Government Securities, SDLs and Other Debt Securities - Article

Introduction

Debt securities allow an issuer to borrow money from investors for an agreed period.

The investor provides funds and normally receives:

• periodic interest, where applicable; and

• repayment of principal at maturity.

Bank treasuries invest in different debt securities for purposes such as:

• statutory liquidity management;

• liquidity deployment;

• interest income;

• trading;

• collateral;

• asset-liability management; and

• diversification of investments.

Important debt securities include:

1. Central Government Securities

2. State Development Loans / State Government Securities

3. Corporate bonds and debentures

4. Bonds issued by financial institutions, PSUs and other eligible entities

5. Other permitted debt instruments

The current IIBF CAIIB BFM syllabus places Securities Market Products under Module C – Treasury Products.

Learning Objectives

After studying this topic, you should be able to:

• explain Government Securities and dated G-Secs;

• distinguish Central Government securities from SDLs;

• understand the current terminology of State Government Securities;

• identify major structures of debt securities;

• distinguish sovereign securities from corporate debt;

• understand primary and secondary-market operations;

• identify major risks in debt-security investment; and

• analyse debt securities from a bank-treasury perspective.

What Is a Government Security?

A Government Security, or G-Sec, is a tradable debt instrument issued by the Central Government or a State Government.

It represents a debt obligation of the Government.

RBI classifies Government securities broadly into:

• Treasury Bills – original maturity of less than one year; and

• dated Government securities – original maturity of one year or more.

The Central Government issues both Treasury Bills and dated securities. State Governments issue dated securities traditionally called State Development Loans (SDLs).

This article mainly focuses on dated securities because Treasury Bills are covered separately.

Understanding Dated Government Securities

A dated Government security generally has:

• face value;

• issue date;

• maturity date;

• coupon rate or other interest structure;

• coupon-payment dates; and

• redemption terms.

Consider a security described as:

7.00% GS 2035

Conceptually:

• 7.00% = coupon rate;

• GS = Government Security;

• 2035 = year of maturity.

A holder normally receives coupon payments according to the security terms and receives the principal on maturity.

Fixed-Rate Government Bonds

The most familiar dated G-Sec is a fixed-rate bond.

Its coupon rate remains fixed throughout its life.

If a bond carries a 7% annual coupon on ₹100 face value, its annual coupon remains ₹7 irrespective of changes in its secondary-market price.

This creates an important distinction:

Coupon rate stays fixed → Market yield can change

The bond's market price adjusts when market interest rates change.

Other Structures of Government Securities

Government borrowing is not limited to ordinary fixed-rate bonds.

Structures may include instruments such as:

Floating Rate Bonds

The coupon changes according to the applicable benchmark and reset mechanism specified in the issue terms.

Zero-Coupon Bonds

No periodic coupon is paid.

The return arises through the relationship between acquisition price and redemption amount.

Inflation-Linked Securities

Cash flows may be linked to an inflation measure according to the specific instrument structure.

Bonds with Embedded Options

Some securities may contain features such as:

• call option; or

• put option.

These alter the rights of the issuer or investor according to the issue terms.

STRIPS

Separate Trading of Registered Interest and Principal of Securities, or STRIPS, allows eligible coupon and principal cash flows of specified Government securities to be separated and traded as individual zero-coupon securities.

RBI had already permitted stripping of eligible Central Government securities. From 12 June 2025, RBI also introduced stripping/reconstitution for eligible State Government Securities meeting specified conditions.

What Are State Development Loans?

State Governments also borrow from the market by issuing dated securities.

These have traditionally been called:

State Development Loans – SDLs

Like Central Government dated securities, SDLs generally:

• are issued through auction;

• carry an interest rate;

• make interest payments at prescribed intervals; and

• repay principal at maturity.

RBI's Government Securities primer states that SDLs are dated securities issued by State Governments through auctions broadly similar to Central Government dated-security auctions. Interest is serviced half-yearly and principal is repaid at maturity.

Current Terminology: SDL to State Government Securities

An important current update is terminology.

In its 12 June 2025 circular introducing stripping/reconstitution in State Government securities, RBI expressly noted that:

State Development Loans are now known as State Government Securities.

Therefore, CAIIB learners may encounter both expressions:

• SDL – State Development Loan, especially in textbooks and traditional questions; and

• SGS – State Government Security, in current RBI terminology.

Central Government Securities vs SDLs / SGS

RBI identifies Treasury Bills, Central Government dated securities and State Development Loans among securities eligible under the applicable SLR framework.

Why Do State Governments Issue SDLs?

State Governments require funds for:

• development expenditure;

• infrastructure;

• budgetary financing; and

• other governmental expenditure.

Rather than depending entirely on receipts or transfers, States raise market borrowings through State Government securities.

The coupon or yield demanded by investors can differ across States and issues depending on factors such as:

• maturity;

• market liquidity;

• prevailing Government bond yields;

• supply of securities; and

• investor demand.

Primary Market for Government Securities

The primary market is where the Government issues securities and receives the borrowing proceeds.

Broadly:

Government borrowing programme → RBI auction → Market bids → Allotment → Settlement

RBI conducts auctions of Government securities through its infrastructure, including e-Kuber.

Auctions may use methods such as:

• multiple-price auction; or

• uniform-price auction,

depending on the security and auction announcement.

The precise auction method is specified in the relevant notification.

Competitive and Non-Competitive Bidding

Competitive Bidding

A competitive bidder specifies the price or yield at which it is willing to purchase the security.

Such bidders therefore participate directly in price discovery.

Non-Competitive Bidding

Eligible investors under the applicable scheme can participate without specifying the auction price or yield.

This provides wider access to Government securities.

RBI Retail Direct also allows eligible retail investors to participate in primary issues of:

• Treasury Bills;

• Central Government dated securities; and

• SDLs/State Government securities.

Secondary Market

After issue, Government securities can be traded between investors.

This is the secondary market.

An investor may:

• hold a security until maturity;

• sell before maturity;

• purchase an already-issued security; or

• adjust portfolio maturity and duration through market transactions.

Government securities trading is supported by infrastructure such as NDS-OM, while CCIL performs important clearing and settlement functions.

Secondary-market liquidity is crucial because it allows treasury to change portfolio positions without waiting for the security to mature.

Government Securities and Credit Risk

Government securities are fundamentally different from ordinary corporate debt.

RBI describes Government securities in domestic currency as credit-risk-free instruments, although investors remain exposed to market risk if securities are sold before maturity.

This distinction is important.

Credit risk concerns failure of the issuer to meet its obligation.

Market risk concerns a decline in the market value of the security.

Therefore:

Government security ≠ no risk of any kind

Its price can still fall significantly when yields rise.

Price and Yield Relationship

For a conventional fixed-rate debt security:

Market yield rises → Bond price falls

Market yield falls → Bond price rises

Why?

Suppose an existing Government bond pays a lower coupon than newly available market yields.

Investors will generally pay less for the old security so that its effective yield becomes competitive.

The reverse occurs when market yields decline.

Role of Government Securities in Bank Treasury

SLR Management

Eligible Government securities can form part of banks' statutory liquidity holdings under the applicable RBI framework.

Liquidity Management

Government securities can be sold or used in eligible repo transactions to obtain liquidity.

Interest Income

Coupon-bearing securities generate interest income.

Trading

Treasury may buy or sell Government securities depending on:

• interest-rate expectations;

• liquidity requirements;

• portfolio strategy; and

• authorised risk limits.

Collateral

Eligible Government securities are important collateral in:

• repo transactions;

• liquidity operations; and

• other permitted secured arrangements.

Asset-Liability Management

Treasury can choose securities of different maturities to help manage:

• duration;

• repricing exposure;

• liquidity profile; and

• balance-sheet interest-rate risk.

What Are Other Debt Securities?

Government debt represents only one part of the debt market.

Banks and other investors may also invest, subject to applicable regulations and internal policies, in debt securities issued by:

• companies;

• public-sector undertakings;

• financial institutions;

• statutory bodies;

• infrastructure entities; and

• other eligible issuers.

Important instruments include:

• corporate bonds;

• debentures;

• non-convertible debentures;

• bonds issued by financial institutions;

• PSU bonds; and

• other permitted non-convertible debt securities.

For banks, RBI's current Investment Portfolio Directions define corporate bonds and debentures broadly to include debt instruments acknowledging indebtedness while excluding Central and State Government securities from that definition. Those Directions became effective for accounting periods commencing on or after 1 April 2024.

Corporate Bonds and Debentures

A corporate bond or debenture represents borrowing by a non-government issuer.

The investor becomes a creditor of the issuer.

Depending on the terms, the security may be:

• secured or unsecured;

• fixed-rate or floating-rate;

• listed or unlisted;

• senior or subordinated;

• callable or puttable; or

• convertible or non-convertible.

For listed non-convertible securities, an important current regulatory framework is the SEBI (Issue and Listing of Non-Convertible Securities) Regulations, 2021, last amended as of 21 January 2026.

Government Securities vs Corporate Debt

Credit Spread

Corporate debt normally offers a yield above a comparable Government security because investors require compensation for additional risks.

This additional yield is broadly associated with the credit spread.

For example, if a corporate bond and a Government security have broadly comparable maturities, the corporate instrument may offer a higher yield because of:

• issuer credit risk;

• lower liquidity;

• structural features; and

• market demand.

A higher yield should therefore not automatically be interpreted as a better investment.

It may simply compensate for higher risk.

Major Risks in Debt Securities

Interest-Rate Risk

Bond prices change when market yields change.

Longer-duration securities generally show greater price sensitivity.

Credit Risk

Particularly important for corporate and other non-sovereign securities.

The issuer may experience deterioration in repayment capacity.

Liquidity Risk

A security may be difficult to sell quickly without accepting a significant price concession.

Reinvestment Risk

Coupon or maturity proceeds may have to be reinvested at lower rates.

Spread Risk

Corporate bond spreads can widen even if the Government yield curve does not change.

This can reduce the bond's market value.

Optionality Risk

Callable and puttable securities behave differently from plain fixed-rate bonds because one party has an embedded contractual option.

Practical Banking Application

Assume a bank treasury has surplus funds available for three years.

It is considering:

• a Central Government bond;

• an SDL/State Government Security; and

• a corporate bond.

The corporate bond offers the highest yield.

Treasury should not automatically choose the corporate bond.

It must consider:

• credit quality;

• market yield;

• maturity;

• duration;

• liquidity;

• SLR implications;

• collateral usability;

• concentration;

• applicable investment limits; and

• capital and valuation implications.

The correct treasury decision is based on risk-adjusted suitability, not merely the highest coupon or yield.

CAIIB Exam Focus

Central Government issues both T-Bills and dated securities.

State Governments issue dated securities traditionally called SDLs.

RBI now uses “State Government Securities” as current terminology for SDLs.

SDLs/SGS are not Treasury Bills.

Government securities can carry fixed, floating or other permitted cash-flow structures.

Coupon rate and yield are different concepts.

Bond price and market yield generally move inversely.

Government security does not mean absence of market risk.

Eligible Government securities play an important role in SLR and repo/liquidity management.

Corporate debt has issuer credit risk in addition to market and liquidity risks.

Higher corporate yield may represent compensation for additional credit or liquidity risk.

Primary market means fresh issue; secondary market means trading of existing securities.

Common Exam Traps

Trap 1: State Governments Issue Treasury Bills

Incorrect.

The Central Government issues Treasury Bills. States issue dated securities traditionally called SDLs.

Trap 2: SDL and State Government Security Are Completely Different Products

Incorrect.

RBI now uses State Government Securities for instruments traditionally called SDLs.

Trap 3: Government Security Means Its Price Cannot Fall

Incorrect.

Its market price can fall when yields rise.

Trap 4: Coupon Rate and Yield Are Always Equal

Incorrect.

They may coincide under particular pricing conditions, but market yield changes with price.

Trap 5: A Higher-Coupon Bond Must Provide a Higher Market Return

Incorrect.

Return depends on the price paid, maturity, cash flows and other factors.

Trap 6: Corporate Bonds and Government Securities Carry the Same Credit Risk

Incorrect.

Corporate bonds depend on the creditworthiness of the issuing entity.

Trap 7: Highest-Yielding Debt Security Is Automatically Best

Incorrect.

Higher yield may compensate for greater:

• credit risk;

• liquidity risk;

• duration risk; or

• structural risk.

Trap 8: Selling a G-Sec Before Maturity Always Returns Face Value

Incorrect.

Face value is relevant to contractual redemption. A secondary-market sale occurs at the prevailing market price.

Trap 9: Secondary-Market Trading Gives Fresh Borrowing Funds to the Government

Incorrect.

The Government receives borrowing proceeds when securities are issued in the primary market.

Trap 10: All Debt Securities Are Secured

Incorrect.

Security or collateral depends on the instrument terms. Corporate debt can be secured or unsecured.

Memory Technique

Remember C-S-C:

• C – Central Government: G-Secs

• S – State Government: SDL / SGS

• C – Corporate: Bonds and Debentures

Then analyse every debt security through C-M-L:

• C – Credit risk

• M – Market/interest-rate risk

• L – Liquidity risk

For CAIIB, the central principle is:

Same debt concept, different issuer → different risk, yield and treasury use.