What does it mean when someone says that tge interest rates are rising or falling. Which interest rate is being mentioned? The repo? Or the bank loan? . And how doea it change the interest offered on new issue bonds ? @Bhuvanesh
When people talk about the interest rates in the system, they are referring to the policy rates - mainly repo rates. It is the rate at which the RBI lends money to banks. It’s the main lever through which the central bank controls the monetary policy.
When interest rates rise, old bonds become less attractive because newer issues will be offered at a higher rate. What happens is that the prices of the old existing bonds fall proportionally and there will be rise in the yields.
Conversely, when rates fall, older bonds become attractive, because they will be yielding higher than the new bonds that will be issued.
If you are interested in learning about the basics of bonds, I’d recommend watching these videos
thanks a lot
Yes I understand but this only changes the market price of the old bonds. But, how does it change the interest rates on new bonds, why would increase in repo rate increase the interest pain out on new bonds issued by banks or corporates or anyone else.?
If the coupon rates on new issuances dont move in line with the policy rates, or say are less attractive than prevailing policy rates implemented by banks in FDs etc, who will buy those ?
So are the fd rates also decided by the repo rate changes ?. I am sorry I am beginner.
Great & easy to understand explaination. This has been a long standing confusion among many. Thanks!
The change happens in terms of the rate at which new bonds are issued. If the interest rates in the economy go up, newer bonds will be issued at higher coupons and vice versa.
Assume that the rates were low and a company wanted to raise money through bonds. Now if the rates go up in the system, then it will have to issue bonds at a higher coupon.
Yep. Interest rates in the system affect all interest rate bearing instruments.
The bond issuances will be unsuccessful, and in cases will be scrapped altogether. The reason why someone issues a bond is to raise money. In order to raise money, the spread between the policy rate and the coupon has to be attractive.