Government Security

1. What does one mean by Government security?

Government security (G-Sec) means a security created and issued by the Government for the
purpose of raising a public loan or any other purpose as notified by the Government in the
Official Gazette and having one of the following forms.
i.

a Government Promissory Note (GPN) payable to or to the order of a certain person; or

ii.

a bearer bond payable to a bearer; or

iii.

a stock; or

iv.

a bond held in a Bond Ledger Account (BLA).

Government securities promise repayment of principal upon maturity as well as coupon or

interest payments periodically. Examples of government securities include savings bonds,
treasury bills and notes. Government securities are usually used to raise funds that pay for the
government's various expenses, including those related to infrastructure development projects.
Because they are low risk, the return on the securities is generally low.
The Government securities market has witnessed significant changes during the past decade.
Introduction of an electronic screen based trading system, dematerialized holding, straight
through processing, establishment of the Clearing Corporation of India Ltd. (CCIL) as the central
counterparty (CCP) for guaranteed settlement, new instruments, and changes in the legal
environment are some of the major aspects that have contributed to the rapid development of the
market.
Major participants in the Government securities market historically have been large institutional
investors. With the various measures for development, the market has also witnessed the entry of
smaller entities such as co-operative banks, small pension and other funds etc. These entities are
mandated to invest in Government securities through respective regulations. However, some of
these new entrants have often found it difficult to understand and appreciate various aspects of
the Government securities market. The Reserve Bank of India has, therefore, taken several
initiatives to bring awareness about the Government securities market among small investors.
These include workshops on the basic concepts relating to fixed income securities/ bonds like
Government securities, existing trading and investment practices, the related regulatory aspects
and the guidelines.

This primer is yet another initiative of the Reserve Bank to disseminate information relating to
the Government securities market to the smaller institutional players as well as the public. An
effort has been made in this primer to present a comprehensive account of the market and the
various processes and operational aspects related to investing in Government securities in an
easy-to-understand, question-answer format. The primer also has, as annexes, a list of primary
dealers (PDs), useful excel functions and glossary of important market terminology. I hope the
investors; particularly the smaller institutional investors will find the primer useful in taking
decisions on investment in Government securities. Reserve Bank of India would welcome
suggestions in making this primer more user-friendly.
1. What is a Government Security?
1.1 A Government security is a tradable instrument issued by the Central Government or the
State Governments. It acknowledges the Governments 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, fertiliser bonds, power bonds, etc.). They are, usually
not fully tradable and are, therefore, not eligible to be SLR securities.
2. Why should one invest in Government securities?
Holding of cash in excess of the day-to-day needs of a bank does not give any return to it.
Investment in gold has attendant problems in regard to appraising its purity, valuation, safe
custody, etc. Investing in Government securities has the following advantages:

Besides providing a return in the form of coupons (interest), Government securities offer
the maximum safety as they carry the Sovereigns commitment for payment of interest
and repayment of principal.

They can be held in book entry, i.e., dematerialized/ scripless form, thus, obviating the
need for safekeeping.

Government securities are available in a wide range of maturities from 91 days 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 meet cash
requirements.

Government securities can also be used as collateral to borrow funds in the repo market.

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.

Government security prices are readily available due to a liquid and active secondary
market and a transparent price dissemination mechanism.

Besides banks, insurance companies and other large investors, smaller investors like Cooperative banks, Regional Rural Banks, Provident Funds are also required to hold
Government securities as indicated below:

A. Primary (Urban) Co-operative Banks

Section 24 of the Banking Regulation Act 1949, (as applicable to co-operative societies) provides
that every primary (urban) cooperative bank shall maintain liquid assets, which at the close of
business on any day, should not be less than 25 percent of its demand and time liabilities in India
(in addition to the minimum cash reserve requirement). Such liquid assets shall be in the form of
cash, gold or unencumbered Government and other approved securities. This is commonly
referred to as the Statutory Liquidity Ratio (SLR) requirement.
All primary (urban) co-operative banks (UCBs) are presently required to invest a certain
minimum level of their SLR holdings in the form of Government and other approved securities
as indicated below:
a. Scheduled UCBs have to hold 25 per cent of their SLR requirement in Government and
other approved securities.
b. Non-scheduled UCBs with Demand and Time Liabilities (DTL) more than Rs. 25 crore
have to hold 15 per cent of their SLR requirement in Government and other approved
securities.
c. Non-scheduled UCBs with DTL less than Rs. 25 crore have to hold 10 per cent of their
SLR requirements in Government and other approved securities.
B. Rural Co-operative Banks

As per Section 24 of the Banking Regulation Act 1949, the State Co-operative Banks (SCBs) and
the District Central Co-operative Banks (DCCBs) are required to maintain in cash, gold or
unencumbered approved securities, valued at a price not exceeding the current market price, an
amount which shall not, at the close of business on any day, be less than 25 per cent of its
demand and time liabilities as part of the SLR requirement. DCCBs are allowed to meet their
SLR requirement by maintaining cash balances with their respective State Co-operative Bank.
C. Regional Rural Banks (RRBs)
Since April 2002, all the RRBs are required to maintain their entire Statutory Liquidity Ratio
(SLR) holdings in Government and other approved securities. The current SLR requirement for
the RRBs is 24 percent of their Demand and Time Liabilities (DTL).
Presently, RRBs have been exempted from the 'mark to market' norms in respect of their SLRsecurities. Accordingly, RRBs have been given freedom to classify their entire investment
portfolio of SLR-securities under 'Held to Maturity' and value them at book value.
D. Provident funds and other entities
The non-Government provident funds, superannuation funds and gratuity funds are required by
the Central Government, effective from January 24, 2005, to invest 40 per cent of their
incremental accretions in Central and State Government securities, and/or units of gilt funds
regulated by the Securities and Exchange Board of India (SEBI) and any other negotiable
security fully and unconditionally guaranteed by the Central/State Governments. The exposure of
a trust to any individual gilt fund, however, should not exceed five per cent of its total portfolio
at any point of time. The investment guidelines for non-government PFs have been recently
revised in terms of which investments up to 55% of the investible funds are permitted in a basket
of instruments consisting of Central Government securities, State Government securities and
units of gilt funds, effective from April 2009.
Types of Government Securities
Government Securities are of the following types: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).

They are issued at face value.

Coupon or interest rate is fixed at the time of issuance, and remains constant till
redemption of the security.
The tenor of the security is also fixed.
Interest /Coupon payment is made on a half yearly basis on its face value.
The security is redeemed at par (face value) on its maturity date.

Zero Coupon bonds :

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. The key features of these securities are:

They are issued at a discount to the face value.

The tenor of the security is fixed.
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.
The security is redeemed at par (face value) on its maturity date.

Partly Paid Stock :

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. 2000 crore. Such stocks have been issued a
few more times thereafter. The key features of these securities are:

They are issued at face value, but this amount is paid in installments over a specified
period.
Coupon or interest rate is fixed at the time of issuance, and remains constant till
redemption of the security.
The tenor of the security is also fixed.
Interest /Coupon payment is made on a half yearly basis on its face value.
The security is redeemed at par (face value) on its maturity date.

Floating Rate Bonds :

Floating Rate Bonds are securities which do not have a fixed coupon rate. The coupon is re-set at
pre-announced intervals (say, every six months or one year) by adding a spread over a base rate.
In the case of most floating rate bonds issued by the Government of India so far,the base rate is
the weighted average cut-off yield of the last three 364- day Treasury Bill auctions preceding the
coupon re-set date and the spread is decided through the auction. Floating Rate Bonds were first
issued in September 1995 in India.
Bonds with Call/Put Option:
Bonds can also be issued with features of optionality wherein the issuer can have the option to
buy-back (call option) or the investor can have the option to sell the bond (put option) to the
issuer during the currency of the bond. 6.72%GS2012 was issued on July 18, 2002 for a maturity
of 10 years maturing on July 18, 2012. The optionality on the bond could be exercised after
completion of five years tenure from the date of issuance on any coupon date falling thereafter.
The Government has the right to buyback the bond (call option) at par value (equal to the face
value) while the investor has the right to sell the bond (put option) to the Government at par
value at the time of any of the half-yearly coupon dates starting from July 18, 2007.

Capital indexed Bonds :

Capital indexed Bonds are bonds where interest rate is a fixed percentage over the 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.
Life insurance
Life insurance (or commonly life assurance, especially in the Commonwealth) is a contract
between an insured (insurance policy holder) and an insurer or assurer, where the insurer
promises to pay a designated beneficiary a sum of money (the "benefits") upon the death of the
insured person. Depending on the contract, other events such as terminal illness or critical
illness may also trigger payment. The policy holder typically pays a premium, either regularly or
as a lump sum. Other expenses (such as funeral expenses) are also sometimes included in the
benefits.
Life policies are legal contracts and the terms of the contract describe the limitations of the
insured events. Specific exclusions are often written into the contract to limit the liability of the
insurer; common examples are claims relating to suicide, fraud, war, riot and civil commotion.
Life-based contracts tend to fall into two major categories:

Protection policies designed to provide a benefit in the event of specified event,

typically a lump sum payment. A common form of this design is term insurance.

Investment policies where the main objective is to facilitate the growth of capital by
regular or single premiums. Common forms (in the US) are whole life, universal
life andvariable life policies.

Life Insurance :Life insurance is a contract which provides financial protection to the heirs in case of death. An
insurance company receives premium in exchange of taking this risk. If insured person remains
alive during the particular period then insurance company returns the principle amount with
interest.
Objectives :- The objective of life insurance is to provide the financial protection to dependents
when the earning member dies.
Types of Life Insurance

What is a life insurance policy?

A life insurance policy provides financial protection to your family in the unfortunate event of
your death. At a basic level, it involves paying small sums each month (called premiums) to
cover the risk of your untimely demise during the tenure of the policy. In such an event, your
family (or the beneficiaries you have named in the policy) will receive a lump sum amount. In
case you live till the maturity of the policy, depending on the type of life insurance policy you
have opted for, you will receive returns the policy may have earned over the years. Today, there
are many variations to this basic theme, and insurance policies cater to a wide variety of needs.

What are the various types of life insurance policies?

Given below are the basic types of life insurance policies. All other life insurance policies are
built around these basic insurance policies by combination of various other features.

Term Insurance Policy

A term insurance policy is a pure risk cover policy that protects the person insured for a
specific period of time. In such type of a life insurance policy, a fixed sum of money called
the sum assured is paid to the beneficiaries (family) if the policyholder expires within the
policy term. For instance, if a person buys a Rs 2 lakh policy for 15 years, his family is
entitled to the sum of Rs 2 lakh if he dies within that 15-year period.

If the policy holder survives the 15-year period, the premiums paid are not returned back.
The advantage, apart from the financial security for an individuals family is that the
premiums paid are exempt from tax.

These insurance policies are designed to provide 100 per cent risk cover and hence they
do not have any additional charges other than the basic ones. This makes premiums paid
under such life insurance policies the lowest in the life insurance category.

Whole Life Policy

A whole life policy covers a policyholder against death, throughout his life term. The
advantage that an individual gets when he / she opts for a whole life policy is that the
validity of this life insurance policy is not defined and hence the individual enjoys the life
cover throughout his or her life.

Under this life insurance policy, the policyholder pays regular premiums until his death,
upon which the corpus is paid to the family. The policy does not expire till the time any
unfortunate event occurs with the individual.

Increasingly, whole life policies are being combined with other insurance products to
address a variety of needs such as retirement planning, etc.
Premiums paid under the whole life policies are tax exempt.

Endowment Policy

Combining risk cover with financial savings, endowment policies are among the popular
life insurance policies.

Policy holders benefit in two ways from a pure endowment insurance policy. In case of
death during the tenure, the beneficiary gets the sum assured. If the individual survives the
policy tenure, he gets back the premiums paid with other investment returns and benefits
like bonuses.

In addition to the basic policy, insurers offer various benefits such as double endowment
and marriage/ education endowment plans.

The concept of providing the customers with better returns has been gaining importance
in recent times. Hence, insurance companies have been coming out with new and better
ULIP versions of endowment policies. Under such life insurance policies the customers are
also provided with an option of investing their premiums into the markets, depending on
their risk appetite, using various fund options provided by the insurer, these life insurance
policies help the customer profit from rising markets.

The premiums paid and the returns accumulated through pure endowment policies and
their ULIP variants are tax exempt.

Money Back Policy

This life insurance policy is favoured by many people because it gives periodic payments
during the term of policy. In other words, a portion of the sum assured is paid out at regular
intervals. If the policy holder survives the term, he gets the balance sum assured.

In case of death during the policy term, the beneficiary gets the full sum assured.

New ULIP versions of money back policies are also being offered by various life
insurers.

The premiums paid and the returns accumulated though a money back policy or its ULIP
variants are tax exempt.

ULIPs

ULIPs are market-linked life insurance products that provide a combination of life cover
and wealth creation options.

A part of the amount that people invest in a ULIP goes toward providing life cover, while
the rest is invested in the equity and debt instruments for maximising returns. .

ULIPs provide the flexibility of choosing from a variety of fund options depending on the
customers risk appetite. One can opt from aggressive funds (invested largely in the equity
market with the objective of high capital appreciation) to conservative funds (invested in
debt markets, cash, bank deposits and other instruments, with the aim of preserving capital
while providing steady returns).

ULIPs can be useful for achieving various long-term financial goals such as planning for
retirement, childs education, marriage etc.

Annuities and Pension

In these types of life insurance policies, the insurer agrees to pay the insured a stipulated
sum of money periodically. The purpose of an annuity is to protect against financial risks as
well as provide money in the form of pension at regular intervals.

PROCEDURE FOR TAKING A POLICY

The procedure of taking life policy is very easy. The following are the different steps involved in
taking the life insurance policy.

Submission of proposal form:

A person desiring to take policy of life insurance will have to fill in the proposal form supplied
by the insurance company. The proposal form requires information with regard to the health, the
proposer, his family history, his age habits of life, the amount a kind and term of policy.
Submission of agent's report:
The agent prepares a report on the basis of proposal from duly filled in. the report contains the
facts on the basis of proposal form and also from the enquiry made by the agent. The contract of
insurance largely depends upon agent's report.
Doctor's report:
The doctor of insurance company also presents a report regarding the proposer to the company.
The doctor certifies that the customer is free from fatal diseases and there is no risk if the
company issues him a life insurance policy. The report I very important because the company
evaluates the risk of life on the basis of this report.
Certificate of age:
The proposer will have to submit the certificate of his actual age. The certificate is the proof of
age. It is very important because the rate of premium is determined on the basis of actual age.
The customer must provide true information to the company. In case of concealment and wrong
information, the insurance company has a right to cancel the policy.
Scrutiny of documents:
The insurance company has the right to check the documents filed by the customers. The
contents of the proposal form, medical report and the certificate of age are examined by the
insurance company.
Acceptance of the proposal:
On consideration of the above facts, the insurance company decides to insure or not to insure the
life of the proposer. When the proposal is accepted the insurance company informs the customer
and demands the first premium. If the proposal is rejected, the letter of regret is sent to the
customer.

Payment of first premium:

The proposer should pay the premium amount to the company on the receipt of the demand
notice for the premium. The insurance contract is completed in receipt of the first premium. The
company issues a receipt for the amount of premium. The receipt acts as a contract between the
insurance company and the insured person. Later on, the company issues the life insurance
policy.

Unit investment trust

An investment company that offers a fixed, unmanaged portfolio, generally of stocks and bonds,
as redeemable "units" to investors for a specific period of time. It is designed to provide capital
appreciation and/or dividend income.
Unit investment trusts are one of three types of investment companies; the other two are mutual
funds and closed-end funds
Investopedia explains 'Unit Investment Trust - UIT'
Each unit typically costs $1,000 and is sold to investors by brokers. UITs can be resold in the
secondary market. A UIT may be either a regulated investment corporation (RIC) or a grantor
trust. The former is a corporation in which the investors are joint owners; the latter grants
investors proportional ownership in the UIT's underlying securities.

INVESTMENTS IN GOLD,
India (NRIs included) is crazy about gold jewellery. With the World Gold Council (WGC)
aggressively marketing social and religious functions as gold buying events, the demand has shot
up in the recent years to record levels. Research shows that over 16,000 tonnes of gold is there in
Indian households predominantly in the form of jewellery. The value of this as per market price
is a whooping Rs. 27.2 lakh crore. That is close to twice the foreign exchange reserves held by
the RBI. Let's consider the factors one needs to be aware of and the know-how of investing in
gold.
1. Forms of buying gold
Any investor has to be aware of the different forms of buying gold. Jewellery, the most
traditional and the dominant form of buying gold in India, is in fact not an investment idea. The
reason is that there are heavy losses in the form of wastage and making charges. This can vary
from a minimum of 10 per cent to as high as 35 per cent for special and complex designs.
Bank coins, again, are not an investment idea as the premium that banks charge for their coins is
around 5-10 per cent. Also, the bank coins have lesser liquidity as they are not bought back by
the banks.
Bullion bars are good modes for investment but the minimum investment here is much higher
than a common investor can think of.

Gold Exchange Traded Funds (ETFs) are a hot option these days. These are like mutual funds
that invest only in gold. They are proving to be an easier and safer mode to buy gold. The
charges are very less and the gold can be accessed electronically. The disadvantage is that one
never gets to "see" one's holdings.
2. Current income
Gold in any form does not give any current income. The only exception is the dividend option in
the gold ETFs. If held in the physical form, there is only outflow of cash for the maintenance of
lockers.
3. Capital appreciation
Historically, gold has been the perfect hedge for inflation. This is based on data from the year
1800 AD. But in terms of absolute returns gold has fared rather poorly giving returns at only 0.8
per cent above inflation. Real estate and shares beat gold squarely on the capital appreciation
front. Real estate and shares have given returns of about 11 per cent over inflation since 1979
(1979 as that was the year the Sensex was launches).
In the short run, however, gold is a very strong bet compared to shares that are highly volatile.
The idea for gold investment will be to use it at times when the markets are falling and when the
inflation is very high.
A 5 per cent of the overall investment portfolio can be considered for gold investments (bullion,
WGC coins, Gold ETFs). Jewellery is not an investment as far as personal finance goes. It is
only an expense for pleasure, symbolizing wealth.
4. Risk
Gold does not carry much risk at least in India, as we hardly see deflation in the real sense. Even
when the official figures where showing negative inflation (deflation) during the last year, the
actual prices of food items were increasing. This was reflected in the gold prices too.
The real risk with buying gold is in the opportunity cost of investing in other avenues that can
actually give higher returns.
5. Liquidity
Gold scores the highest in terms of liquidity, compared to all other investments. At any time of
the day and any day gold can literally be converted to cash. Banks would give you a jewellery
loan (remember though that many banks do not give loans on coins, including their own), and so
would your friendly neighborhood pawn shop. They can also be sold in some pawn shops,
though many are cautious to purchase in these outlets for fear of 'stolen jewellery'.
Gold jewelers would exchange your gold possessions for other gold jewels. But the problem here

is that there is going to be making and wastage charges involved again. Here we lose the value
(to the extent of 10-35 per cent) of gold jewels.
An unfortunate social aspect in most families in India related to liquidity is that gold has
sentiments attached and is the last item to leave the house in case of financial difficulties. This
negates the entire purpose of gold having liquidity.
6. Tax treatment
Gold suffers capital gains tax as per the IT Act. So it is better to ask your jeweler for the bill.
Close to 90 per cent of the gold jewellery traded in India is unbilled. This is a serious problem
for those who look at gold as an investment. Only the branded jewellers would automatically
give you a bill. At other places ask for one.
We can make use of indexation benefits when calculating the capital gains of gold. So the tax
payable will not be much.
Gold does not have any other tax benefits.
7. Convenience
Gold scores very high here. But with the per gram price rising, the smallest single investment is
becoming higher. With the emergence of golf ETFs the convenience to hold gold for the short
term has increased. Instead of holding cash for the short term, one can today make investments in
gold ETFs.
Conclusion
Gold has proved itself time and again to be the perfect hedge for inflation. But to look at it as a
hedge avenue, Indians are yet to consider this market actively as the purchases continue to be
dominated by jewellery. Gold only beats inflation. It fares poorly when compared to real estate
or shares when compared on the basis of real inflation adjusted returns.
Any serious investor, however, is advised to have a certain percentage of investment in gold to
hedge inflation.