Capital Market Participants, Instruments
Participants
Loan Takers: A huge number of organizations want to take a loan from the capital market. The following are notable among them: government entities, corporate bodies, non-profit organizations, small businesses, and local authorities.
Loan Providers: These firms provide loans to my capital market. Other organizations, such as savings and insurance companies, may get loans from loan providers.
Service companies contribute significantly to the smooth operation of the capital market. These businesses, on the one hand, assist issuers or underwriters in selling high-value instruments, while also facilitating transactions between sellers and purchasers. These are mostly service organizations, including banks, brokers, dealers, jobbers, the Security Exchange Commission, rating services, and underwriters.
Financial intermediaries act as go-betweens for lenders and borrowers. Financial intermediaries include insurance firms, pension funds, commercial banks, financing businesses, savings organizations, dealers, brokers, jobbers, and non-profit organizations.
Regulatory organizations: Regulatory organizations are mostly government agencies that monitor and manage the market. It protects both investors and companies. It substantially safeguards counterfeiting on the stock market. The regulatory body also has authority over the margin. The central bank, acting on behalf of the government, typically regulates a country’s financial activity.
Instruments
Government securities:
Government securities refer to securities issued by the federal or state governments.
A Government security may be issued in one of the following forms:
A government promissory note payable to or under the command of a certain person,
A bearer bond payable to the bearer.
A stock
Bonds are debt instruments issued by firms or governments to cover capital needs. They are stored in a bond ledger account. By acquiring a bond, an investor loans money for a certain length of time at a predefined interest (coupon) rate. Bonds have a set face value, which is the amount that will be repaid to the investor at maturity of the bond.
During this time, investors receive a regular payment of interest, either semi-annually or yearly, calculated as a percentage of the face value and known as a ‘coupon payment.’ Bonds may be issued at par, discount, or premium. A bond, whether issued by the government or a firm, has a fixed maturity date that might vary from a few days to 20-30 years or even longer.
Debentures and bonds are synonymous terms. In India, corporations offer debentures, whereas governments or semi-government groups issue bonds. However, corporates are increasingly issuing bonds with reduced interest rates and a preference for repayment at the time of winding up, as opposed to debentures.
The bond market’s primary issuers are the government, public-sector entities, and corporations. Bonds issued by corporations and the government of India may be exchanged on the secondary market.
Essentially, there are two sorts of bonds:
Government bonds are fixed-income debt instruments issued by the government to fund capital expenditures (fiscal deficit) or development initiatives.
Corporate bonds are debt instruments issued by public or private enterprises to obtain funds for working capital or capital expenditure purposes.
Types of government securities:
The following are the categories of government securities:
Promissory Notes are instruments in which the government guarantees to pay interest at a defined rate. Interest is typically paid every six months. Interest is only due to the holder upon presentation of the promissory notes. They are transferable by endorsement and delivery.
Stock certificates (also known as Inscribed Stock) are debts kept in the form of stock. After registering in the RBI’s PDO records, the owner receives a certificate with his name inserted. The execution of a transfer deed is required for its transfer. Investors dislike them because of the impact on liquidity. To obtain it encashed, one must wait till maturity.
Bearer bonds are government-issued instruments that guarantee a certain sum on a specific date. Bearer bonds may be transferred simply by delivering them. These bonds come with interest coupons attached. When the periodic interest is due, the holder cuts off the applicable coupon and delivers it to the appropriate authorities for payment.
Dated securities are long-term government securities or bonds having set maturity and coupon rates based on face value. These are referred to as dated securities since they are recognized by their maturity date and coupon, such as 12.60%. GOI BOND 2018 is a Central Government security maturing in 2018. It was issued on November 23, 1998, with security number 400095 and a coupon of 12.06% payable half-yearly. The market now contains Central Government-dated securities with maturities of up to 30 years. Dated securities are sold at auction. They are issued and redeemable at par.
Zero Coupon Bonds are issued at a discount to face value and may be redeemed at par. As the name indicates, there are no coupon or interest payments. The GOI issued these bonds for the first time in 1994, followed by two more in 1995 and 1996.
Partly Paid Stock: Payment of the principle amount is done in installments over a certain time period. It satisfies the interests of investors by providing a consistent flow of cash, as well as the needs of the government when funds are not required immediately. The first such stock with an eight-year maturity was issued on November 15, 1994, for Rs. 2000 crore. Following that, a few more of these stocks were issued.
Floating Rate Bonds: These bonds have a variable interest rate that resets every six months. There may be a cap and a floor rate connected, determining the maximum and lowest interest rate due on it. Floating rate bonds with a four-year maturity date were first issued on September 29, 1995.
Bonds with Call/Put Option: These are government bonds with options, allowing the issuer to purchase back the bond or the investor to sell it to the issuer. In 2001-02, for the first time in the history of the government securities market, the RBI issued a bond featuring call and put options. This bond was scheduled for redemption in 2012 and had a coupon of 6.72%. However, the bond included a call and put option after five years, in the year 2007. In other words, the holder of the bond might sell it back (put option) to the government in 2007 or the government could purchase it back (call option) from the holder in 2007.
Capital Indexed Bonds provide a fixed interest rate based on the wholesale price index. The principle redemption is tied to an inflation index (in this case the wholesale price index). These provide investors an excellent inflation hedge. These bonds were issued on an on-tap basis in December of 1997. They had a five-year maturity and a coupon rate of six percent over the wholesale price index.
Government securities are often issued as fixed rate bonds. In this sort of bond, the coupon rate is set at the time of issuance and stays so until redemption.
Other forms of government securities include gold bonds, national defense bonds, special purpose securities, rural development bonds, relief bonds, and treasury bills.
Banks, life insurance companies, general insurance companies, pension funds, and EPFOs are the most active investors in G-Sec. Other investors include primary dealer mutual funds, overseas institutional investors, ultra-wealthy individuals, and retail individual investors.
The National Stock Exchange’s OTC (Over the Counter), Negotiated Dealing System, and wholesale debt-market (WDM) segments account for the majority of secondary market trading in government bonds.
A debenture is a sealed document that evidences debt. The core of debenture is the admittance of debt. It is a financial instrument issued by a firm with the promise of paying interest and repaying the principle at maturity. Debenture holders are the firm’s creditors. According to Section 2 (12) of the Companies Act of 1956, debentures comprise debenture stock, bonds, and other corporate instruments. It is normal to appoint a trustee, often an investment bank, to safeguard the interests of debt holders. This is required since the debenture document specifies the debenture holders’ rights as well as the company’s duties.
Types of Debentures:
Secured Debentures are those that charge the company’s property. The fee might be floating or fixed. The floating fee is not associated with any specific asset of the organization. However, when the firm is liquidated, the fee becomes fixed. Fixed charge debentures are those in which a single asset or group of assets is pledged as collateral. The trust deed must provide specific information about these costs.
Unsecured Debentures: They are not secured by the company’s assets. They’re also known as “naked debentures.” Such shares may be issued by well-established, creditworthy enterprises.
Bearer debentures are receivable to the bearer and transferable by delivery. Interest coupons are connected to the certificate or bond. As the interest payment date approaches, the bond holder “clips off” the appropriate coupon and deposits it in his bank for collection. The bank may transmit it to the company’s fiscal agent, who collects the profits. Such bonds may be negotiated via delivery.
Registered Debentures: The corporation keeps a book with the holder’s name, address, and date of registration. The holder of such a debenture bond has nothing to do except wait for the interest payment, which is automatically transmitted to him on each payment day.
Coupons are connected to such debentures that are registered just for principals. As with bearer bonds, the holder must detach and collect the coupons in order to receive interest payments.
Debentures that are redeemable allow the corporation to call them before their maturity date. If the firm can afford it, the debentures may be paid off before their maturity date. Redemption may also occur by replacing the old securities with less priced ones.
Convertible debentures allow for the conversion of debentures into equity shares after a certain term.
Non-convertible debentures with detachable equity warrants allow investors to purchase a certain number of shares at a defined price from the firm. The option is only exercisable after a certain time period.
Preference Shares: According to the Companies Act (Sec, 85), 1956, preference shares have a preferred right to dividend payments throughout the company’s lifetime and return of capital in case of liquidation.
Preference shares combine the elements of equity capital with fixed income securities such as debentures. They get a set dividend before any dividends are issued to equity investors.
Types of Preference Shares:
Redeemable Preference Shares are redeemable after a certain term.
The corporation may repay these shares under specific circumstances, including full payment.
It must be redeemed from profit or reserve funds for this purpose.
If a premium is due, it must be paid.
A corporation may choose redeemable preference shares to avoid a fixed responsibility of payment, boost the profits of equity shares, simplify the capital structure, or for other reasons.
Irredeemable Preference Shares are only redeemable upon the company’s liquidation.
Convertible Preference Shares: Holders have the opportunity to convert these shares to equity shares. As a result, they are often referred to as quasi-equity shares. Preference shares may be converted into bonds or debentures if the corporation desires. The conversion option makes preference shares more appealing to investors. Even if the market for preference shares is not now favorable, the convertibility will make it appealing.
Participating Preference Shares provide monthly dividends at a predetermined rate. Furthermore, they have a claim to the company’s excess above a specific level.
Cumulative preference shares pay a set dividend of 10%. In this instance, any dividends that are not paid in a given year might be carried over to the next year.
Preference Shares with Warrants: This instrument includes a specific number of warrants. The holder of such warrants may apply for equity shares at a premium. The application should be submitted between the third and fifth years after the date of allocation.
Fully Convertible Cumulative Preference Shares: Part of these shares are automatically converted to equity shares upon allotment. The remaining shares will be redeemed at par or converted into equity after a lock-in period, at the discretion of the investors.
‘Securities’ refers to stock market investments.
The Securities Contract (Regulation) Act, 1956 defines securities as shares, scripts, stocks, bonds, and debentures.
Government securities.
Other instruments that the central government may declare to be securities.
Right or interest in securities
Derivatives
Securitized instruments.
Equity Shares:
Equity shares are ordinary shares of a limited firm. It is an instrument, or contract, that ensures a residual stake in an enterprise’s assets after subtracting all obligations, including dividends on preference shares. Equity shares are the company’s ownership capital. Equity holders are the legal proprietors of a business