If you hold the bond for at least five years, when you cash in redeem the bond, you receive all the interest the bond has earned plus the amount you paid for the bond. You can redeem the bond after 12 months. However, if you redeem the bond before it is five years old, you lose the last three months of interest. The interest on I bonds is a combination of a fixed rate, and an inflation rate To see the current value of your bonds, use the Savings Bond Calculator.
Fixed rate You know the fixed rate of interest that you will get for your bond when you buy the bond. The fixed rate is an annual rate. Compounding is semiannual. Inflation rate Unlike the fixed rate which does not change for the life of the bond, the inflation rate can and usually does change every six months.
Combining the two rates To get the actual rate of interest sometimes referred to as the composite or earnings rate we combine the fixed rate and the inflation rate, using the equation in the example below.
The combined rate will never be less than zero. However, the combined rate can be lower than the fixed rate. If the inflation rate is negative because we have deflation, not inflation , it can offset some of the fixed rate. If the inflation rate is so negative that it would take away more than the fixed rate, we don't let that happen. We stop at zero. An example The composite rate for I bonds issued from November through April is 7.
The two tables below show fixed rates and inflation rates, respectively. Fixed rates The fixed rate set each May and November applies to all bonds we issue in the six months following the date when we set the rate.
Second, the present values of future cash flows are multiplied with their respective time periods these are the weights.
That is the PV of the first coupon is multiplied by 1, PV of second coupon by 2 and so on. Third, the above weighted PVs of all cash flows is added and the sum is divided by the current price total of the PVs in step 1 of the bond. The resultant value is the duration in no. Since one period equals to six months, to get the duration in no.
This is the time period within which the bond is expected to pay back its own value if held till maturity. The weighted average term time from now to payment of a bond's cash flows or of any series of linked cash flows.
The higher the coupon rate of a bond, the shorter the duration if the term of the bond is kept constant. It refers to the change in value of the security to one per cent change in interest rates Yield.
The formula is. Duration is useful primarily as a measure of the sensitivity of a bond's market price to interest rate i. It is approximately equal to the percentage change in price for one percent change in yield.
In other words, duration is the elasticity of the bond's price with respect to interest rates. This ignores convexity explained in para It is the present value impact of 1 basis point 0.
It is often used as a price alternative to duration a time measure. Higher the PV01, the higher would be the volatility sensitivity of price to change in yield. From the modified duration given in the illustration under In value terms that is equal to 1.
Thus, if the yield of a bond with a Modified Duration of 1. This is because the relationship between bond price and yield is not strictly linear.
Over large variations in yields, the relationship is curvilinear i. This is measured by a concept called convexity, which is the change in duration of a bond due to change in the yield of the bond. The book value of individual securities in AFS and HFT categories would not undergo any change after marking to market.
Ltd FBIL has been advised to assume the responsibility for administering valuation of Government securities with effect from March 31, Going forward, FBIL will undertake a comprehensive review of the valuation methodology. Other market participants who have been using Govt. Brief details of valuation methodology is provided in Box V. However, sufficient care has been exercised, by way of the imposition of a set of objective criteria, to make sure that i off-market data are excluded, and ii no incentive for market manipulation is provided reducing the possibility of the so called Type 2 error.
What are the risks involved in holding G-Secs? What are the techniques for mitigating such risks? G-Secs are generally referred to as risk free instruments as sovereigns rarely default on their payments. However, as is the case with any financial instrument, there are risks associated with holding the G-Secs. Hence, it is important to identify and understand such risks and take appropriate measures for mitigation of the same.
The following are the major risks associated with holding G-Secs:. This will result in valuation losses on marking to market or realizing a loss if the securities are sold at adverse prices. Small investors, to some extent, can mitigate market risk by holding the bonds till maturity so that they can realize the yield at which the securities were actually bought.
These cash flows need to be reinvested whenever they are paid. Hence there is a risk that the investor may not be able to reinvest these proceeds at yield prevalent at the time of making investment due to decrease in interest rates prevailing at the time of receipt of cash flows by investors.
Liquidity risk refers to the inability of an investor to liquidate sell his holdings due to non-availability of buyers for the security, i. Usually, when a liquid bond of fixed maturity is bought, its tenor gets reduced due to time decay. For example, a year security will become 8 year security after 2 years due to which it may become illiquid.
The bonds also become illiquid when there are no frequent reissuances by the issuer RBI in those bonds. Bonds are generally reissued till a sizeable amount becomes outstanding under that bond. However, issuer and sovereign have to ensure that there is no excess burden on Government at the time of maturity of the bond as very large amount maturing on a single day may affect the fiscal position of Government.
Hence, reissuances for securities are generally stopped after outstanding under that bond touches a particular limit. Due to illiquidity, the investor may need to sell at adverse prices in case of urgent funds requirement. However, in such cases, eligible investors can participate in market repo and borrow the money against the collateral of such securities.
Rebalancing the portfolio wherein the securities are sold once they become short term and new securities of longer tenor are bought could be followed to manage the portfolio risk. However, rebalancing involves transaction and other costs and hence needs to be used judiciously. Market risk and reinvestment risk could also be managed through Asset Liability Management ALM by matching the cash flows with liabilities. ALM could also be undertaken by matching the duration of the assets and liabilities.
Advanced risk management techniques involve use of derivatives like Interest Rate Swaps IRS through which the nature of cash flows could be altered. However, these are complex instruments requiring advanced level of expertise for proper understanding.
Adequate caution, therefore, need to be observed for undertaking the derivatives transactions and such transactions should be undertaken only after having complete understanding of the associated risks and complexities.
Money market transactions are generally used for funding the transactions in other markets including G-Secs market and meeting short term liquidity mismatches. By definition, money market is for a maximum tenor of one year. Within the one year, depending upon the tenors, money market is classified into:. This market is predominantly overnight and is open for participation only to scheduled commercial banks and the primary dealers. Predominantly, repos are undertaken on overnight basis, i.
Settlement of repo transactions happens along with the outright trades in G-Secs. The overall effect of the repo transaction would be borrowing of funds backed by the collateral of G-Secs. This is similar to repo in G-Secs except that corporate debt securities are used as collateral for borrowing funds.
Commercial paper, certificate of deposit, non-convertible debentures of original maturity less than one year are not eligible for this purpose. These transactions take place in the OTC market and are required to be reported on FIMMDA platform within 15 minutes of the trade for dissemination of trade information.
They are also to be reported on the clearing house of any of the exchanges for the purpose of clearing and settlement. All the repo eligible entities are entitled to participate in Triparty Repo. It also disseminates online information regarding deals concluded, volumes, rate etc. Investment by regulated financial sector entities will be subject to such conditions as the concerned regulator may impose. Banks can issue CDs for maturities from 7 days to one year whereas eligible FIs can issue for maturities from 1 year to 3 years.
It acts as an interface with the regulators on various issues that impact the functioning of these markets. FIMMDA also plays a constructive role in the evolution of best market practices by its members so that the market as a whole operates transparently as well as efficiently. The development of FBIL as an independent organisation for administration of all financial market benchmarks including valuation benchmarks is important for the credibility of these benchmarks and integrity of financial markets.
FBIL has assumed the responsibility for administering valuation of Government securities with effect from March 31, This site provides real-time information on traded as well as quoted prices of G-Secs, both in Order matching and Reporting segment.
In addition, prices of When Issued WI whenever trading takes place segment are also provided. One can see chronological traded price levels and quantity in various securities. It was incorporated on 9th December under the Companies Act It was recognised by Reserve bank of India as an independent Benchmark administrator on 2nd July The company is run by a Board of Directors, assisted by an oversight committee.
The main object of the company is to act as the administrators of the Indian interest rate and foreign exchange benchmarks and to introduce and implement policies and procedures to handle the benchmarks. It also will make policies for possible cessation of any benchmark and to follow steps for ensuring orderly transition to the new benchmarks. FBIL will review each benchmark to ensure that the benchmarks accurately represent the economic realities of the interest that it intends to measure.
This site provides a host of information on market practices for all the fixed income securities including G-Secs. Accessing information from this site requires a valid login and password which are provided by FIMMDA to the eligible entities. The accrued interest on a bond is the amount of interest accumulated on a bond since the last coupon payment. The interest has been earned, but because coupons are paid only on coupon dates, the investor has not gained the money yet.
On the other hand, in a Uniform Price auction, all the successful bidders are required to pay for the allotted quantity of securities at the same rate, i. Coupon payments are made at regular intervals throughout the life of a debt security and may be quarterly, semi-annual twice a year or annual payments. When the price of a security is below the par value, it is said to be trading at a discount.
The value of the discount is the difference between the FV and the Price. Duration of a bond is the number of years taken to recover the initial investment of a bond.
It is calculated as the weighted average number of years to receive the cash flow wherein the present value of respective cash flows are multiplied with the time to that respective cash flows. The total of such values is divided by the price of the security to arrive at the duration. Refer to Box IV under question Face value is the amount that is to be paid to an investor at the maturity date of the security.
The face value is also known as the repayment amount. This amount is also referred as redemption value, principal value or simply principal , maturity value or par value. Bonds whose coupon rate is re-set at predefined intervals and is based on a pre-specified market based interest rate. G-Secs are also known as gilts or gilt edged securities.
Market lot refers to the standard value of the trades that happen in the market. The date when the principal face value is paid back. The final coupon and the face value of a debt security is repaid to the investor on the maturity date.
The time to maturity can vary from short term 1 year to long term 30 years. NCB means the bidder would be able to participate in the auctions of dated G-Secs without having to quote the yield or price in the bid. The allotment to the non-competitive segment will be at the weighted average rate that will emerge in the auction on the basis of competitive bidding. It is an allocating facility wherein a part of total securities are allocated to bidders at a weighted average price of successful competitive bid.
Please also see paragraph no. Odd lot transactions are generally done by the retail and small participants in the market. When the price of a security is equal to face value, the security is said to be trading at par. When the price of a security is above the par value, the security is said to be trading at premium. The value of the premium is the difference between the price and the face value. The price of any financial instrument is equal to the present value of all the future cash flows.
The price one pays for a debt security is based on a number of factors. Newly-issued debt securities usually sell at, or close to, their face value. In the secondary market, where already-issued debt securities are bought and sold between investors, the price one pays for a bond is based on a host of variables, including market interest rates, accrued interest, supply and demand, credit quality, maturity date, state of issuance, market events and the size of the transaction.
Such entities are generally called Primary dealers or market makers. This is the fastest possible money transfer system through the banking channel. The transactions are settled as soon as they are processed. Considering that money transfer takes place in the books of the Reserve Bank of India, the payment is taken as final and irrevocable. Repo means an instrument for borrowing funds by selling securities of the Central Government or a State Government or of such securities of a local authority as may be specified in this behalf by the Central Government or foreign securities, with an agreement to repurchase the said securities on a mutually agreed future date at an agreed price which includes interest for the fund borrowed.
Reverse Repo means an instrument for lending funds by purchasing securities of the Central Government or a State Government or of such securities of a local authority as may be specified in this behalf by the Central Government or foreign securities, with an agreement to resell the said securities on a mutually agreed future date at an agreed price which includes interest for the fund lent.
The remaining period until maturity date of a security is its residual maturity. For example, a security issued for an original term to maturity of 10 years, after 2 years, will have a residual maturity of 8 years.
The market in which outstanding securities are traded. This market is different from the primary or initial market when securities are sold for the first time. Secondary market refers to the buying and selling that goes on after the initial public sale of the security. Under Tap sale, a certain amount of securities is created and made available for sale, generally with a minimum price, and is sold to the market as bids are made.
These securities may be sold over a period of day or even weeks; and authorities may retain the flexibility to increase the minimum price if demand proves to be strong or to cut it if demand weakens.
Tap and continuous sale are very similar, except that with Tap sale the debt manager tends to take a more pro-active role in determining the availability and indicative price for tap sales. Continuous sale are essentially at the initiative of the market. Debt obligations of the Government that have maturities of one year or less are normally called Treasury Bills or T-Bills.
They are instruments issued at a discount to the face value and form an integral part of the money market. The arrangement by which investment bankers undertake to acquire any unsubscribed portion of a primary issuance of a security. Providing liquidity investment products and digital trading solutions to banks, corporates, and other institutional investors. Delivering leading market intelligence and analytics to help you refine market views, hedge risk, and execute your trading strategies.
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Series 7 fixed rate ; floating rate ; discount compound.
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