In recent years, innovation has been the key word behind the phenomenal success of many of the financial service companies and it forms an integral part of all planning and policy decisions. This has helped them to keep in tune with the changing times and changing customer needs. Accordingly, many innovative financial instruments have come into the financial market in recent times. Some of them have been discussed hereunder :
(i) Commercial Paper : A paper is a short-term negotiable money market instrument. It has the character of an unsecured promissory note with a fixed maturity of 3 to 6 months. Banking and non-banking companies can issue this for raising their short term debt. It also carries an attractive rate of interest. Commercial papers are sold at a discount from their face value and redeemed at their face value. Since its denomination is very high, it is suitable only to institutional investors and companies.
(ii) Treasury Bill : A treasury bill is also a money market instrument issued by the Central Government. It is also issued at a discount and redeemed at par. Recently, the Government has come out with short term treasury bills of 182-days bills and 364-days bills.
(iii) Certificate of Deposit : The scheduled commercial banks have been permitted to issue certificate of deposit without any regulation on interest rates. This is also a money market instrument and unlike a fixed deposit receipt, it is a negotiable instrument and hence it offers maximum liquidity. As such, it has a secondary market too. Since the denomination is very high, it is suitable to mainly institutional investors and companies.
(iv) Inter-bank Participations (IBPs) : The scheme of inter-bank participation is confined to scheduled banks only for a period ranging between 91 days and 180 days. This may be ‘with risk’ participation or ‘without risk’ participation. However, only a few banks have so far issued IBPs carrying an interest rate ranging between 14 and 17 per cent per annum. This is also a money market instrument.
(v) Zero Interest Convertible Debenture/Bonds : As the very name suggests, these instruments carry no interest till the time of conversion. These instruments are converted into equity shares after a period of time.
(vi) Deep Discount Bonds : There will be no interest payments in the case of deep discount bonds also. Hence, they are sold at a large discount to their nominal value. For example, the Industrial Development Bank of India issued in February 1996 deep discount bonds. Each bond having a face value of Rs.2,00,000 was issued at a deep discounted price of Rs.5300 with a maturity period of 25 years. Of course, provisions are there for early withdrawal or redemption in which case the deemed face value of the bond would be reduced proportionately. This bond could be gifted to any person.
(vii) Index-Linked Guilt Bonds : These are instruments having a fixed maturity. Their maturity value is linked to the index prevailing as on the date of maturity. Hence, they are inflation-free instruments.
(viii) Option Bonds : These bonds may be cumulative or non-cumulative as per the option of the holder of the bonds. In the case of cumulative bonds, interest is accumulated and is payable only on maturity. But, in the case of non-cumulative bond, the interest is paid periodically. This option has to be exercised by the prospective investor at the time of investment.
(ix) Secured Premium Notes : These are instruments which carry no interest of three years. In other words, their interest will be paid only after 3 years, and hence, companies with high capital intensive investments can resort to this type of financing.
(x) Medium Term Debentures : Generally, debentures are repayable only after a long period. But, these debentures have a medium term maturity. Since they are secured and negotiable, they are highly liquid. These types of debt instruments are very popular in Germany.
(xi) Variable Rate Debentures : Variable rate debentures are debt instruments. They carry a compound rate of interest, but this rate of interest is not a fixed one. It varies from time to time in accordance with some pre-determined formula as we adopt in the case of Dearness Allowance calculations.
(xii) Non-Convertible Debentures with Equity Warrants : Generally debentures are redeemed on the date of maturity. but, these debentures are redeemed in full at a premium in instalments as in the case of anticipated insurance policies. The instalments may be paid at the end of 5th, 6th, 7th and 8th year from the date of allotment.
(xiii) Equity with 100% Safety Net : Some companies make “100% safety net” offer to the public. It means that they give a guarantee to the issue price. Suppose, the issue price is Rs.40/- per share (nominal value of Rs.10/- per share), the company is ready to get it back at Rs.40/- at any time, irrespective of the market price. That is, even if the market price comes down to Rs.30/- there is 100% safety net and hence the company will get it back at Rs.40/-.
(xiv) Cumulative convertible Preference Shares : These instruments along with capital and accumulated dividend must be compulsorily converted into equity shares in a period of 3 to 5 years from the date of their issue, according to the discretion of the issuing company. The main object of introducing it is to offer the investor an assured minimum return together with the prospect of equity appreciation. This instrument is not popular in India.
(xv) Convertible Bonds : A convertible bond is one which can be converted into equity shares at a per-determined timing neither fully or partially. There are compulsory convertible bonds which provide for conversion within 18 months of their issue. There are optionally convertible bonds which provide for conversion within 36 months. There are also bonds which provide for conversion after 36 months and they carry ‘call’ and ‘put’ features.
(xvi) Debentures with ‘Call’ and ‘Put’ Feature : Sometimes debentures may be issued with ‘Call’ and ‘Put’ feature. In the case of debentures with ‘Call feature’, the issuing company has the option to redeem the debentures at a certain price before the maturity date. In the case of debentures with ‘Put features’, the company gives the holder the right to seek redemption at specified times at predetermined prices.
(xvii) Easy Exit Bond : As the name indicates, this bond enables the small investors to encash the bond at any time after 18 months of its issue and thereby paving a way for an easy exit. It has a maturity period of 10 years with a call option any time after 5 years. Recently the IDBI has issued this type of bond with a face value of Rs.5000 per bond.
(xviii) Retirement Bond : This type of bond enables an investor to get an assured monthly income for a fixed period after the expiry of the ‘wait period’ chosen by him. No payment will be made during the ‘wait period’. The longer the wait period, the higher will be the monthly income. Besides these, the investor will also get a lump sum amount on maturity. For example, the IDBI has issued Retirement Bond ‘96 assuring a fixed monthly income for 10 years after the expiry of the wait period. This bond can be gifted to any person.
(xix) Regular Income Bond : This bond offers an attractive rate of interest payable half yearly with the facility of early redemption. The investor is assured of regular and fixed income. For example, the IDBI has issued Regular Income Bond ’96 carrying 16% interest p.a. It is redeemable at the end of every year from the expiry of 3 years from the date of allotment.
(xx) Infrastructure Bond : It is a kind of debt instrument issued with a view to giving tax shelter to investors. The resources raised through this bond will be used for promoting investment in the field of certain infrastructure industries. Tax concessions are available under Sec.88, Sec.54 EA and Sec.54EB of the Income Tax Act. HUDCO has issued for the first time such bonds. Its face value is : 19 :
Rs.1000 each carrying an interest rate of 15% per annum payable semi annually. This bond will also be listed in important stock exchanges.
(xxi) Carrot and Stick bonds : Carrot bonds have a low conversion premium to encourage early conversion, and sticks allow the issuer to call the bond at a specified premium if the common stock is trading at a specified percentage above the strike price.
(xxii) Convertible Bonds with a Premium put : These are bonds issued at face value with a put, which means that the bond holder can redeem the bonds for more than their face value.
(xxiii) Debt with Equity Warrant : Sometimes bonds are issued with warrants for the purchase of shares. These warrants are separately tradable.
(xxiv) Dual Currency Bonds : Bonds that are denominated and pay interest in one currency and are redeemable in another currency come under this category. They facilitate interest rate arbitrage between two markets.
(xxv) ECU Bonds (European Currency Unit Bonds) : These bonds are denominated in a basket of currencies of the 10 countries that constitute the European community. They pay principal and interest in ECUs or in any of the 10 currencies at the option of the holder.
(xxvi) Yankee Bonds : If bonds are raised in U.S.A., they are called Yankee bonds and if they are raised in Japan, they are called Samurai Bonds.
(xxvii) Flip-Flop Notes : It is a kind of debt instrument which permits investors to switch between two types
of securities e.g. to switch over from a long term bond to a short term fixed-rate note.
(xxviii) Floating Rate Notes (FRNs) : These are debt instruments which facilitate periodic interest rate adjustments.
(xxix) Loyalty Coupons : These are entitlements to the holder of debt for two to three years to exchange into equity shares at discount prices. To get this facility, the original subscriber must hold the debt instruments for the said period.
(xxx) Global Depository Receipt (GDR) : A global depository receipt is a dollar denominated instrument traded on a stock exchange in Europe or the U.S.A./ or both. It represents a certain number of underlying equity shares. Though the GDR is quoted and traded in dollar terms, the underlying equity shares are denominated in rupees. The shares are issued by the company to an intermediary called depository in whose name the shares are registered. It is the depository which subsequently issues the GDRs.
(i) Commercial Paper : A paper is a short-term negotiable money market instrument. It has the character of an unsecured promissory note with a fixed maturity of 3 to 6 months. Banking and non-banking companies can issue this for raising their short term debt. It also carries an attractive rate of interest. Commercial papers are sold at a discount from their face value and redeemed at their face value. Since its denomination is very high, it is suitable only to institutional investors and companies.
(ii) Treasury Bill : A treasury bill is also a money market instrument issued by the Central Government. It is also issued at a discount and redeemed at par. Recently, the Government has come out with short term treasury bills of 182-days bills and 364-days bills.
(iii) Certificate of Deposit : The scheduled commercial banks have been permitted to issue certificate of deposit without any regulation on interest rates. This is also a money market instrument and unlike a fixed deposit receipt, it is a negotiable instrument and hence it offers maximum liquidity. As such, it has a secondary market too. Since the denomination is very high, it is suitable to mainly institutional investors and companies.
(iv) Inter-bank Participations (IBPs) : The scheme of inter-bank participation is confined to scheduled banks only for a period ranging between 91 days and 180 days. This may be ‘with risk’ participation or ‘without risk’ participation. However, only a few banks have so far issued IBPs carrying an interest rate ranging between 14 and 17 per cent per annum. This is also a money market instrument.
(v) Zero Interest Convertible Debenture/Bonds : As the very name suggests, these instruments carry no interest till the time of conversion. These instruments are converted into equity shares after a period of time.
(vi) Deep Discount Bonds : There will be no interest payments in the case of deep discount bonds also. Hence, they are sold at a large discount to their nominal value. For example, the Industrial Development Bank of India issued in February 1996 deep discount bonds. Each bond having a face value of Rs.2,00,000 was issued at a deep discounted price of Rs.5300 with a maturity period of 25 years. Of course, provisions are there for early withdrawal or redemption in which case the deemed face value of the bond would be reduced proportionately. This bond could be gifted to any person.
(vii) Index-Linked Guilt Bonds : These are instruments having a fixed maturity. Their maturity value is linked to the index prevailing as on the date of maturity. Hence, they are inflation-free instruments.
(viii) Option Bonds : These bonds may be cumulative or non-cumulative as per the option of the holder of the bonds. In the case of cumulative bonds, interest is accumulated and is payable only on maturity. But, in the case of non-cumulative bond, the interest is paid periodically. This option has to be exercised by the prospective investor at the time of investment.
(ix) Secured Premium Notes : These are instruments which carry no interest of three years. In other words, their interest will be paid only after 3 years, and hence, companies with high capital intensive investments can resort to this type of financing.
(x) Medium Term Debentures : Generally, debentures are repayable only after a long period. But, these debentures have a medium term maturity. Since they are secured and negotiable, they are highly liquid. These types of debt instruments are very popular in Germany.
(xi) Variable Rate Debentures : Variable rate debentures are debt instruments. They carry a compound rate of interest, but this rate of interest is not a fixed one. It varies from time to time in accordance with some pre-determined formula as we adopt in the case of Dearness Allowance calculations.
(xii) Non-Convertible Debentures with Equity Warrants : Generally debentures are redeemed on the date of maturity. but, these debentures are redeemed in full at a premium in instalments as in the case of anticipated insurance policies. The instalments may be paid at the end of 5th, 6th, 7th and 8th year from the date of allotment.
(xiii) Equity with 100% Safety Net : Some companies make “100% safety net” offer to the public. It means that they give a guarantee to the issue price. Suppose, the issue price is Rs.40/- per share (nominal value of Rs.10/- per share), the company is ready to get it back at Rs.40/- at any time, irrespective of the market price. That is, even if the market price comes down to Rs.30/- there is 100% safety net and hence the company will get it back at Rs.40/-.
(xiv) Cumulative convertible Preference Shares : These instruments along with capital and accumulated dividend must be compulsorily converted into equity shares in a period of 3 to 5 years from the date of their issue, according to the discretion of the issuing company. The main object of introducing it is to offer the investor an assured minimum return together with the prospect of equity appreciation. This instrument is not popular in India.
(xv) Convertible Bonds : A convertible bond is one which can be converted into equity shares at a per-determined timing neither fully or partially. There are compulsory convertible bonds which provide for conversion within 18 months of their issue. There are optionally convertible bonds which provide for conversion within 36 months. There are also bonds which provide for conversion after 36 months and they carry ‘call’ and ‘put’ features.
(xvi) Debentures with ‘Call’ and ‘Put’ Feature : Sometimes debentures may be issued with ‘Call’ and ‘Put’ feature. In the case of debentures with ‘Call feature’, the issuing company has the option to redeem the debentures at a certain price before the maturity date. In the case of debentures with ‘Put features’, the company gives the holder the right to seek redemption at specified times at predetermined prices.
(xvii) Easy Exit Bond : As the name indicates, this bond enables the small investors to encash the bond at any time after 18 months of its issue and thereby paving a way for an easy exit. It has a maturity period of 10 years with a call option any time after 5 years. Recently the IDBI has issued this type of bond with a face value of Rs.5000 per bond.
(xviii) Retirement Bond : This type of bond enables an investor to get an assured monthly income for a fixed period after the expiry of the ‘wait period’ chosen by him. No payment will be made during the ‘wait period’. The longer the wait period, the higher will be the monthly income. Besides these, the investor will also get a lump sum amount on maturity. For example, the IDBI has issued Retirement Bond ‘96 assuring a fixed monthly income for 10 years after the expiry of the wait period. This bond can be gifted to any person.
(xix) Regular Income Bond : This bond offers an attractive rate of interest payable half yearly with the facility of early redemption. The investor is assured of regular and fixed income. For example, the IDBI has issued Regular Income Bond ’96 carrying 16% interest p.a. It is redeemable at the end of every year from the expiry of 3 years from the date of allotment.
(xx) Infrastructure Bond : It is a kind of debt instrument issued with a view to giving tax shelter to investors. The resources raised through this bond will be used for promoting investment in the field of certain infrastructure industries. Tax concessions are available under Sec.88, Sec.54 EA and Sec.54EB of the Income Tax Act. HUDCO has issued for the first time such bonds. Its face value is : 19 :
Rs.1000 each carrying an interest rate of 15% per annum payable semi annually. This bond will also be listed in important stock exchanges.
(xxi) Carrot and Stick bonds : Carrot bonds have a low conversion premium to encourage early conversion, and sticks allow the issuer to call the bond at a specified premium if the common stock is trading at a specified percentage above the strike price.
(xxii) Convertible Bonds with a Premium put : These are bonds issued at face value with a put, which means that the bond holder can redeem the bonds for more than their face value.
(xxiii) Debt with Equity Warrant : Sometimes bonds are issued with warrants for the purchase of shares. These warrants are separately tradable.
(xxiv) Dual Currency Bonds : Bonds that are denominated and pay interest in one currency and are redeemable in another currency come under this category. They facilitate interest rate arbitrage between two markets.
(xxv) ECU Bonds (European Currency Unit Bonds) : These bonds are denominated in a basket of currencies of the 10 countries that constitute the European community. They pay principal and interest in ECUs or in any of the 10 currencies at the option of the holder.
(xxvi) Yankee Bonds : If bonds are raised in U.S.A., they are called Yankee bonds and if they are raised in Japan, they are called Samurai Bonds.
(xxvii) Flip-Flop Notes : It is a kind of debt instrument which permits investors to switch between two types
of securities e.g. to switch over from a long term bond to a short term fixed-rate note.
(xxviii) Floating Rate Notes (FRNs) : These are debt instruments which facilitate periodic interest rate adjustments.
(xxix) Loyalty Coupons : These are entitlements to the holder of debt for two to three years to exchange into equity shares at discount prices. To get this facility, the original subscriber must hold the debt instruments for the said period.
(xxx) Global Depository Receipt (GDR) : A global depository receipt is a dollar denominated instrument traded on a stock exchange in Europe or the U.S.A./ or both. It represents a certain number of underlying equity shares. Though the GDR is quoted and traded in dollar terms, the underlying equity shares are denominated in rupees. The shares are issued by the company to an intermediary called depository in whose name the shares are registered. It is the depository which subsequently issues the GDRs.
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