness
of issue of debt yielded way to equities. In fact, even debt issues were made with
attached sweeteners like convertible portion of the fixed income instrument. In
addition, several relaxations in regulations post 1992 have encouraged Indian
corporates to raise debt from overseas capital markets leading to further shunning
of the domestic debt market by creditworthy issuers. Therefore, the corporate debt
market in India has continued to be dominated by the PSU’s.

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In the recent past, the corporate debt market has seen high growth of innovative
asset-backed securities. The servicing of debt and related obligations for such
instruments is backed by some sort of financial assets and/or credit support from a
third party. Over the years greater innovation has been witnessed in the corporate
bond issuances, like floating rate instruments, zero coupon bonds, convertible
bonds, callable (put-able) bonds and step-redemption bonds. For example, step
bonds issued by ICICI in 1998, paid progressively higher rates of interest as the
maturity approached while the IDBI’s step bond was issued with a feature to pay
out the redemption amount in instalments after an initial holding period. The deep
discount bond issued by IDBI in the same year had two put and call options before
maturity.

What these innovative issues have done is that they have provided a gamut of
securities that caters to wider segment of investors in terms of maintaining a
desirable risk-return balance. Over the last five years, corporate issuers have shown
a distinct preference for private placements over public issues. This has further
cramped the liquidity in the market. While private placement has grown 6.23 times
to Rs. 62461.80 crores in 2000-2001 since 1995-96, the corresponding increase
inpublic issues of debt has been merely 40.95 percent from the 1995-96 levels.

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COUNTRY ANALYSIS
India's economy is the eleventh largest in the world by nominal GDP and the
fourth largest by purchasing power parity (PPP). The country's per capita GDP
(PPP) is $3,176 (IMF, 127th) in 2009. Following strong economic reforms from
the socialist inspired economy of a post-independence Indian nation, the country
began to develop a fast-paced economic growth, as free market principles were
initiated in 1990 for international competition and foreign investment. Economists
predict that by 2020, India will be among the leading economies of the world.

India was under social democratic-based policies from 1947 to 1991. The economy
was characterised by extensive regulation, protectionism, public ownership,
pervasive corruption and slow growth.Since 1991, continuing economic
liberalisation has moved the country toward a market-based economy. A revival of
economic reforms and better economic policy in first decade of the 21st century
accelerated India's economic growth rate. In recent years, Indian cities have
continued to liberalize business regulations. By 2008, India had established itself
as the world's second-fastest growing major economy.However, as a result of the
financial crisis of 2007–2010, coupled with a poor monsoon, India's gross domestic
product (GDP) growth rate significantly slowed to 6.7% in 2008–09, but
subsequently recovered to 7.2% in 2009–10, while the fiscal deficit rose from 5.9%
to a high 6.5% during the same period.

India's large service industry accounts for 57.2% of the country's GDP while the
industrial and agricultural sector contribute 28% and 14.6% respectively.
Agriculture is the predominant occupation in India, accounting for about 52% of
employment. The service sector makes up a further 34%, and industrial sector
around 14%.The labour force totals half a billion workers. Major agricultural
products include rice, wheat, oilseed, cotton, jute, tea, sugarcane, potatoes, cattle,
water buffalo, sheep, goats, poultry and fish.Major industries include
telecommunications, textiles, chemicals, food processing, steel, transportation
equipment, cement, mining, petroleum, machinery, information technology
enabled services and pharmaceuticals. However, statistics from a 2009-10
government survey, which used a smaller sample size than earlier surveys,
suggested that the share of agriculture in employment had dropped to 45.5%.

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Previously a closed economy, India's trade has grown fast.India currently accounts
for 1.5% of world trade as of 2007 according to the WTO. According to the World
Trade Statistics of the WTO in 2006, India's total merchandise trade (counting
exports and imports) was valued at $294 billion in 2006 and India's services trade
inclusive of export and import was $143 billion. Thus, India's global economic
engagement in 2006 covering both merchandise and services trade was of the order
of $437 billion, up by a record 72% from a level of $253 billion in 2004. India's
total trade in goods and services has reached a share of 43% of GDP in 2005–06,
up from 16% in 1990–91.

The Centre for Monitoring Indian Economy (CMIE) has estimated India’s gross
domestic product (GDP) to expand at 9.2 per cent in 2010-11 as compared to the
growth of 7.4 per cent in 2009-10. Overall growth in industrial output was 10.8 per
cent year-on-year (y-o-y) in October 2010. The growth in the industrial sector is
expected to increase at 9.4 per cent in 2010-11, as compared to 9.2 per cent in
2009-10. According to a survey by the Confederation of Indian Industry (CII) and
ASCON, around 50 segments (out of 127) in the manufacturing sector grew by 39
per cent, entering the 'excellent growth' category, during April-December 2010-11
compared to 29 sectors (22.9 per cent) in April-December 2009 which shows a
marked improvement. Also, services sector is projected to expand by 10 per cent as
compared to 8.6 per cent last year, led by the trade and transport segment. The
major turnaround is expected from the agriculture and allied sector, which is being
projected to grow by 5.7 per cent in 2010-11.

For years, India has been the second-fastest growing major economy in the world.
That could soon change, with the  Indian economy set to expand at a faster pace
than the Chinese economy in 2012, according to World Bank data.

This is expected to result from continued high demand in India even as measures to
combat overheating kick in for the Chinese economy.

The multilateral agency`s World Economic Outlook has projected that India will
grow at 8.7% in 2012, compared to China`s 8.4%. In 2011, however, China would
continue to grow at a faster pace than India.

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COMPARISON WITH EQUITY MARKET

During this decade of financial reforms development in equity market has been
striking as compared to relatively minor changes in the debt market. In terms of
sheer market size, the equity market saw a drop from 42% of GDP in 1993–94 to
28.6% of GDP in 2000-01. Over the same period, the GOI bond market saw an
increase in market size, fueled by large fiscal deficits, from 28% of GDP in 1993–
94 to 36.7% of GDP in 2000–01. Other things being equal, this should have
generated an improvement in liquidity of the GOI bond market and a reduction in
liquidity in the equity market. Instead, changes in market design on the equity
market over this period gave the opposite outcome, where the improvement in
liquidity on the equity market was superior to that observed on the GOI bond
market. The reasons for this have been manifold:

• Foreign capital inflows into the GOI bond market are relatively undesireable to
policy-makers. This is in contrast with capital inflows into the equity market,
where policy-makers seek to have the largest possible capital inflows. Hence,
infirmities in the market design on the GOI bond market do not generate an
important opportunity cost as far as harnessing foreign capital inflows are
concerned.

• In the presence of “development finance institutions” and banks, firms in India

are seen as having access to debt financing, access to debt finance was therefore
not seen as a major bottleneck hindering investment. Hence, the lack of a liquid
bond market was not keenly seen as a constraint in investment and growth.

• In the case of the GOI bond market, the benefits from a non-transparent market
with entry barriers accrue primarily to banks and PDs. The PDs are largely the
creation of RBI and public sector banks have extremely close ties with RBI. The
RBI is the regulator for G-Secs market.

Thus the development of equity markets took precedence over development of debt
market in India but the future does seem promising for the debt market.

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CONCLUSION
Whole analysis was carried out in the timeline of last 2 to 3 months from collecting
data and aggregating them to find suitable inputs for report. Analysis carried out is
purely theoretical based along with quantitative estimates which were drawn in
interim report. Other part of this report which is final output of this research work
will comprise of instruments traded and future outlook.
Reliability of information provided in this report can be checked with references
used to form this research report.
This research report was carried out to get more insights of bond sector of India
and let others know about it. Research report can be considered for further studies
or reference for any research work done by any user as student, scientist, and
entrepreneur.

REFERENCES

 The evolution of the securities markets in India in the 1990s- Ajay Shah &
Susan Thomas, September 2001.
 ADB report on development of securities market in India- Feb 2002.
 Indian Money and Fixed Income Securities Market: A study of Evolution-
Subrata Majumdar.
 Indian macro economic watch- June, 2002.
 www.google.com
 Wikipedia
 CMIE report
 World bank report

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Glossary

• Bond: Bonds are debt and are issued for a period of more than one year.
• Convertible Bond: Bonds that can be converted into common stock at the option
of the holder.
• Corporate Bond: Debt obligations issued by corporations.
• Debt Market: The market for trading debt instruments.
• Equity: The portion in an account that reflects the customer’s ownership interest.
• Equity Market: Also called the stock market, the market for trading equities.
• FII: Foreign Institutional Investors
• G-Secs: The Reserve Bank of India (RBI) issues bonds known as Government of
India Securities (G-Secs) on behalf of the Government of India.
• Inflation-Indexed Bonds: When one buys Inflation-Indexed securities, the
interest is paid on the inflation-adjusted principal amount.
• Redemption: The retiring of a debt instrument by paying cash.
• Secondary Market: The market in which securities are traded after the initial (or
primary) offering. Gauged by the number of issues traded. The over-the-counter
market is the largest secondary market.
• Step-up Bond: A bond that pays a lower coupon rate for an initial period which
then increases to a higher coupon rate.
• Zero Coupon Bonds: Such a debt security pays an investor no interest. It is sold
at a discount to its face price and matures in one year or longer.

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