Debt Capital Market Definition

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A debt capital market is a system for buying and selling debt instruments. These debt instruments are generally in the form of long-term bonds issued by the federal government, by state or municipal governments or by corporations. Debt capital markets can be either primary or secondary markets.

Debt Financing

  • Debt financing is one of two primary means of financing for corporations, the other being equity financing. For governments, debt financing through Treasury or municipal bonds is used to generate additional revenue to complement tax revenue.

Government Debt

  • Governments -- like many large companies -- sell bonds to investors in order to finance their operations. In general, government bonds are seen as safer than corporate bonds, but there are significant variations in the level of risk involved within both categories. For example, U.S. Treasury bonds long have been seen as the closest real-world example of a risk-free bond, while bonds issued by Greece have been seen in an increasingly negative light following that country's debt crisis.

Corporate Debt

  • Corporate debt is issued by corporations seeking to supplement the equity financing provided by shareholders. Because the return on invested capital can vary substantially within a corporation, while interest payments on debt are typically fixed a corporation using debt financing has the potential to greatly magnify financial gain or loss with respect to interest payments. This concept is known as financial leverage. The risk of excess financial leverage is that a company will default on its loans, leaving holders of its debt at a loss. Because corporations are generally seen as more likely than governments to default on loans, corporate debt is typically riskier than government debt and therefore carries a greater rate of return.

Primary vs. Secondary Markets

  • Debt capital markets can be divided into primary and secondary markets. Primary markets are those in which debt instruments are sold directly by the issuer, either a government or a corporation. Prices for these instruments are set by those institutions. In secondary markets, which are much more active that primary markets, the buyers and sellers are not associated with the institution issuing the debt. The prices in these secondary markets are driven by market forces, and bonds may sell for more or less than their original value at the time of their issue.

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