What is debt market? Know the risks and benefits here

Are you planning to invest in debt market and not aware about the basics and technicalities of it? BSE has explained what is debt market and other details related to it for your reference.

According to BSE, the debt market is the market where fixed income securities of various types and features are issued and traded.

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Debt Markets are therefore, markets for fixed income securities issued by central and state governments, municipal corporations, government bodies and commercial entities like financial institutions, banks, public sector units, public limited companies and also structured finance instruments.

Why should one invest in fixed income securities?

Fixed income securities offer a predictable stream of payments by way of interest and repayment of principal at the maturity of the instrument. The debt securities are issued by the eligible entities against the moneys borrowed by them from the investors in these instruments.

Therefore, most debt securities carry a fixed charge on the assets of the entity and generally enjoy a reasonable degree of safety by way of the security of the fixed and/or movable assets of the company.

The investors benefit by investing in fixed income securities as they preserve and increase their invested capital and also ensure the receipt of regular interest income.

The investors can even neutralize the default risk on their investments by investing in government securities, which are normally referred to as risk-free investments due to the sovereign guarantee on these instruments.

The prices of debt securities display a lower average volatility as compared to the prices of other financial securities and ensure the greater safety of accompanying investments. Debt securities enable wide-based and efficient portfolio diversification and thus assist in portfolio risk-mitigation.

What are the different types of risks with regard to debt securities?

The following are the risks associated with debt securities:

1. Default Risk: This can be defined as the risk that an issuer of a bond may be unable to make timely payment of interest or principal on a debt security or to otherwise comply with the provisions of a bond indenture and is also referred to as credit risk.

2. Interest Rate Risk: It is the risk emerging from an adverse change in the interest rate prevalent in the market so as to affect the yield on the existing instruments.

3. Reinvestment Rate Risk: It is the probability of a fall in the interest rate resulting in a lack of options to invest the interest received at regular intervals at higher rates at comparable rates in the market.

The following are the risks associated with trading in debt securities:

1. Counter Party Risk: It is the normal risk associated with any transaction and refers to the failure or inability of the opposite party to the contract to deliver either the promised security or the sale-value at the time of settlement.

2. Price Risk: It refers to the possibility of not being able to receive the expected price on any order due to a adverse movement in the prices.