Perpetual bond

Indian Economy glossary

Also called: Perpetual debt · Topic: Financial Markets, Instruments, Insurance and Pensions · NCERT: Beyond NCERT

Meaning

A perpetual bond (also called perpetual debt) is a bond with no maturity date. The issuer pays a fixed interest, the coupon, forever and never has to repay the principal. The issuer may still buy it back early if it has a call option.

It matters because it shows the basic link between bond prices and interest rates. In India, the best-known type is the AT1 bond that banks issue, which played a part in the Yes Bank crisis of 2020.

Formula: Price of a perpetual bond = Annual coupon ÷ Market interest rate

Explanation

How it works

Bond = a loan from an investor to a borrower, written down as a paper that can be traded.
A normal bond pays a coupon and returns the principal (face value) on the maturity date.
A perpetual bond pays the coupon but has no maturity date. The principal is never due.
Call option = the issuer's right to buy the bond back from the holder.
The investor cannot demand the money back. Only the issuer can choose to end the bond.
An investor who wants cash must sell the bond to another investor in the market.
For the issuer, perpetual debt behaves almost like permanent money. This is why banks can count some perpetual bonds as capital.

Pricing: why price and interest rate move in opposite directions

No principal is ever repaid, so the bond's value is only the value of its endless coupons.
Worked example (NCERT, class 12, Money and Banking):
A bond pays ₹100 a year forever.
If the market interest rate is 5%, the price is ₹100 ÷ 0.05 = ₹2,000.
If the market rate rises to 10%, the price falls to ₹100 ÷ 0.10 = ₹1,000.
The chain of cause and effect:
The market interest rate goes up.
New bonds now pay more, so the old ₹100 coupon looks less attractive.
Buyers will pay less for the old bond, so its price falls.
Yield = the return an investor actually earns on the price they paid.
At ₹2,000, the ₹100 coupon gives a 5% yield. At ₹1,000, it gives a 10% yield.
So when the price falls, the yield rises.

Types and risk features

Plain perpetual bond: no maturity, a fixed coupon, and usually a call option for the issuer.
AT1 (Additional Tier 1) bond: a perpetual, unsecured bond that banks issue to raise capital.
Unsecured means no asset is pledged behind it.
Coupons are discretionary. The bank can skip interest payments.
Loss absorption: if the bank's capital falls below a set trigger, the bond can be written down (cut to zero) or converted into equity (shares).
Because of this extra risk, AT1 bonds pay higher coupons.
What makes the price rise or fall:
A rise in market interest rates pushes the price down, and a fall pushes it up.
More doubt about the issuer (for example, a bank's capital getting weaker) also pushes the price down.

In India

Banks are the main issuers, in the form of AT1 bonds. These count as bank capital under Basel III (global rules on how much capital banks must hold).
Yes Bank (2020): ₹8,415 crore of AT1 bonds were fully written off when the bank was rescued.
Many holders treated these bonds as safe, fixed-income products. The write-off showed that they carry a risk close to that of equity.
SEBI rule (2021): mutual funds must value AT1 bonds as if they mature in 100 years.
A longer assumed maturity gives a lower value, which shows the real risk.
This stops funds from making these bonds look safer than they are.
Global example, Credit Suisse (2023): AT1 holders were wiped out, but shareholders still got something.
This reversed the usual order, in which shareholders take losses first.
In the syllabus: NCERT class 12 (Money and Banking) uses the perpetual bond to teach the inverse link between bond prices and interest rates.

Don't confuse with

Ordinary bond / corporate bond: has a fixed maturity date, when the principal is repaid. A perpetual bond has none. Only the issuer can end it, through a call option.
AT1 bond vs plain perpetual bond: every AT1 bond is perpetual, but not every perpetual bond is AT1. AT1 bonds are issued by banks, have discretionary coupons and can be written down or converted into equity.
Convertible bond: here the holder has the option to swap the bond for shares. In a perpetual bond, the issuer holds the call option. In an AT1 bond, conversion into equity is forced by a trigger, not chosen by the holder.
NCD (non-convertible debenture): a company loan paper that can never become shares and has a maturity date. A perpetual bond has no maturity.

Prelims Hooks

A perpetual bond has no maturity date. It pays a coupon forever. The issuer (not the holder) may redeem it through a call option.
Formula: Price = Annual coupon ÷ Market interest rate. For a ₹100 coupon, the price is ₹2,000 at 5% and ₹1,000 at 10%.
Bond prices and interest rates move in opposite directions. When the price falls, the yield rises.
AT1 bonds are perpetual, unsecured bonds issued by banks. They have discretionary coupons and can be written down or converted into equity.
Yes Bank (2020): ₹8,415 crore of AT1 bonds were written off. SEBI (2021): mutual funds must value AT1 bonds as if they mature in 100 years.
Trap: "Perpetual bond holders can demand repayment after a fixed period" is wrong. They can only sell the bond in the market.

Mains Points

Bank capital vs investor protection: AT1 perpetual bonds help banks meet Basel III capital needs without diluting shareholders. But the Yes Bank write-off of ₹8,415 crore (2020) showed that retail investors had been sold them as safe products. This raises questions of mis-selling, clear risk disclosure and SEBI's valuation rules (the 100-year rule, 2021).
Order of losses and market trust: Credit Suisse (2023) wiped out AT1 holders while shareholders still got something, which reversed the normal order of losses. When that order is unclear, investors ask for higher coupons on bank capital bonds. This raises the cost of capital for banks.
Interest-rate risk and financial stability: with no maturity, the price of a perpetual bond depends fully on market interest rates. When rates rise, holders such as mutual funds and insurers can suffer large losses on paper. Regulators have to keep this in mind when they set valuation and investment rules for these bonds.

Related concepts

Corporate, offshore and thematic bonds