NISM Series II B Short Notes – Part 2: Other Securities, Debt Securities & Introduction to Mutual Funds

Welcome to Part 2 of our 6-part NISM Series II B short notes series. In this blog post, we cover three important chapters from the NISM II B certification exam syllabus — Other Securities (Warrants, Depository Receipts, FCCBs), Debt Securities (types of bonds, classification of debt instruments, yield concepts, credit rating), and Introduction to Mutual Funds. These are high-weightage topics in the NISM mutual fund exam.

If you haven't read Part 1 yet, check it out here: NISM Series II B Short Notes Part 1 – Introduction to Securities & Equity Capital.

Quick Answer: What is a Zero Coupon Bond? A zero coupon bond does not pay periodic interest. It is issued at a discount to its face value and redeemed at face value. The difference between the issue price and redemption value is the investor's return. When issued for a very long tenor, it is also called a deep discount bond.

Chapter 3 – Other Securities Warrants

Warrants are securities typically issued by companies along with a debenture to make the debt offering more attractive. Key points:

Warrants give the holder the right (not obligation) to buy shares of the company at a future date.
The number of shares, the exercise price, and the validity period of the warrant are specified at the time of issue.
Warrants can be traded separately on a stock exchange after being detached from the debenture.
Warrants typically have a longer lifetime (measured in years) compared to options contracts, which they closely resemble.

Convertible Debentures

Convertible debentures are debt instruments that convert into equity shares on a future date. They carry features of both debt and equity:

They pay periodic coupon interest like regular debt instruments.
They usually carry a lower coupon rate than pure debt because the investor also benefits from potential equity appreciation.
At the time of redemption, investors can choose to receive equity shares of the company instead of cash.
These instruments benefit the company by reducing the interest cost on borrowings.

Depository Receipts (DRs)

Depository Receipts are financial instruments that represent shares of a local Indian company but are listed and traded on a foreign stock exchange. Key facts:

DRs are issued in foreign currency (usually US Dollars).
To issue a DR, a specific quantity of underlying equity shares is kept with a custodian bank in India. The custodian bank authorizes the issue of DRs.
DRs may be converted back into equity shares depending on the conditions of issue.

Type	Listed On	Full Form
ADR	US Stock Exchange (e.g., NYSE)	American Depository Receipt
GDR	Stock Exchange outside USA	Global Depository Receipt

Foreign Currency Convertible Debentures (FCCBs)

FCCBs are foreign currency denominated debt raised by Indian companies in international markets:

They are typically denominated in US Dollars.
They give the investor the option to convert into equity shares before maturity.
Interest payment and principal repayment are both in foreign currency.
The conversion price is usually set at a premium over the current market price of shares.
Companies prefer FCCBs because they can raise debt at lower interest rates in international markets.
The time taken to raise FCCBs is usually lower than raising pure foreign debt.

Chapter 4 – Debt Securities

A debt security is a contract between the issuer (borrower) and the lender (investor), where the issuer borrows money at pre-determined terms. Three key features of any bond:

Principal — the amount borrowed
Coupon — the rate of interest paid by the borrower (as a percentage of face value)
Maturity — the date on which the principal is repaid

Types of Coupon Structures

Bond Type	Coupon Feature
Zero Coupon Bond (Deep Discount Bond)	No periodic interest. Issued at a discount; redeemed at face value. The difference = investor's return.
Floating Rate Bond	Interest rate is not fixed. It is reset periodically based on a market benchmark rate.
Deferred Interest Bond	Borrower defers coupon payment in the initial 1–3 year period. Interest payment starts later.
Step-up Bond	Coupon rate increases (steps up) periodically. Interest burden is lower in early years and increases over time.

Other Types of Bonds Callable Bonds

A callable bond allows the issuer to redeem the bond before its original maturity date. The issuer will exercise this option when market interest rates fall, allowing it to refinance at a lower rate. This option is called a "call option" embedded in the bond.

Puttable Bonds

A puttable bond gives the investor the right to demand early redemption from the issuer before maturity. If market interest rates rise, the investor can sell back the low-coupon bond and reinvest in higher-yielding instruments. This is called a "put option" embedded in the bond.

Amortizing Bonds

In an amortizing bond, the principal is not repaid in a lump sum at maturity. Instead, each periodic payment includes both interest and part of the principal. Commonly seen in home loans and certain structured bonds.

Asset-Backed Securities (ABS)

Asset-backed securities are fixed income instruments created by pooling together a group of underlying assets (like loans, mortgages, or receivables) and issuing bonds backed by the cash flows from this asset pool.

Classification of Debt Instruments – Key NISM Exam Table

Instrument	Issuer	Key Features
Treasury Bills (T-Bills)	Government of India	Tenor: 91, 182, or 364 days. Issued via auction managed by RBI. Issued as zero-coupon bonds.
CBLO	Clearing Corporation of India (CCIL)	Collateralized Borrowing & Lending Obligation. Uses govt. securities as collateral. Maturity: 1 day to 1 year. Banks borrow from MFs and insurance companies using CBLO.
Certificate of Deposit (CD)	Banks	Issued to meet short-term fund needs. Creates a paper instrument (unlike a regular deposit), making it transferable before maturity. Low secondary market activity.
Commercial Paper (CP)	Companies / Financial Institutions	Issued to meet working capital requirements. Maturity: 7 days to 1 year.
Government Securities (G-Secs / Treasury Bonds)	Government of India	Issued to fund fiscal deficit. Sets benchmark rates for all other borrowers. All other borrowers pay a "spread" over G-Sec rates.
Corporate Bonds	Companies	Dominated by private placements. Public issues regulated by SEBI. Must be credit-rated; require debenture trustee, debenture redemption reserve, and asset charge creation.

Yield from Debt Instruments Current Yield

Current Yield measures the annual coupon payment relative to the current market price of a bond.

Formula:
Current Yield = (Annual Coupon / Current Market Price) × 100

Example: A bond with a 12% annual coupon is trading at Rs. 109.50.
Current Yield = 12 / 109.5 = 10.95%

Yield to Maturity (YTM)

YTM is the total return an investor earns if they hold a bond until it matures. It is the rate that equates the present value (discounted value) of all future cash flows (coupons + principal repayment) to the current price of the bond. YTM is also called the Internal Rate of Return (IRR) for a bond investment.

Credit Rating of Debt Instruments

One of the biggest risks in debt investing is credit risk — the possibility that the borrower may default on interest payments or principal repayment.

Key facts about credit rating for the NISM exam:

Credit rating agencies evaluate the ability and willingness of a borrower to service its financial obligations.
They must be registered with SEBI and operate under SEBI (Credit Rating) Regulations, 1999.
Rating agencies consider both qualitative factors (management quality, industry outlook) and quantitative factors (financial ratios, cash flows).
Information is gathered from the borrower as well as from independent sources.
A rating committee of the agency assigns the final rating — a symbol that reflects the borrower's creditworthiness.
Higher rating = lower credit risk = lower yield; Lower rating = higher credit risk = higher yield demanded by investors.

Note: Refer to the rating symbol chart in the official NISM workbook for the full rating scale.

Chapter 5 – Introduction to Mutual Funds What is a Mutual Fund?

Definition: A mutual fund is a collective investment vehicle where multiple investors pool their money together. This pooled amount is then professionally managed and invested in various securities (equities, debt, money market instruments, etc.) according to a stated investment objective.

Key Concepts in Mutual Funds Collective Investment Vehicle

A mutual fund is a collective investment vehicle (CIV). The fund is first defined by its investment objective. Investors then put money in, which is pooled and invested according to that objective.

Proportionate Share of Benefits

Every investor in a mutual fund receives benefits in proportion to their contribution. In a closed-end fund, investors stay invested until maturity. In an open-ended fund, investors can enter or exit at any time.

Units

When an investor puts money into a mutual fund, they receive units of the fund scheme. A mutual fund investor is called a unit holder. The fund's ownership is collectively held by all unit holders. Units can normally be bought and sold through the fund itself.

Formula: Number of Units = Amount Invested ÷ Price per Unit

Assets Under Management (AUM)

A mutual fund invests only in marketable securities (securities with a market price). The portfolio is updated daily to reflect current market prices — a process called "Marking to Market." The current market value of all securities held by the fund is the AUM (Assets Under Management).

Fund Recurring Expenses (FRE)

Running a mutual fund involves costs — portfolio management fees, administrative expenses, etc. These are collectively called Fund Recurring Expenses (FRE). FRE is expressed as a percentage of AUM and is deducted from the fund's value on a daily basis. SEBI regulations prescribe the maximum FRE limits.

Net Asset Value (NAV)

NAV per unit = Net Assets ÷ Total Number of Units

Where: Net Assets = Market Value of Portfolio − Accrued Fund Recurring Expenses

NAV reflects both the market value of the portfolio and the expenses charged to the fund. NAV changes every day as market prices and accrued expenses change.

Advantages of Investing in Mutual Funds

Portfolio Diversification – Investment spread across multiple companies, sectors, and asset classes, reducing concentration risk.
Low Transaction Cost – Economies of scale reduce the per-investor cost of transactions.
Professional Management – Experienced fund managers make investment decisions on behalf of investors.
Risk Reduction – Diversification and professional management together lower overall investment risk.
Customized Investment – Investors can choose funds that match their risk appetite, goals, and time horizon.
Liquidity – Open-ended mutual funds allow investors to withdraw their money whenever needed at the prevailing NAV.

Quick Revision – Key Terms for NISM II B Exam Part 2

Warrant – Right to buy company shares in future; traded separately; longer lifetime than options
ADR – American Depository Receipt; listed in USA
GDR – Global Depository Receipt; listed outside USA
FCCB – Foreign Currency Convertible Bond; raised abroad; converts to equity
Treasury Bills – Government short-term borrowing; 91/182/364 days; zero coupon
CBLO – Collateralized Borrowing & Lending Obligation; using G-Secs as collateral; managed by CCIL
CD – Certificate of Deposit; by banks; transferable
CP – Commercial Paper; by companies; 7 days to 1 year
YTM – Yield to Maturity; total return if held till maturity
AUM – Assets Under Management; market value of mutual fund portfolio
FRE – Fund Recurring Expenses; charged as % of AUM daily
NAV – Net Asset Value per unit = Net Assets ÷ Number of Units
Marking to Market – Daily revaluation of fund portfolio at current market prices

Continue Your NISM Series II B Preparation

This is Part 2 of 6 of our NISM Series II B Short Notes. These comprehensive study notes are designed to help you clear the NISM II B exam on your first attempt. Practice more questions at PassNISM.in.