What is a Debt Instrument? Definition and Structure | Bajaj Finance (2024)

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What is a Debt Instrument? Definition and Structure | Bajaj Finance? ›

Understanding debt instruments

A debt instrument is any financial tool used to raise capital. It is a documented, binding obligation between two parties in which one party lends funds to another, with the repayment method specified in a contract.

Structured debt offers an alternative lending solution to businesses who want to merge with another business, invest in more property or staff, or finance trade needs. It offers a tailored financial solution to more complex business lending needs, helping mid-market businesses secure the finance they need to grow.

Debt instruments can be short-term (repaid within a year) or long-term (paid over a year or more). Credit cards and treasury notes are examples of short-term debt instruments, while long-term business loans and mortgages fall into the category of long-term debt instruments.

Structured finance is a financial instrument used by companies with complex financing needs, which cannot be ordinarily solved with conventional financing. Traditional lenders do not generally offer structured financing. Structured financial products, such as collateralized debt obligations, are not transferable.

Definitions of debt instrument. noun. a written promise to repay a debt. synonyms: certificate of indebtedness, obligation.

Debt instrument can be asset or liability depending on whether the entity owns or owes. If an entity invests in a Debt instrument it is its asset. If entity raises funds by issue of Debt instrument, them it's a liability.

For example, a company's financials show $1 million in loans due over 12 months at a 4.5% interest rate. The debt due in one year is equivalent to $1 million at an interest rate of 6.5%. As a result, the organization's debt structure shows total debt of $2 million, with 50% short-term debt and 50% long-term debt.

Structured financial instruments comprise a range of products designed to repackage and redistribute risk. They are pre-packaged investments based on a single security, a basket of securities, options, commodities, debt issuance or foreign currencies, and to a lesser extent, derivatives.

The key difference is in who has the control. With a structured loan, the lending institution is in control but with a non-structured loan, you're in control . This difference is important if, for example, you work on commission or on contract and don't have a steady cash flow.

What is the issue of debt instruments? ›

A debt issue involves the offering of new bonds or other debt instruments by a creditor in order to borrow capital. Debt issues are generally in the form of fixed corporate or government obligations such as bonds or debentures.

Debt instruments include debentures, bonds, certificates, leases, promissory notes and bills of exchange. These allow market players to shift debt liability ownership from one entity to another. Throughout the instrument's life, the lender receives a specific amount as a form of interest.

Cash is the definition of liquid and inherently provides no return - you could earn interest on cash by depositing it in a bank but then you are creating a debt obligation in effect - the cash inherently, as in cash in a physical safe, generates zero return nominal by definition.

The name “structured” is explained by the fact that these financial transactions are composed of collateral-backed securities; think of asset-backed securities and mortgage-backed securities.

Debt financing can be structured in the form of an installment loan, revolving loan or cash flow loan: Installment loan. You receive funding from a lender upfront and repay it, with interest, over a fixed payment schedule.

When a company needs money to develop a project, it can use structured finance. This customized loan is broken down into levels of guarantee so that lenders in the upper level of the structure earn low interest rates and lenders at the bottom of the structure earn higher interest rates.

Debt instruments issued by a national government – examples include US Treasury Bonds, Canadian Treasury Bonds, etc. Government entities that are not national governments can access debt financing through bonds – examples include state government bonds, municipal bonds, etc.

Fixed income investments are debt instruments, where a lender (investor) will lend money to a borrower or issuer (often a government or corporation) in return for regular interest payments (coupon) throughout the specified term. The principal is returned to the investor at maturity.

Debt instruments—like discount bonds, simple loans, fixed payment loans, and coupon bonds—are contracts that promise payment in the future. They are priced by calculating the sum of the present value of the promised payments.

A bond is a debt obligation, like an Iou. Investors who buy corporate bonds are lending money to the company issuing the bond. In return, the company makes a legal commitment to pay interest on the principal and, in most cases, to return the principal when the bond comes due, or matures.