NISM RA Chapter 3 — Equity & Debt Market Terminology (with all the formulas)
This is my note on Chapter 3 of the NISM-Series-XV Research Analyst workbook — “Terminology in Equity and Debt Markets.” Chapter 2 was mostly definitions to memorise. Chapter 3 is where the workbook starts throwing formulas at you, so this note has actual calculations in it. If you understand the terms here, a lot of the heavier valuation chapters later become much easier.
Let me start with the big-picture distinction the chapter opens with, because everything else hangs off it.
Equity vs debt — the core difference
A business that needs capital chooses between two types of securities: equity and debt. The differences run deep:
- Equity capital stays with the company as long as it’s needed; debt has to be returned after a fixed term.
- Equity investors get no fixed return; debt investors earn a fixed rate of interest and get their principal back at maturity.
- Equity investors are owners; debt investors are lenders.
- Equity investors have a say in management; debt investors don’t.
- Residual profits belong to equity investors; debt investors only get their fixed interest and principal.
Because of this, equity is a risky, long-term, growth-oriented, volatile investment with no assured return, while debt is a lower-risk, steady, income-oriented investment — provided the business stays profitable and doesn’t default.
The workbook’s example makes it click: if a business borrows at 12% and earns 14% on what it built with that money, the lender still only gets 12% — the extra 2% goes to the equity holder. But it cuts both ways: if the business earns less than 12%, equity holders have to give up part of their return to pay the lenders first. And if the business fails, equity holders may get nothing back. That’s the trade-off — debt is lower risk for a lower, stable return; equity carries more risk for a potentially higher one.
Equity market terminology
Here are the equity terms, in the order the workbook builds them.
Face Value (FV) — the nominal price of a share. Share capital = number of shares × face value. So 1 lakh shares at ₹10 face value = ₹10 lakh share capital. Face value only changes on a split (it falls) or consolidation (it rises) — a ₹10 share split into five becomes five ₹2 shares. Face value matters for dividends: a “30% dividend” means 30% of face value, so ₹3 on a ₹10 share but only ₹0.60 on a ₹2 share.
Book Value — the company’s net worth. Book value per share = net worth ÷ number of shares. In plain terms, it’s the theoretical amount each share would get if the company wound up and every asset converted to cash at its balance-sheet value.
Market Value — the current market price of a share. The market value of the whole company is its market capitalisation (price × shares).
Replacement Value — what it would cost today to set up an identical company from scratch, with all the same plants and infrastructure.
Intrinsic Value — the present value of the expected future free cash flows from an asset. Warren Buffett’s definition: “the discounted value of the cash that can be taken out of a business during its remaining life.” The discount rate is the investor’s required rate of return, adjusted for the business’s risk. Equity investing is essentially estimating intrinsic value and paying a price today to own that future value.
The market-value-vs-intrinsic-value idea is central: if intrinsic value is above market price, the share is undervalued; if below, it’s overvalued. The goal is to buy undervalued and sell overvalued — but that’s genuinely hard, because you’re pricing an unknown future. The workbook makes an honest point here: equity investing is an art as much as a science, because qualitative factors (management quality, strategy, financing ability) and messy human behaviour all shape prices.
Market Capitalisation — market price per share × number of outstanding shares. A company with 1 lakh shares trading at ₹20 has a ₹20 lakh market cap. Stocks get categorised by it: large cap (biggest companies, most liquid, most blue-chips), mid cap (medium size, decent liquidity), and small cap (smaller, less liquid). There’s no fixed cut-off, but a common convention is top 50–100 by market cap = large, next 200–500 = mid, rest = small. The market-cap-to-GDP ratio is used to gauge the size of a country’s stock market.
Enterprise Value (EV) — the overall value of the business, focusing only on capital that’s gainfully employed. The standalone formula:
EV = (Market value of common equity + market value of preferred capital + market value of debt) − (cash, cash equivalents and non-operating financial investments)
The workbook’s example: a company with 10,00,000 shares trading at ₹340 has a market cap of ₹34 crore. Add preferred capital ₹8.5 cr and debt ₹6.4 cr, subtract cash ₹2.5 cr and investments ₹1.4 cr: EV = 34.0 + 8.5 + 6.4 − 2.5 − 1.4 = ₹45.0 crore.
Earnings — historical, trailing, forward. Earnings are profits, defined at various levels: net profit (goes to equity owners), EBIT (before interest and taxes), EBITDA (before interest, tax, depreciation and amortisation). Past years’ earnings are historical. Trailing earnings are the most recent period on a rolling basis — TTM (trailing twelve months) or trailing 4 quarters. Forward earnings are based on future projections.
Earnings Per Share (EPS) = net profit ÷ number of outstanding shares (more precisely, the time-weighted average number of shares). ₹10 lakh net profit ÷ 2 lakh shares = ₹5 EPS. Higher EPS means higher profitability, and EPS is a major driver of a share’s price.
Dividend Per Share (DPS) — the dividend expressed per share. A 40% dividend on a ₹10 face value share = ₹4 DPS. And DPS ÷ EPS = the Dividend Payout Ratio.
Price-to-Earnings (P/E) Ratio = market price per share ÷ EPS. It’s the price the market pays for every ₹1 of earnings — a “12x” stock trades at twelve times its earnings. Historical P/E has limited value because prices move in anticipation of future earnings, so analysts focus on the prospective/forward P/E. If a stock trades at 20× its 2014 earnings but 15× its 2015 earnings, the market expects EPS to grow (same price, bigger future denominator). A high market P/E can signal prices running ahead of earnings; value investors like to buy when P/E is low. And a bigger, more stable company usually commands a higher P/E than a smaller, riskier one — but not always, since high growth expectations can push a small company’s P/E above a large one’s.
Price-to-Sales (P/S) Ratio = current market price ÷ annual net sales per share (or market cap ÷ annual net sales). Example: ₹1 crore sales ÷ 10 lakh shares = ₹10 sales per share; at a ₹40 price, P/S = 4. A lower P/S than peers can suggest undervaluation. Its special use: it works for companies going through temporary losses, where earnings-based multiples like P/E become meaningless.
Price-to-Book Value (P/BV) Ratio = current market price ÷ book value per share. Example: equity capital ₹10 lakh + reserves ₹50 lakh = ₹60 lakh net worth; ÷ 6 lakh shares = ₹10 book value; at ₹20 price, P/BV = 2x. A P/BV below 1 suggests the stock trades below book value and may be undervalued — but the workbook cautions you to ask why: it could be because of bad past investments that need writing down, so not every sub-1 P/BV is a bargain. P/BV is especially useful for banks and financial institutions (whose assets are mostly at market value) and for valuing companies with negative earnings; it’s less relevant for asset-light sectors like services.
Differential Voting Rights (DVR) — a share that carries less than one vote per share. It lets issuers raise capital without diluting voting control, and suits investors who only care about dividends and capital appreciation. DVRs usually trade at a discount to ordinary shares. Under the Companies Act 2013, a company issuing them needs a dividend of at least 10% over the preceding 3 years, and DVRs can’t exceed 25% of post-issue paid-up capital. Tata Motors and Pantaloons have issued them.
Debt market terminology
Debt is capital from lenders who want regular fixed interest plus their money back after an agreed time. A company wanting ₹100 crore can take a bank loan or issue bonds/debentures to a wider pool of investors. A debt security is a contract with defined features: principal, coupon, maturity, coupon frequency, and any collateral. Secured debt gives investors rights over the issuer’s assets on default; unsecured debt doesn’t. Publicly issued debt must be listed; unlisted debt is held to maturity or traded OTC.
The key debt terms:
Face Value — how much loan the paper represents (its par/nominal value). Coupons are paid as a percentage of this. It’s the principal, repaid on redemption regardless of what price the bond trades at in between.
Coupon Rate — the regular fixed payment, as a percentage of face value. The workbook is careful here: don’t call it the “interest rate,” because interest rate refers to the broad market rate set by the central bank. Example: an 8.24% GS2018 bond (a government security maturing in 2018) with ₹1000 face value pays ₹82.40 a year. G-Secs pay semi-annually, so ₹41.20 every six months, with the last coupon plus principal at maturity.
Maturity (also “tenor” or “term to maturity”) — the tenure of the loan. It’s the single biggest factor in bond price changes and market risk. Bonds range from T-Bills (91, 182, 364 days) to G-Secs up to 30 years or more, and some are perpetual. Term to maturity shrinks each day to zero, when the bond is redeemed.
Market Price — a traded bond’s price, which differs from face value. The market prices it using ongoing interest rates, inflation, and default risk. The crucial relationship: bond prices and interest rates move inversely. When market interest rates rise, bond prices fall; when rates fall, prices rise. (Because a bond’s value is the discounted value of its future cash flows — higher discount rate, lower present value.)
Redemption — at maturity, the issuer repays the principal and makes the final coupon payment; the bond then ceases to exist.
Holding Period Return (HPR) — the return earned over the specific period the bond was held. It adds up three things: coupons received, reinvestment income on those coupons, and any gain/loss on sale — all as a percentage of the purchase price. Example: buy at ₹104, earn ₹8 coupon reinvested at 7%, sell at ₹110 after a year: HPR = [8 + (8 × 7%) + (110 − 104)] ÷ 104 = 14.00%. Important caveat: HPR is a crude return that ignores compounding, so don’t compare it to annualised returns. The compounding-aware version is called “Realised Yield.”
Current Yield = coupon ÷ current market price. The 8.24 GS2018 at ₹104 gives 8.24 ÷ 104 = 7.92%. Its big drawback: it ignores all future cash flows, so it isn’t widely used. It’s the bond equivalent of a stock’s dividend yield.
Yield to Maturity (YTM) — the more complete, widely used measure. It’s the single rate that makes the present value of all the bond’s future cash flows (coupons, reinvestment income, and redemption value) equal to its current market price. Essentially the bond’s internal rate of return (IRR), calculated by trial-and-error or Excel’s XIRR. Key point: YTM is the yield you actually get only if you hold to maturity. Its shortcomings: it assumes you hold to maturity, and that all coupons get reinvested at the same YTM throughout — which implies a flat, static yield curve. It’s not fully realistic, but it’s simple and quick, so it’s the standard.
Realised Yield (RY) — used when you sell before maturity at a gain or loss. It’s the annualised rate reflecting the accumulated coupons (reinvested at an assumed rate) plus the sale proceeds, over the purchase price. It’s the compounding-aware, more accurate version of HPR.
Duration — the weighted average time by which an investor recovers the money invested in a bond, using the present values of the cash flows as weights. This basic version is Macaulay’s Duration, and it’s usually less than the term to maturity. Modify it and you get Modified Duration, which measures how sensitive a bond’s price is to interest rate changes. The relationships to memorise:
- Longer time to maturity → higher duration → higher interest rate risk.
- Lower coupon rate → higher duration → higher interest rate risk.
- Lower yield → higher duration → higher interest rate risk.
So Modified Duration is the key interest-rate-risk measure: higher modified duration = more price sensitivity to rates. And as a bond nears maturity, its duration falls, making it less risky.
Types of bonds
A bond is defined by principal, maturity, and coupon — vary these and you get different types:
Zero-Coupon Bonds (“Zeroes”) — pay no coupon; issued at a discount, redeemed at par, so the return is the gap between issue price and face value. They carry more interest rate risk than a coupon bond of the same maturity (higher duration). T-Bills, Commercial Papers, and Certificates of Deposit are short-term zeroes (under 1 year — “money market instruments”). Very long-tenure zeroes issued at steep discounts are “Deep Discount Bonds” (e.g. Kisan Vikas Patra).
Floating-Rate Bonds — coupon isn’t fixed; it resets periodically against a benchmark (inflation index, inter-bank rate, etc.), so it tracks current market rates. This gives them lower interest rate/price risk, useful in a rising-rate environment. Some have a maximum (“cap”) and minimum (“floor”) coupon. Floating-rate home loans are an everyday example. Bonds whose coupons move inversely to the benchmark are “inverse floaters.”
Convertible Bonds — debt that can convert into the issuer’s equity, with features of both. The issuer specifies the conversion date, ratio, price (usually at a discount to market), and proportion up front. They can be compulsorily or optionally convertible, and fully or partly convertible. Conversion removes debt and adds equity capital, which dilutes EPS. The issuer benefits from a lower coupon and not repaying (shares issued instead); the downside is dilution of existing shareholders.
Principal-Protected Note (PPN) — aims to protect your principal if held to maturity. A portion is invested in debt that grows back to the principal by maturity; the rest goes into equity/derivatives/commodities for upside. It’s a synthetic, financially engineered product. Crucial warning: principal protection does NOT mean no credit risk — you’re still exposed to the issuer defaulting.
Inflation-Protected Securities — because fixed-income products can deliver negative real returns during high inflation. Inflation Indexed Bonds (IIBs), issued by the RBI, adjust both principal and interest for inflation, using a fixed real coupon applied to an inflation-adjusted principal; at maturity you get the higher of face value or inflation-adjusted principal. These use the Wholesale Price Index (WPI). A separate retail product, the Inflation-Indexed National Saving Securities-Cumulative 2013, used the Consumer Price Index (CPI), carried a fixed 1.5% floor rate (paid even in deflation), and compounded semi-annually.
Foreign Currency Bonds — issued in a currency different from the issuer’s home currency (emerging-market firms like USD for lower rates), but this creates currency risk for the issuer if the foreign currency appreciates.
External / Euro Bonds — issued in a currency different from the country of issue (a USD bond issued in Kuwait). Masala bonds (INR-denominated, issued abroad) are the version that shifts currency risk to the investor.
Perpetual Bonds — no stated maturity, so no obligation to redeem; investors just get periodic coupons. If callable, the issuer can buy them back at its discretion. Indian banks issue these as Additional Tier 1 (AT1) capital under Basel III. AT1 perpetual bonds are riskier than normal bonds because: they have no fixed maturity; they’re subordinate to deposits, other banks’ loans, and all other bonds; the coupon can only be paid from distributable profits; the coupon is non-cumulative; and the issuer can convert them into equity on a pre-specified contingent event.
Commodity market terminology
The chapter closes with commodity terms:
Spot Price — the current price for immediate delivery, set by supply and demand. Exchanges disseminate it daily and use it to determine the Final Settlement Price (FSP), which matters for cash settlement or delivery default.
Basis = Spot Price − Futures Price. It measures how closely spot and futures prices relate.
Contango — when the futures price is higher than the spot price (participants may expect spot to rise).
Backwardation — when the futures price is lower than the spot price (participants may expect spot to fall).
Cost of Carry — the cost of holding a commodity from spot purchase until futures delivery: storage, insurance, transport, financing. Example: if 10g of gold costs ₹1,02,000 spot and cost of carry is 8% a year, a 3-month futures fair value = 1,02,000 + (1,02,000 × 8% × 3/12) = 1,02,000 + 2,040 = ₹1,04,040.
Delivery — unlike demat financial instruments, commodity futures are deliverable: on expiry, the commodity actually changes hands between buyer and seller.
How this chapter is tested
This is where Chapter 3 differs sharply from Chapter 2. Chapter 2 was pure definitions; Chapter 3 is a mix of definitions AND calculations.
The chapter itself is low weightage (about 2 marks), but its real importance is as a foundation — the terms and formulas here (EV, EPS, P/E, P/BV, YTM, duration) come back heavily in the big calculation chapters later (Financial Analysis and Valuation, 12 marks each). So the marks “hidden” in this chapter are much larger than 2 if you count what it sets up.
Expect both kinds of question. Definition/concept MCQs: the inverse relationship between bond prices and interest rates (a classic — the workbook’s own sample question asks exactly this), why P/BV can be below 1, what “principal protection” does and doesn’t mean, contango vs backwardation. And numerical MCQs: computing EV, EPS, P/E, P/BV, current yield, or a cost-of-carry fair value. The workbook’s second sample question is a standalone EV calculation.
The trap here is the inverse relationships and look-alikes: bond price vs interest rate (inverse), the three drivers of duration (longer maturity / lower coupon / lower yield all raise duration and risk), contango vs backwardation, current yield vs YTM vs realised yield, foreign currency bond (issuer bears currency risk) vs masala bond (investor bears it).
My approach: for this chapter, don’t just read — practise the formulas until you can do EV, EPS, P/E, P/BV and current yield without looking. Make a formula sheet. These exact calculations reappear in the heavy chapters, so the effort compounds. And memorise the three duration relationships and the bond-price/interest-rate inverse rule cold — they’re near-guaranteed marks.
Next up: Chapter 4 — Fundamentals of Research, where the workbook introduces the different approaches to investing (technical, fundamental, quantitative, behavioural). See you in the next note.
Note: These are my personal study notes as I prepare for the NISM-Series-XV Research Analyst exam. They are for learning purposes only and are not investment advice.