Fixed Income and Debt
Fixed Income and Debt covers government securities, treasury bills, corporate bonds and money-market instruments. The exam tests pricing, yield, credit risk and the distinction between coupon and return.
Core rules
- A bond's price is the present value of future coupons and principal, discounted at the market yield.
- Price and yield move inversely.
- T-bills are short-term zero-coupon instruments issued at a discount; G-secs carry coupons.
- Credit risk is reflected in ratings and credit spreads; higher risk usually means higher yield.
- Duration measures price sensitivity to yield changes.
- Money-market instruments have maturities up to one year; bonds have longer tenors.
Worked example
A one-year bond has face value ₹1,000 and an 8% annual coupon. If the market yield is 10%, price = 1,080 ÷ 1.10 = ₹981.82. The reasoning: the bond pays ₹1,080 at maturity; discounting at 10% gives a price below par because the coupon is below the market yield. If the yield were 8%, the price would be ₹1,000.
Traps that cost marks
- Assuming a high coupon always means a high current return.
- Forgetting that a bond bought above par has a yield below its coupon.
- Ignoring credit spread when comparing corporate and government bonds.
- Confusing T-bill discount yield with a coupon rate.