Government securities

2011
A PROJECT REPORT ON
“GOVERNMENTSECURITIES”
Submitted in partial fulfillment of
The requirement for
Master of Management Studies (MMS)
STERLING INSTITUTE OF MANAGEMENT STUDIES, Plot No.93, Sector 19, Near Sea-
Woods Railway Station, Nerul 400706
[2010 – 2012]
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TABLE OF CONTENT
ChapterNo.
1
Particulars
Executive Summary
Page no.
6-7
2 Research Methodology 8
3 Literature Survey 9
4 Company Profile 10-12
5 Overview Of Financial Market
Introduction Of Money Market
13
6 x
x
Features of money market
Money market instrument
14-16
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7 Call Money Market 17-19
Government Securities
8 x
x
9
Risk Involved In Government
Securities
Facts And Findings
Conclusion 40-41
20-39
10 Bibliography 42
LITERATURE SURVEY
ECONOMIC TIMESTNN Nov 3, 2006, 12.54am IST
Government securities' market gets a boost
Gilt edged
The Reserve Bank of India (RBI) has done well to increase the ceiling for foreign institutional
investor (FII) investment in government securities. The earlier limit of $2 billion was way out of
line with ground realities and needed to be revised.
Indeed where the bank can be faulted, perhaps, is in being unduly conservative while on the job.
More so since past records show FIIs are unlikely to rush into gilts. Indeed their holding of gilts
at $188.5 million is nowhere near the present limit of $2 billion.
Nevertheless, to the extent that the higher limit does send a strong signal of the central bank's
greater confidence in the country's macroeconomic fundamentals, it is bound to go down well
with the international investor community.
Clearly, the days when the RBI feared we'd go the Latin American way, with a large part of
government borrowing up in the hands of overseas investors who, if they turn tail and run, could
bring the country to its knees are over.
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Today, not only are government finances in better shape but we are also more comfortable on the
forex reserves front. With approximately $166 billion in our forex reserves kitty, we don't have
much to fear on the external front.
And with the FM reiterating his commitment to the FRBM (Fiscal Responsibility and Budget
Management) targets, government borrowing too is unlikely to go out of hand. This has, no
doubt, emboldened the RBI to relax its guard on FII investment in gilts.
While FIIs will no doubt benefit from the increased play now available to them, they will not be
the only ones. The gilts' market, too, will benefit from the entry of more players.
Add to this the relaxation permitted on short sales — players will now be able to cover their
short positions within an extended period of five trading days as against the intra-day short-
selling permitted at present — and the market for government securities will get more depth. A
gilt-edged case, if ever there was one.
OVERVIEW OF FINANCIAL MARKET
Efficient transfer of resources from those having idle resources to others who have a pressing
need for them is achieved through financial markets. Stated formally, financial markets provide
channels for allocation of savings to investment. These provide a variety of assets to savers as
well as various forms in which the investors can raise funds and thereby decouple the acts of
saving and investment. The savers and investors are constrained not by their individual abilities,
but by the economy's ability, to invest and save respectively. The financial markets, thus,
contribute to economic development to the extent that the latter depends on the rates of savings
and investment.
The financial markets have two major components:
x
x
Money market
Capital market
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The Money market refers to the market where borrowers and lenders exchange short-term funds
to solve their liquidity needs. Money market instruments are generally financial claims that have
low default risk, maturities under one year and high marketability.
The Capital market is a market for financial investments that are direct or indirect claims to
capital. It is wider than the Securities Market and embraces all forms of lending and borrowing,
whether or not evidenced by the creation of a negotiable financial instrument. The Capital
Market comprises the complex of institutions and mechanisms through which intermediate term
funds and long-term funds are pooled and made available to business, government and
individuals. The Capital Market also encompasses the process by which securities already
outstanding are transferred.
INTRODUCTION OF MONEY MARKET
Money market refers to the market where money and highly liquid marketablesecurities are bought
and sold having a maturity period of one or less than one year. It isnota place like the stock
marketbutan activity conducted by telephone. The moneymarket constitutes a very important
segment of the Indian financial system.The highly liquid marketable securities are also called as ‗ money
marketinstruments‘like treasury bills, government securities, commercial paper, certificates of deposit,
callmoney, repurchase agreements etc.
The majorplayerin the money market are Reserve Bank of India (RBI), Discount andFinance House
of India (DFHI), banks, financialinstitutions, mutualfunds, government,big corporate houses. The
basic aim of dealing in money market instruments is to fill thegap of short-term liquidity problems or
to deploy the short-term surplus to gain incomeon that.
Definition of Money Market:
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According to the McGraw Hill Dictionary of Modern Economics, ―money market isthe term
designed to include the financialinstitutions which handle the purchase, sale,and transfers of short term
credit instruments. The money market includes the entiremachinery forthe channelizing of short-term
funds. Concerned primarily with smallbusiness needs for working capital, individual‘s borrowings,
and government short termobligations, it differs from the long term or capital market which devotes
its attention todealings in bonds, corporate stock and mortgage credit‖
According to the Reserve Bank of India, ―money marketis the centre fordealing,mainly of
short term character, in money assets; it meets the short term requirementsof borrowings and provides
liquidity orcash to the lenders. Itis the place where shortterm surplus investible funds at the disposal of
financial and other institutions andindividuals are bid by borrowers‘ agents comprising institutions and
individuals andalso the government itself.‖
So afteranalyzing the above definitions, we can easily conclude with the following
Features of money market:
x
x
Short-term funds are borrowed and lent.
No fixed place forconductof operations, the transactions being conducted evenoverthe phone
and therefore, there is an essentialneed forthe presence of welldeveloped communications
system.
x
x
Dealings may be conducted with or without the help the brokers.
The short-term financialassets thatare dealtin are close substitutes formoney,financial assets
being converted into money with ease, speed, withoutloss andwith minimum transaction
cost.
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x
x
Funds are traded for a maximum period of one year.
Presence of a large numberof submarkets such as inter-bank callmoney, bill
rediscounting, and treasury bills, etc.
x
x
x
x
x
Short term credit is involve
Institutions involved in channelizing short term credit
Concerned with operating needs of financial institutions
To fulfill short term obligations by government.
Providing an equilibrium mechanism forironing out short-term surplus and deficits.
Money Market Instruments:
Money market instruments are generally characterized by a high degree of safety ofprincipal and are
most commonly issued in units of $1 million or more. Maturities rangefrom one day to one year; the
mostcommon are three months orless. Active secondarymarkets formost of the instruments allow them
to be sold priorto maturity. Unlikeorganized securities orcommodities exchanges, the money markethas
no specificlocation.
Available from financialinstitutions, money markets give the smallerinvestortheopportunity to get in
on treasury securities. The institution buys a variety of treasurysecurities with the money you invest.
The rate of return changes daily, and services suchas check writing may be offered. The
majorparticipants in the money marketarecommercialbanks, governments, corporations, government-
sponsored enterprises,money market mutual funds; futures market exchanges, brokers and
dealers.Investment in money market is done through money market instruments. Moneymarket
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instrument meets short term requirements of the borrowers and providesliquidity to the lenders.
Common Money Market Instruments are as follows:
1. Treasury Bills
2. Repurchase Agreements (Repo/Reverse Repo)
3. Call Money
4. Commercial paper
5. Certificate of Deposits
6. Bankers Acceptance
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Introduction
Call money market is forvery short term funds, known as money on call. The rate atwhich funds
are borrowed in this marketis called `Call Money rate'. The size of themarketforthese funds in India
is between Rs 60,000 million to Rs 70,000 million, ofwhich public sector banks account for 80%
of borrowings and foreign banks/privatesector banks account for the balance 20%. Non-bank
financial institutions like IDBI, LIC,and GIC etc. participate only as lenders in this market. 80% of
the requirementof callmoney funds is met by the nonbank participants and 20% from the banking
system.
The call money market is an integral part of the Indian Money Market, where the day-to-day
surplus funds (mostly of banks) are traded. Call/Notice money is the money borrowed orlent on
demand fora very short period.When money is borrowed or lent for a day, it is known as Call
(Overnight) Money.Intervening holidays and/orSunday are excluded forthis purpose. Thus
money,borrowed on a day and repaid on the nextworking day, (irrespective of the numberofintervening
holidays) is "Call Money". When money is borrowed or lent for more than aday and up to 14 days, it is
"Notice Money". No collateral security is required to coverthese transactions.
Themost active segment of the money market has been the call money market, where theday to day
imbalances in the funds position of scheduled commercial banks are easedout. The call notice money
market has graduated into a broad and vibrant institution.
In pursuance of the announcement made in the Annual Policy Statement of April 2006,an electronic
screen-based negotiated quote-driven system for all dealings in call/ noticeand term money market
was operational zed with effect from September 18, 2006. Thissystem has been developed by
Clearing Corporation of India Ltd. on behalf of theReserve Bank of India. The NDS-CALL system
provides an electronic dealing platformwith features like Directone to one negotiation, realtime quote
and tradeinformation,preferred counterparty setup, online exposure limit monitoring, online regulatory
limitmonitoring, dealing in call, notice and term money, dealing facilitated forT+0settlement type for
Call Money and dealing facilitated for T+0 and Banks and primary dealers are allowed to lend as
well as borrow in the call markets, while a select list of participants, namely, financial
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institutions, UTI, mutual funds, and a select number of corporate are allowed to participate as
lenders in the call market. Call money transactions are essentially unsecured OTC transactions,
with same day settlement, and are preferred by participants for their operational ease, over most
other short-term instruments including repos.
Banks borrow in this money market for the following purpose:
-
-
-
To fill the gaps or temporary mismatches in funds
To meet the CRR & SLR mandatory requirements as stipulated by the Central bank
To meet sudden demand for funds arising out of large outflows.
Thus call money usually serves the role of equilibrating the short-term Liquidity position
of banks
Types of Deal In Call Money Market
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INTRODUCTION
A Government security is a tradable instrument issued by the Central Government or the State
Governments. It acknowledges the Government‘s debt obligation. Such securities are short term
(usually called treasury bills, with original maturities of less than one year) or long term (usually
called Government bonds or dated securities with original maturity of one year or more). In
India, the Central Government issues both, treasury bills and bonds or dated securities while the
State Governments issue only bonds or dated securities, which are called the State Development
Loans (SDLs). Government securities carry practically no risk of default and, hence, are called
risk-free gilt-edged instruments. Government of India also issues savings instruments (Savings
Bonds, National Saving Certificates (NSCs), etc.) or special securities (oil bonds, Food
Corporation of India bonds, fertilizer bonds, power bonds, etc.). They are, usually not fully
tradable and are, therefore, not eligible to be SLR securities.
Governments raise monetary resources by way of public borrowings to bridge the gap between
budgetary receipts and payments, technically known as Gross Fiscal Deficit (GFD). In fact, GFD
of the Central government is met broadly from three sources- public borrowings or internal debt,
other liabilities and external borrowings. Reserve Bank of India has the statutory obligation to
manage the internal debt (public debt) of the Central government while its obligation to manage
the internal debt (public debt) of State Governments arises from bilateral agreements between the
Bank and the respective State Governments.
A Government security is a tradable instrument issued by the CentralGovernment or the State
Governments. It acknowledges the Government‘sdebt obligation. Such securities are short term
(usually called treasury bills,with original maturities of less than one year) or long term (usually
calledGovernment bonds or dated securities with original maturity of one year or more).
In India, the Central Government issues both, treasury bills and bonds or dated
securities while the State Governments issue only bonds or dated securities,which are called the
State Development Loans (SDLs). Government securitiescarry practically no risk of default and,
hence, are called risk-free or gilt-edgedinstruments.
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WHAT IS GOVERNMENT SECURITIES?
A Government security is a tradable instrument issued by the Central Government or the State
Governments. It acknowledges the Government‘s debt obligation. Such securities are short term
(usually called treasury bills, with original maturities of less than one year) or long term (usually
called Government bonds or dated securities with original maturity of one year or more). In
India, the Central Government issues both, treasury bills and bonds or dated securities while the
State Governments issue only bonds or dated securities, which are called the State Development
Loans (SDLs). Government securities carry practically no risk of default and, hence, are called
risk-free or gilt-edged instruments. Government of India also issues savings instruments (Savings
Bonds, National Saving Certificates (NSCs), etc.) or special securities (oil bonds, Food
Corporation of India bonds, fertilizer bonds, power bonds, etc.). They are, usually not fully
tradable and are, therefore, not eligible to be SLR securities.
Government Securities:
Government securities (G-secs) are sovereign securities which are issued by the Reserve Bank of
India on behalf of Government of India, in lieu of the Central Government's market borrowing
programme.
The term Government Securities includes:
x
x
x
Central Government Securities
State Government Securities
Treasury bills
The Central Government borrows funds to finance its 'fiscal deficit‘. The market borrowing of
the Central Government is raised through the issue of dated securities and 364 days treasury bills
either by auction or by floatation of loans.
In addition to the above, Treasury bills of 91 days are issued for managing the temporary cash
mismatches of the Government. These do not form part of the
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Treasury Bills (T-bills):
Treasury bills or T-bills, which are money market instruments, are short term debt instruments
issued by the Government of India and are presently issued in three tenors, namely, 91 day, 182
day and 364 day. Treasury bills are zero coupon securities and pay no interest. They are issued at
a discount and redeemed at the face value at maturity. For example, a 91 day Treasury bill of
Rs.100/- (face value) may be issued at say Rs.98.20, that is, at a discount of Rs.1.80 and would
be redeemed at the face value of Rs.100/-. The return to the investors is the difference between
the maturity value or the face value (that is Rs.100) and the issue price. The Reserve Bank of
India conducts auctions usually every Wednesday to issue T-bills. Payments for the T-bills
purchased are made on the following Friday. The 91 day T-bills are auctioned on every
Wednesday. The T-bills of 182-days and 364-days tenure are auctioned on alternate
Wednesdays. T-bills of 364-days tenure are auctioned on the Wednesday preceding the reporting
Friday while 182 day T-bills are auctioned on the Wednesday prior to non-reporting Fridays. The
Reserve Bank releases an annual calendar of T-Bill issuances for a financial year in the last week
of March of the previous financial year. The Reserve Bank of India announces the issue details
of T-bills through a press release every week.
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TYPES OF GOVERNMENT SECURITY
x Dated Securities: are generally fixed maturity and fixed coupon securities usually
carrying semi-annual coupon. These are called dated securities because these are
identified by their date of maturity and the coupon,
The key features of these securities are:
x They are issued at face value.
x Coupon or interest rate is fixed at the time of issuance, and remains constant till
redemption of the security.
x The tenor of the security is also fixed.
x Interest /Coupon payment is made on a half yearly basis on its face value.
x The security is redeemed at par (face value) on its maturity date.
x Zero Coupon bonds are bonds issued at discount to face value and redeemed at par.
These were issued first on January 19, 1994 and were followed by two subsequent issues
in 1994-95 and 1995-96 respectively.
x They are issued at a discount to the face value.
x The tenor of the security is fixed.
x The securities do not carry any coupon or interest rate. The difference between the
issue price (discounted price) and face value is the return on this security.
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x Partly Paid Stock is stock where payment of principal amount is made in installments
over a given time frame. It meets the needs of investors with regular flow of funds and
the need of Government when it does not need funds immediately. The first issue of such
stock of eight year maturity was made on November 15, 1994 for Rs.2000crore. Such
stocks have been issued a few more times thereafter.
x They are issued at face value, but this amount is paid in installments over a specified
period
x Coupon or interest rate is fixed at the time of issuance, and remains constant till
redemption of the security.
x The tenor of the security is also fixed.
x Floating Rate Bonds are bonds with variable interest rate with a fixed percentage over a
benchmark rate. There may be a cap and a floor rate attached thereby fixing a maximum
and minimum interest rate payable on it. Floating rate bonds of four year maturity were
first issued on September 29, 1995, followed by another issue on December 5,
1995. Recently RBI issued a floating rate bond, the coupon of which is benchmarked
against average yield on 364 Days Treasury Bills for last six months. The coupon is
reset every six months.
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x They are issued at face value.
x Coupon or interest rate is fixed as a percentage over a predefined benchmark rate at the
time of issuance. The benchmark rate may be Treasury bill rate, bank rate.
x Though the benchmark does not change, the rate of interest may vary according to the
change in the benchmark rate till redemption of the security.
The tenor of the security is also fixed.
x Bonds with Call/Put Option: First time in the history of Government Securities market
RBI issued a bond with call and put option this year. This bond is due for redemption in
2012 and carries a coupon of 6.72%. However the bond has call and put option after five
years i.e. in year 2007. In other words it means that holder of bond can sell back (put
option) bond to Government in 2007 or Government can buy back (call option) bond
from holder in 2007. This bond has been priced in line with 5 year bonds.
x Special Securities: In addition to Treasury Bills and dated securities issued by the
Government of India under the market borrowing programme, the Government of India
also issues, from time to time, special securities to entities like Oil Marketing Companies,
Fertilizer Companies, the Food Corporation of India, etc., as compensation to these
companies in lieu of cash subsidies. These securities are usually long dated securities
carrying coupon with a spread of about 20-25 basis points over the yield of the dated
securities of comparable maturity. These securities are, however, not eligible SLR
securities but are eligible as collateral for market repo transactions. The beneficiary oil
marketing companies may divest these securities in the secondary market to banks,
insurance companies / Primary Dealers, etc., for raising cash.
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x Capital Indexed Bonds: Theseare bonds, the principal of which is linked to an accepted
index of inflation with a view to protecting the holder from inflation. A capital indexed
bond, with the principal hedged against inflation, was issued in December 1997. These
bonds matured in 2002. The government is currently working on a fresh issuance of
Inflation Indexed Bonds wherein payment of both, the coupon and the principal on the
bonds, will be linked to an Inflation Index (Wholesale Price Index). These provide
investors with an effective hedge against inflation. These bonds were floated on
December 29, 1997 on tap basis. They were of five year maturity with a coupon rate of 6
per cent over the wholesale price index. The principal redemption is linked to the
Wholesale Price Index.The key features of these securities are:
x
x
They are issued at face value.
Coupon or interest rate is fixed as a percentage over the wholesale price index at
the time of issuance. Therefore the actual amount of interest paid varies
according to the change in the Wholesale Price Index.
x
x
x
The tenor of the security is fixed.
Interest /Coupon payment is made on a half yearly basis on its face value.
The principal redemption is linked to the Wholesale Price Index.
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BENEFITS OF INVESTING IN GOVERNMENT SECURITIES
Holding of cash in excess of the day-to-day needs of a bank does not give anyreturn to it.
Investment in gold has attendant problems in regard to appraisingits purity, valuation, safe
custody, etc. Investing in Government securities hasthe following advantages:
x Besides providing a return in the form of coupons (interest), Governmentsecurities offer
the maximum safety as they carry the Sovereign‘s commitmentfor payment of interest
and repayment of principal.
x
x
x
x
x
They can be held in book entry, i.e. dematerialized/ scrip less form, thus,obviating the
need for safekeeping.
Government securities are available in a wide range of maturities from 91days to as long
as 30 years to suit the duration of a bank's liabilities.
Government securities can be sold easily in the secondary market to meetcash
requirements.
Government securities can also be used as collateral to borrow funds in therepo market.
Government security prices are readily available due to a liquid and activesecondary
market and a transparent price dissemination mechanism.
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ISSUE OF GOVERNMENT SECURITIES
Government securities are issued through auctions conducted by the RBI.Auctions are conducted
on the electronic platform called the NDS – Auctionplatform. Commercial banks, scheduled
urban co-operative banks, PrimaryDealers, insurance companies and provident funds, who
maintain funds account(current account) and securities accounts (SGL account) with RBI, are
membersof this electronic platform. All members of PDO-NDS can place their bids inthe auction
through this electronic platform. All non-NDS members includingnon-scheduled urban co-
operative banks can participate in the primary auctionthrough scheduled commercial banks or
Primary Dealers. For this purpose,the urban co-operative banks need to open a securities account
with a bank /Primary Dealer – such an account is called a Gilt Account.
The RBI, in consultation with the Government of India, issues an indicativehalf-yearly auction
calendar which contains information about the amount ofborrowing, the tenor of security and the
likely period during which auctions willbe held. A Notification and a Press Communiqué giving
exact particulars of thesecurities, viz., name, amount, type of issue and procedure of auction are
issuedby the Government of India about a week prior to the actual date of auction. RBIplaces the
notification and a Press Release on its website (www.rbi.org.in) and also issues an advertisement
in leading English and Hindi newspapers.
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MAJOR PLAYERS INGOVERNMENT SECURITIES
Major players in the Government securities market include commercial banks and primary
dealers besides institutional investors like insurance companies. Primary Dealers play an
important role as market makers in Government securities market. Other participants include co-
operative banks, regional rural banks, mutual funds, provident and pension funds. Foreign
Institutional Investors (FIIs) are allowed to participate in the Government securities market
within thequantitative limits prescribed from time to time. Corporate also buy/ sell
thegovernment securities to manage their overall portfolio risk.
PRICING OF GOVERNMENT SECURITIES
The price of a Government security, like other financial instruments, keepsfluctuating in the
secondary market. The price is determined by demand andsupply of the securities. Specifically,
the prices of Government securities areinfluenced by the level and changes in interest rates in the
economy and othermacro-economic factors, such as, expected rate of inflation, liquidity in
themarket, etc. Developments in other markets like money, foreign exchange,credit and capital
markets also affect the price of the Government securities.Further, Policy actions by RBI (e.g.,
announcements regarding changes in policy interest rates like Repo Rate, Cash Reserve Ratio,
Open Market Operations, etc.) can also affect the prices of Government securities.
TRADING IN GOVERNMENT SECURITIES
There is an active secondary market in Government securities. The securities
can be bought / sold in the secondary market either (i) Over the Counter (OTC)
or (ii) through Negotiated Dealing System (NDS) or (iii) Negotiated Dealing.
i. Over the Counter (OTC)/ Telephone Market:
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In this market, a participant, who wants to buy or sell a government security,may contact a bank /
Primary Dealer / financial institution either directly orthrough a broker registered with SEBI and
negotiate for a certain amount of aparticular security at a certain price. Such negotiations are
usually done ontelephone and a deal may be struck if both counterparties agree on the
amountand rate.
In the case of a buyer, like an urban co-operative bank wishing tobuy a security, the bank's dealer
(who is authorized by the bank to undertaketransactions in Government Securities) may get in
touch with other marketparticipants over telephone and obtain quotes. Should a deal be struck,
the bankshould record the details of the trade in a deal slip and send a trade confirmation to the
counterparty.
ii. Negotiated Dealing System:
The Negotiated Dealing System (NDS) for electronic dealing and reportingof transactions in
government securities was introduced in February 2002. Itfacilitates the members to submit
electronically, bids or applications for primaryissuance of Government Securities when auctions
are conducted. NDS alsoprovides an interface to the Securities Settlement System (SSS) of the
PublicDebt Office, RBI, Mumbai thereby facilitating settlement of transactions inGovernment
Securities (both outright and repos) conducted in the secondaryMarket. Membership to the NDS
is restricted to members holding SGL and/orCurrent Account with the RBI, Mumbai.
In August, 2005, RBI introduced an anonymous screen based order matching module on NDS,
called NDS-OM. This is an order driven electronic system, where the participants can trade
anonymously by placing their orders on the system or accepting the orders already placed by
other participants. NDS-OM is operated by the Clearing Corporation of India Ltd. (CCIL) on
behalf of the RBI Direct access to the NDS-OM system is currently available only to select
financial institutions like Commercial Banks,
iii. Stock Exchanges:
Facilities are also available for trading in Government securities on stock
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Exchanges (NSE, BSE) which cater to the needs of retail investors. NSE‘s Wholesale Debt
Market (WDM) segment offers a fully automated screen based trading platform through the
NEAT (National Exchange for Automated Trading) system. The WDM segment, as the name
suggests, permits only high value transactions in debt securities. The trades on the WDM
segment can be executed in the Continuous or Negotiated market. In the continuous market,
orders entered by the trading members are matched by the trading system.
HOW AND IN WHAT FORM CAN GOVERNMENT SECURITIES
BE HELD?
The Public Debt Office (PDO) of the Reserve Bank of India, Mumbai acts as the registry and
central depository for the Government securities. Government securities may be held by
investors either as physical stock or in dematerialized form. From May 20, 2002, it is mandatory
for all the RBI regulated entities to hold and transact in Government securities only in
dematerialized (SGL) form. Accordingly, UCBs are required to hold all Government securities in
demat form.
a. Physical form:
Government securities may be held in the form of stock certificates. A stock certificate is
registered in the books of PDO. Ownership in stock certificates cannot be transferred by
way of endorsement and delivery. They are transferred by executing a transfer form as
the ownership and transfer details are recorded in the books of PDO. The transfer of a
stock certificate is final and valid only when the same is registered in the books of PDO.
b. Demat form:
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Holding government securities in the dematerialized or scrip less form is the safest and
the most convenient alternative as it eliminates the problems relating to custody, viz., loss
of security. Besides, transfers and servicing are electronic and hassle free. The holders
can maintain their securities in dematerialized form in either of the two ways:
x SGL Account
x Gilt Account
i. SGL Account:
Reserve Bank of India offers Subsidiary General Ledger Account (SGL) facility to
select entities who can maintain their securities in SGL accounts maintained with the
Public Debt Offices of the Reserve Bank of India.
ii. Gilt Account:
As the eligibility to open and maintain an SGL account with the RBI is restricted, an
investor has the option of opening a Gilt Account with a bank or a Primary Dealer
which is eligible to open a Constituents' Subsidiary General Ledger Account (CSGL)
with the RBI. Under this arrangement, the bank or the Primary Dealer, as a custodian
of the Gilt Account holders, would maintain the holdings of its constituents in a
CSGL account (which is also known as SGL II account) with the RBI. The servicing
of securities held in the Gilt Accounts is done electronically, facilitating hassle free
trading and maintenance of the securities. Receipt of maturity proceeds and periodic
interest is also faster as the proceeds are credited to the current account of the
custodian bank / PD with the RBI and the custodian (CSGL account holder)
immediately passes on the credit to the Gilt Account Holders (GAH).
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Investors also have the option of holding Government securities in a dematerialized
account with a depository (NSDL / CDSL, etc.). This facilitates trading of
Government securities on the stock exchanges.
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RISK INVOLVED IN GOVERNMENT SECURITIES
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Market risk –
Market risk arises out of adverse movement of prices of thesecurities that are held by an investor
due to changes in interest rates. This willresult in booking losses on marking to market or
realizing a loss if the securitiesare sold at the adverse prices. Small investors, to some extent, can
mitigatemarket risk by holding the bonds till maturity so that they can realize the yieldat which
the securities were actually bought.
Reinvestment risk –
Cash flows on a Government security includes fixedcoupon every half year and repayment of
principal at maturity. These cashflows need to be reinvested whenever they are paid. Hence there
is a risk thatthe investor may not be able to reinvest these proceeds at profitable rates dueto
changes in interest rate scenario.
Liquidity risk –
Liquidity risk refers to the inability of an investor toliquidate (sell) his holdings due to non-
availability of buyers for the security, i.e.no trading activity in that particular security. Usually,
when a liquid bond offixed maturity is bought, its tenor gets reduced due to time decay. For
example,
a 10 year security will become 8 year security after 2 years due to which it maybecome illiquid.
Due to illiquidity, the investor may need to sell at adverse pricesin case of urgent funds
requirement. However, in such cases, eligible investorscan participate in market repo and borrow
the money against the collateral ofthe securities.
RISK MITIGATION
28

2011
Holding securities till maturity could be a strategy through which onecould avoid market risk.
Rebalancing the portfolio wherein the securities aresold once they become short term and new
securities of longer tenor are boughtcould be followed to manage the portfolio risk. However,
rebalancing involvestransaction and other costs and hence needs to be used judiciously. Market
riskand 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 cash flows. 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 properunderstanding. Adequate
caution, therefore, need to be observed for undertakingthe derivatives transactions and such
transactions should be undertaken onlyafter having complete understanding of the associated
risks and complexities.
Specimen of a Government security:
29

2011
FACTS AND FINDINGS
x The concentration in the borrowing and lending side of the call markets impacts liquidity
in the call markets. The presence or absence of important players is a significant
influence on quantity as well as price. This leads to a lack of depth and high levels of
volatility in call rates, when the participant structure on the lending or borrowing side
alters.
x In India, banks have to keep 4.5 percent (it fluctuates with changing economicconditions) of all
their borrowings from the public (in the form of savings and termdeposits)and otherbanks with
RBI.
x The RBI has now permitted non-SGL holders to also enter into repos contracts, subject to
their holding a gilt account with any bank/PD, which operates a Constituent SGL (CSGL)
with the RBI on their behalf. These include registered non-banking financial companies,
housing finance companies, mutual funds, insurance companies and "any other person
specifically permitted by the RBI holding a gilt account with any person or entity
permitted by the RBI to maintain CSGL account with PDO of the RBI''.
x Currently, average daily lending in the call market is about Rs 11,000 crore, with banks
accounting for Rs 6,000 crore and non-banks the remaining Rs 5,000 crore. In contrast,
the daily value of repo transactions (other than with RBI) works out to almost Rs 3,000
crore.
x Government security prices are readily available due to a liquid and activesecondary
market and a transparent price dissemination mechanism.
32

2011
CONCLUSION
The above project report indicate that how government securities are safe and individual
investors should go for government securities but there should be proper disclosure of
schemes by government to bring awareness and from business perspective. Government
securities possess huge potential for a developing economy like India.
Holding of cash in excess of the day-to-day needs of a bank does not give any return to it.
Investment in these securities has attendant qualities in regard to appraising its value, high
returns, safe custody, etc. Investing in Government securities has the following advantages:
x Besides providing a return in the form of coupons (interest), Government securities offer
the maximum safety as they carry the Sovereign‘s commitment for payment of interest
and repayment of principal
x Because of electronic transfer of securities there is no scope for fraudulent practices.
x Government securities can be sold easily in the secondary market to meet cash
requirements
x Government securities can also be used as collateral to borrow funds in the repo market.
x The settlement system for trading in Government securities, which is based on Delivery
versus Payment (DVP), is a very simple, safe and efficient system of settlement. The
DVP mechanism ensures transfer of securities by the seller of securities simultaneously
with transfer of funds from the buyer of the securities, thereby mitigating the settlement
risk.
34

2011
BIBLIOGRAPHY
Pricing Money – J.D. A. Wiseman
Debt Management and Government Securities
Markets in the 21st Century- by organization for economic co-operation and development
WEBLIOGRAPHY
www.mumbaidistrictbank.com
www.rbi.org.in
www.nseindia.com
35

Government securities

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