Posts tagged ‘Types of G-sec auction’

A Brief Note on G-sec Market

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. The government bond market, made up of the long-term market borrowings of the government, is the largest segment of the debt market.

Government borrows money on short term and long term basis. Now Why do Govt. Borrows money? Yes either to fund the fiscal deficit or to fund big infrastructure or power projects. Just to give you an idea GOI had a revenue of 9.7lakh crores and expenditure of 14.9lakh crores in FY11-12. Hence deficit of 5.2lakh crores is then funded by long term borrowings. Short term borrowing are more for cash management purpose. Lets discuss modes of short term fund raising :

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 say, 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. Until 1988, the only kind of Treasury bill that was available was the 91-day bill, issued on tap; at a fixed rate of 4.5% (the rates on these bills remained unchanged at 4.5% since 1974!). 182-day T-bills were introduced in 1987, and the auction process for T-bills was started. 364 day T-bill was introduced in April 1992, and in July 1997, the 14-day T-bill was also introduced. RBI had suspended the issue of 182-day T- bills from April 1992, and revived their issuance since May 1999. RBI did away with 14-day and 182-day Treasury Bills from May 2001. It was decided in consultation with the Central Government to re-introduce, 182 day TBs from April 2005. All T-bills are now sold through an auction process according to a fixed auction calendar, announced by the RBI. 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. (View RBI Announcement)

Cash Management Bills

Government of India, in consultation with the Reserve Bank of India, has decided to issue a new short-term instrument, known as Cash Management Bills (CMBs), to meet the temporary mismatches in the cash flow of the Government. The CMBs have the generic character of T-bills but are issued for maturities less than 91 days. Like T-bills, they are also issued at a discount and redeemed at face value at maturity. The tenure, notified amount and date of issue of the CMBs depends upon the temporary cash requirement of the Government. The announcement of their auction is made by Reserve Bank of India through a Press Release which will be issued one day prior to the date of auction.

Ways and Means Allowance

These are temporary advances (overdrafts) extended by RBI to the govt. Section 17(5) of RBI Act allows RBI to make WMA both to the Central and State Govt. The objective is  to bridge the interval between expenditure and receipts. They are not a sources of finance but are meant to provide support, for purely temporary difficulties that arise on account of mismatch/shortfall in revenue or other receipts for meeting the govt. liabilities. They have to be periodically adjusted to enable use of such financing for future mis-matches. The interest rate on WMA will be calculated on the basis of repo rate. Whenever the government resorts to WMA, it effectively also adds to the liquidity in the system. Conversely, when the government parks surplus revenues with the RBI, it blocks liquidity in the system.

Long term Financing

Dated Government Securities

Dated Government securities are long term securities and carry a fixed or floating  coupon (interest rate) which is paid on the face value, payable at fixed time periods (usually half-yearly). The tenor of dated securities can be up to 30 years. The nomenclature of a typical dated fixed coupon Government security contains the following features – coupon, name of the issuer, maturity and face value.  For example, 7.49% GS 2017 would mean:

Coupon                                      : 7.49% paid on face value
Name of Issuer                           : Government of India
Date of Issue                              : April 16, 2007
Maturity                                     : April 16, 2017
Coupon Payment Dates              : Half-yearly (October 16 and April 16) every year

 

In case there are two securities with the same coupon and are maturing in the same year, then one of the securities will have the month attached as suffix in the nomenclature. For example, 6.05% GS 2019 FEB, would mean that Government security having coupon 6.05 % that mature in February 2019 along with the other security with the same coupon, namely,, 6.05% 2019 which is maturing in June 2019. (View Bonds Traded)

State Development Loans (SDLs)

State Governments also raise loans from the market. SDLs are dated securities issued through an auction similar to the auctions conducted for dated securities issued by the Central Government The State government bond issuance is presently managed by the RBI along with the central borrowings. States have the option to raise their money through auction system or on tap basis.

What is SGL?

Subsidiary General Ledger (SGL) account is a facility provided by RBI to large banks and financial institutions to hold their investments in government securities and treasury bills in the electronic book entry form.

Types of Auction

The issuance process for G-secs has undergone significant changes in the 1990s, with the introduction of the auction mechanism, and the broad basing of participation in the auctions through creation of the system of primary dealers, and the introduction of non-competitive bids. RBI announces the auction of government securities through a press notification, and invites bids. The sealed bids are opened at an appointed time, and the allotment is based on the cut-off price decided by the RBI. Successful bidders are those that bid at a higher price, exhausting the accepted amount at the cut-off price.

The two choices in treasury auctions, which are widely known and used, are:

  • Discriminatory Price Auctions (French Auction)
  • Uniform Price Auctions (Dutch Auction)

 

In both these kinds of auctions, the winning bids are those that exhaust the amount on offer, beginning at the highest quoted price (or lowest quoted yield). However, in a uniform price auction, all successful bidders pay a uniform price, which is usually the cut-off price (yield). In the case of the discriminatory price auction, all successful bidders pay the actual price (yield) they bid for. If successful bids are decided by filling up the notified amount from the lowest bid upwards, such an auction is called a yield-based auction. In such an auction, the name of the security is the cut-off yield. Such auction creates a new security, every time an auction is completed. For example, the G-sec 10.3% 2010 derives its name from the cut-off yield at the auction, which in this case was 10.3%, which also becomes the coupon payable on the bond. A yield-based auction thus creates a new security, with a distinct coupon rate, at the end of every auction. The coupon payment and redemption dates are also unique for each security depending on the deemed date of allotment for securities auctioned.

Above note is a result of publicly available information!!

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