Amortising bonds
Also written Amortising bond · Amortizing bond · Amortizing bonds
Bonds in which the borrower repays principal over the life of the bond along with interest, rather than all at maturity — so the stated maturity is only the date of the last instalment.
In plain language
Most bonds work like a lump-sum loan: interest every period, and all the principal at the end. An amortising bond spreads the principal out.
The workbook's definition: a bond in which payments made by the borrower include both interest and principal. The principal is repaid over the life of the bond, in more than one instalment, rather than at maturity.
The everyday examples are the loans people actually take — auto loans, consumer loans and home loans. Each EMI carries a little principal and some interest, and the loan shrinks as it goes.
How it works
Two consequences follow.
Interest falls over time. Interest is charged on the principal still outstanding. As instalments repay principal, the base shrinks, so each period's interest is smaller than the last.
"Maturity" means something narrower. The workbook states that the maturity of an amortising bond refers only to the last payment in the amortising schedule, because the principal is repaid over time — redemption in more than one instalment. Two bonds with the same maturity date can therefore return money on very different schedules.
Contrast the fixed rate or plain vanilla bond in the same chapter: a fixed term to maturity, coupons at pre-defined periods, and the principal repaid on maturity, usually at par.
Amortising cash flows are also what make asset-backed securities possible. Housing loans of an originator can be pooled and bonds created that represent a claim on the borrowers' repayments — mortgage-backed securities, known in India as structured obligations (SO). The workbook notes that assets with regular streams of cash flows are ideally suited to this.
A worked example
Illustrative numbers.
Two 3-year bonds, each for Rs 12,00,000 at 10 percent annual interest.
Amortising bond — Rs 4,00,000 of principal repaid each year:
| Year | Principal outstanding at start | Interest at 10% | Principal repaid | Total payment |
|---|---|---|---|---|
| 1 | Rs 12,00,000 | Rs 1,20,000 | Rs 4,00,000 | Rs 5,20,000 |
| 2 | Rs 8,00,000 | Rs 80,000 | Rs 4,00,000 | Rs 4,80,000 |
| 3 | Rs 4,00,000 | Rs 40,000 | Rs 4,00,000 | Rs 4,40,000 |
| Total | Rs 2,40,000 | Rs 12,00,000 | Rs 14,40,000 |
Plain vanilla bond — principal at maturity:
| Year | Interest | Principal | Total |
|---|---|---|---|
| 1 | Rs 1,20,000 | — | Rs 1,20,000 |
| 2 | Rs 1,20,000 | — | Rs 1,20,000 |
| 3 | Rs 1,20,000 | Rs 12,00,000 | Rs 13,20,000 |
| Total | Rs 3,60,000 | Rs 12,00,000 | Rs 15,60,000 |
Both "mature" in year 3. But the amortising bondholder has Rs 8,00,000 of principal back before the final year, and earns Rs 1,20,000 less interest because less money is lent for less time. For the amortising bond, year 3 is simply the date of the last instalment.
Why NISM asks about it
Chapter 3 (Characteristics of Debt Securities) defines amortising bonds in section 3.4 among the types of debt securities, next to fixed rate, floating rate, zero coupon and asset-backed securities. The examinable points are the definition — payments include both interest and principal — the loan examples, and the precise meaning of maturity for such a bond. Expect them as options in a "which type of bond" question.
Common exam traps
- Maturity of an amortising bond is only the last payment, not the date when all principal is returned in one go.
- Auto, consumer and home loans are the workbook's examples of amortising structures.
- Interest falls each period because it is charged on a shrinking principal.
- Do not confuse amortising with zero coupon. A zero coupon bond pays nothing until maturity; an amortising bond pays principal and interest throughout.
- Do not confuse amortising with step-up. A step-up bond changes the coupon rate over time; an amortising bond changes the principal outstanding.
- Plain vanilla repays principal at maturity, usually at par.
Where this is taught
Free preparation for NISM Series II-BRelated terms
- Zero coupon bondA bond that pays no coupons: it is issued below face value and repays the face value at maturity, so its duration equals its maturity.
- Coupon rateThe rate of interest a bond pays, applied to its face value and never to its market price — which is why the coupon tells you the cash flow but not the return.
- Floating rate bondA bond whose coupon is not fixed but reset at intervals against a benchmark rate plus a stated mark-up — so the interest paid moves with market rates over the life of the bond.
- Fixed income securityA debt instrument under which the issuer promises a fixed coupon at regular intervals and repayment of the face value at maturity — government bonds, corporate bonds, debentures and T-bills.
- Securitised Debt InstrumentA tradable security created by pooling loans or other receivables in a special purpose vehicle and repackaging the cash flows into instruments that pay a pre-determined periodic income.
- Fixed rate or plain vanilla bondA bond with a fixed coupon paid at set intervals and the principal returned only at maturity — the plain, unmodified structure every other bond type in the workbook is defined against.