asha final

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CHAPTER-1

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INTRODUCTION

A derivativeis a security whose value depends on the value of to

gather more basic underlying variable. These are also known as contingent claims.

Derivative securities have been very successful innovation in capital market.

The emergence of the market for derivative products,

most notably forwards, futures and options, can be traced back to the willingness of

risk adverse economic agents to guard themselves against uncertainties arising out of

fluctuations in asset prices. By their very nature, financial markets are marked by a

very high degree of volatility. Through the use of derivative products, is possible to

partially or fully transfer price risks by a locking - in asset prices. As instruments of

risk management, these generally do not influence the fluctuation in the underlying

asset prices.

However, by locking-in asset prices, derivative products minimize the

impact of fluctuations in asset prices on the profitability and cash flow situation of

risk-averse investor.

Derivatives are risk management instruments, which drive their

value form underlying asset. Underlying asset can be bullion, index, share, bonds,

currency, interest etc.

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OBJECTIVES OF STUDY:

To study various trends in derivative market.

Comparison of the profits/losses in cash market and derivative market.

To find out profit/losses position of the option writer and option holder.

To study in detail the role of the future and options.

To study the role of derivatives in Indian financial market

To understand the concept and importance of the Financial Derivatives

such as Futures and Options.

.To study the evaluation of the market for derivative products in India.

To examine the advantages and disadvantages of different strategies along

with situations.

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SCOPE OF THE STUDY

The study is limited to Derivatives With special reference to Futures and

Options in the Indian context and the net worth stock broking has been taken as

representative sample for the study.

The study cannot be said as totally perfect, any alteration may come. The

study has only made humble attempt at evaluating Derivatives Markets only in Indian

Context. The study is not based on the International Perspective of the Derivatives

Markets.

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RESEARCH METHODOLOGY

DATA COLLECTION:

Primary data for a project is the first hand information regarding the project

being studied. In this regard the primary data for this project would be getting the

necessary information from the company management by an interview, telephonic

conversation or direct mail.

Secondary data for a project would be the collection of information that has a

bearing on the outcome of the project from secondary sources like news, press

releases, internet etc. The data collected for this project was from a secondary

source. The data was complied with the help of sources like News articles,

Internet, Capitoline software. In this research, primary data could not be gatheredas the company officials could not be contacted for a one to one interview or a

telephonic interview

LIMITATIONS:

The study was conducted in Hyderabad only.

As the time was limited, study was confined to conceptual understanding of

Derivatives market in India.

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CHAPTER-2

COMPANY PROFILE

&

INDUSTRY PROFILE

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COMPANY PROFILE

Reliance Capital Limited (RCL) was incorporated in year 1986 at Ahmadabad in

Gujarat as Reliance Capital & Finance Trust Limited. The name RCL came into effect

from January 5, 1995. In 2002, RCL shifted its registered office to Jamnagar in Gujarat

before it finally moved to Mumbai in Maharashtra, in 2006.In 2006, Reliance Capital

Ventures Limited merged with RCL and with this merger the shareholder base of RCL

rose from 0.15 million shareholders to 1.3 million.

RCL entered the Capital Market with a maiden public issue in 1990 and in subsequent

years further tapped the capital market through rights issue and public issues. The

equity shares were initially listed on the Ahmedabad Stock Exchange and The Stock

Exchange Mumbai. Presently the shares are listed on The Stock Exchange Mumbai andthe National Stock Exchange of India.RCL in the initial years engaged itself in steady

annuity yielding businesses such as leasing, bill discounting, and inter-corporate

deposits. Later, in 1993 diversified its business in the areas of portfolio investment,

lending against securities, custodial services, money market operations, project finance

advisory services, and investment banking.RCL was accredited a Category 1 Merchant

banker by the Securities Exchange Board of India (SEBI). It had lead managed/co-

managed 15 issues of an aggregate value of Rs. 400 crore and had underwritten 33

issues for an aggregate value of Rs. 550 crore. All these companies were listed on

various exchanges.RCL obtained its registration as a Non-banking Finance Company

(NBFC) in December 1998. In view of the regulatory requirements RCL surrendered its

Merchant Banking License.

RCL has since diversified its activities in the areas of asset management and mutual

fund; life and general insurance; consumer finance and industrial finance; stock

broking; depository services; private equity and proprietary investments; exchanges,

asset reconstruction; distribution of financial products and other activities in financialservices.

Reliance Industries Ltd (RIL) has regained its position as the countrys largest company

by market capitalisation, as its shares jumped six per cent on Monday. While the

consensus view on the stock is not bullish, some domestic brokerages have a contrarian

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view on the company. This divergence is also seen among the big investors. While

domestic institutions are bullish on

the stock and their holding in the company has risen, data suggest foreign institutional

investors have pared their holding in the company at the end of the June quarter.

Over the last one year, RILs shares have languished, as gas production has fallen and

profitability of the other businesses has come under pressure. The company has been

struggling to get further approvals for its upstream business from the government. As

news trickled in on Monday that RIL had agreed to share KG-D6 accounts with the

CAG, under the terms of the production sharing contracts, the stock price moved up.

Edelweiss Securities, which has an anti-consensus buy on the stock, in a note onMonday said: Progress on RILs upstream investment has been held up for a long

while due to lack of approvals, and we see the easing of tensions between RIL and the

government to lead to greater visibility on timelines of field development and

subsequent production. Analysts who met the management on Monday said the

company has said it plans to file a field development plan for KG-D6 in the third

quarter and the fourth quarter, and a consolidated field development plan (including

satellite fields).

The market has been particularly negative on the stock, as exploration & production is

the most profitable business segment and it has seen output dwindle. Any ramp up in

production from the D6 block, including the current D1, D3, D26 and the R-series, can

happen only three-four years after getting all approvals from the government. So, a

section of the market is still not so optimistic on this segment.

However, Edelweiss Securities believes despite all the noise around E&P, non-

regulated businesses will contribute 90 per cent of the FY12-17 incremental Ebitda,

driven by refining, chemicals and investments in shale gas. Margins in the refining

business are expected to increase, driven by product optimisation and increased ability

to process heavier crude, claim analysts. Refining capacity closures across the world

would offset fresh capacity additions. The contrarian view on the stock is also driven by

the outlook on shale, expected to contribute 39 per cent of the incremental Ebitda on a

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50 per cent compound annual growth rate production over FY12-17. In either case, it

indicates that fortunes of the non-regulated and E&P businesses should not get worse.

PRESENT POSITION OF COMPANY

New Delhi: Anil Ambani groups brokerage arm Reliance Securities is planning to

invest Rs300 crore for upgrading infrastructure, hiring staff and enhancing the

capability of its online trading platform.

The company will make this investment over the next 3-5 years with an aim to upgrade

the IT infrastructure and to add new features to its trading platform, sources said.

The staff strength at Reliance Securities, a subsidiary of Anil Ambani groups financial

services arm Reliance Capital, could grow to 1,400 by the end of next year, from about

800 currently.

When contacted, Reliance Securities executive director Vikrant Gugnani said: We are

making substantial investment in our processes, IT infrastructure, reach and headcount

to offer the next level of world-class interaction and trading experience to our

consumers.

He did not elaborate on the investment size, but confirmed the plans for hiring about

600 employees in the coming months.

The move comes at a time when the stock market is on an uptrend and the benchmarkSensex has regained 20,000-point level after a gap of 32 months. The index is moving

closer to its all-time peak and investor interest is said to be seeing a revival in both

primary and secondary markets.

Sources said that the company was betting big on online trading and was upgrading its

IT systems with deployment of Omnesys software solution. They said the roll-out

would be completed by month end.

The new system will have ability to process 10,000 orders per minute, which is among

the highest in industry.

The company would be investing around Rs300 crore in next 3-5 years in upgrading ITinfrastructure, investing in customer centric projects, increasing headcount andenhancing reach.

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Besides, it is considering building substantially higher bandwidth capacities for new

customers post 3G deployment, which would allow high-speed internet access on

mobile phones.

In addition, the company is considering offering customisation at individual customer

level and would launch new features to allow multiple trading products with

configurable risk rules and also offer ability to charge different margins - by product

and instrument type.

It will offer new product features free of charge to its customers.

Recently, the brokerage firms parent company Reliance Capital CEO Sam Ghosh at

the companys AGM had said that Reliance Securities achieved a pan-India presence

with over 5,000 outlets and the average daily turnover had increased to Rs2,300 crore.

Ghosh said in a presentation to the shareholders that it has been ranked as best equitybroking house by Dun & Bradstreet for two consecutive years and was rated top

broking house in India by Starcom.

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4.4 ACHIVEMENTS& MILESTONESReliance Power has won Euro moneys Deal of the year 2010 for its Sasan UltraMega Power Project. The $3-billion debt raising for Sasan UMPP is India's largestever-project financing sourced solely from domestic lenders against the backdrop of the

global financial crisis. This is the first such project to reach financial closure withoutmultilateral or foreign commercial banking commitments in the quickest possible timeworld-wide.2009World Communication Awards- Best Device AwardWe have won the prestigious Global World Communication Awards, held in London inthe Best Device Category where we participated with a new network device, developedwith CISCO. RCOM was the only Indian company to win an award at WCA 09.Frost and Sullivan AwardWe have been awarded with Frost and Sullivan Market Share Leadership award forData Center and Managed Services category.

2010Maharashtra IT Award-DatacentersRCOM received Maharashtra IT Award (MITA) for 2010 under the category ofDatacenters.Voice & Data Award-BroadbandWe have won the Voice and Data Award for the year 2010 in the Broadband category. During the year, RIL and BP announced a strategic partnership in the oil andgas business. This partnership comprises BP taking 30 per cent stake in 23 oil and gasproduction sharing contracts that Reliance operates in India, including the KG-D6block, and the formation of a joint venture (50:50) for sourcing and marketing gas in

India.

During the year, the Company took a significant step by entering intopartnerships in the United States of America with Atlas Energy, Pioneer NaturalResources and Carrizo Oil & Gas through three distinctive joint venture agreements. During the year, RIL and Russia's SIBUR announced a joint venture for thesetting up of a facility for producing 100,000 tones of butyl rubber in India. Reliance Petroleum Limited (RPL) continued the second year of implementation of its refinery project with an overall project progress of 90%.We are delighted with the seamless integration of the Hawk submarine cable system

with Reliance Global Network offering our customers greater choice, flexibility anddiversity, with improved performance, on this critical route. Our existing customer baseof over 37000 corporate in India and over 1400 corporate in Europe and USA, alongwith over 200 carrier customers will immensely benefit from this lowest latencynetwork between India, Middle East, Europe and USA , said Punit Garg, President &CEO, Reliance Globalcom.

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4.5 PRODUCTS &SERVICESPRODUCTS:Trading: Reliance Securities facilitates trading activities in all the major marketsegments including, cash, derivatives, debt and currency futures.The company offers

online trading facility through its website, www.rsec.co.in.Reliance Securities hasrecently migrated all its customers to its new trading platform, Insta Plus and InstaExpress.Apart from internet trading, customers are also provided with the option oftrading through the Call & Trade facility and through RSec.mobi, a personal mobilephone service. Clients can place and track their orders on BSE and NSE on a real timebasis with access to RSec.mobi. This facility is available to Reliance Securities tradingaccount holders across all mobile platforms independent of device, operator and theunderlying carrier technologyInvestment Banking: Reliance Securities also offers Investment Banking services.Distribution of Financial Products: Reliance Securities is involved in the distribution offinancial products such as mutual funds, insurance and IPOs.

DEMAT Services: The company offers DEMAT services through Reliance Capital andis a registered member with NSDL and CDSL.WMS: The Company makes available Wealth Management Solutions to its customersResearch: Reliance Securities offers research based services to its clients. Its researchwing encompasses 100 companies across 20 sectors. This division offers completeresearch solutions on IPOs, mutual funds, economic research and other special reportsand newsletters.Insurance: Reliance Securities also provides a range of insurance products includinglife insurance and general insurance through Reliance Composite Insurance BrokingNRI Services: NRI clients can place orders using the new their trading platform such asInsta plus and Insta Express. NRIs can execute their securities transactions under the

provisions of the RBI.

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4.6 BOARD OF DIRECTORS"Between my past, the present and the future, there is one common factor: Relationshipand Trust. This is the foundation of our growth."Shri Dhirubhai H. Ambani

Founder Chairman Reliance GroupDecember 28, 1932 - July 6, 2002Board of Directors of Reliance Industries LimitedShri Mukesh D. AmbaniChairman & Managing DirectorShri Nikhil R. Meswani

Executive Director Shri Hital R. MeswaniExecutive Director Shri PMS PrasadExecutive DirectorShri P.K.KapilExecutive Director Shri Ramniklal H. Ambani Shri Mansingh L. Bhakta

Shri Yogendra P. Trivedi Dr. D. V. Kapur Shri M. P. Modi

Prof. Ashok Misra Prof. Dipak C Jain Dr. Raghunath

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COMMODITIES

Commodities are now an asset class! For those who want to diversify their portfolios

beyond shares, bonds and real estate, commodities are an excellent option.

Commodities are one of the easiest investment avenues to understand as they are based

on the fundamentals of demand and supply. Historically, prices in commodities futures

have been less volatile compared with equity and bonds, thus providing an efficient

portfolio diversification option.

VSL helps investors understand the risks and advantages of trading in commodities

futures before take they take the big leap. It provides clients with an effective platform toparticipate and trade in Commodities with both the leading Commodity Exchanges of the

country. VSL commodity services are a class apart and the following features

differentiate our services from others:

Professionally qualified analysts with rich industry experience

Research on Agro Commodities, Precious Metals, Base Metals, Energy products and

Polymers

Market watch for MCX and NCDEX with BSE / NSE

Streaming quotes and live updates

Relationship management desk

Educating clients on commodities futures market

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INDUSTRY PROFILE

Bombay Stock Exchange Limited is the oldest stock exchange in Asia with a rich

heritage. Popularly known as "BSE", it was established as "The Native Share &

Stock Brokers Association" in 1875. It is the first stock exchange in the country to

obtain permanent recognition in 1956 from the Government of India under the

Securities Contracts (Regulation) Act, 1956.The Exchange's pivotal and pre-

eminent role in the development of the Indian capital market is widely recognized

and its index, SENSEX, is tracked worldwide. Earlier an Association of Persons

(AOP), the Exchange is now a demutualised and corporative entity incorporated

under the provisions of the Companies Act, 1956, pursuant to the BSE

(Corporatisation and Demutualization) Scheme, 2005 notified by the Securities

and Exchange Board of India (SEBI).

With demutualization, the trading rights and ownership rights have been de-linked

effectively addressing concerns regarding perceived and real conflicts of interest. TheExchange is professionally managed under the overall direction of the Board of

Directors. The Board comprises eminent professionals, representatives of Trading

Members and the Managing Director of the Exchange. The Board is inclusive and is

designed to benefit from the participation of market intermediaries. In terms of

organization structure, the Board formulates larger policy issues and exercises over-all

control. The committees constituted by the Board are broad-based. The day-to-day

operations of the Exchange are managed by the Managing Director and a management

team of professionals. The Exchange has a nation-wide reach with a presence in 417cities and towns of India. The systems and processes of the Exchange are designed to

safeguard market integrity and enhance transparency in operations. During the year 2004-

2005, the trading volumes on the Exchange showed robust growth. The Exchange

provides an efficient and transparent market for trading in equity, debt instruments and

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derivatives. The BSE's On Line Trading System (BOLT) is a proprietary system of the

Exchange and is BS 7799-2-2002 certified. The Surveillance and clearing & settlement

functions of the Exchange are ISO 9001:2000 certified.

The National Stock Exchange of India Limited has genesis in the report of theHigh Powered Study Group on Establishment of New Stock Exchanges, which

recommended promotion of a National Stock Exchange by financial institutions

(FIs) to provide access to investors from all across the country on an equal footing.

Based on the recommendations, NSE was promoted by leading Financial

Institutions at the behest of the Government of India and was incorporated in

November 1992 as a tax-paying company unlike other stock exchanges in the

country.

On its recognition as a stock exchange under the Securities Contracts (Regulation)

Act, 1956 in April 1993, NSE commenced operations in the Wholesale Debt

Market (WDM) segment in June 1994. The Capital Market (Equities) segment

commenced operations in November 1994 and operations in Derivatives segment

commenced in June 2000.

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Our Mission

NSE's mission is setting the agenda for change in the securities markets in India.

The NSE was set-up with the main objectives of:

Establishing a nation-wide trading facility for equities, debt instruments and

hybrids,

Ensuring equal access to investors all over the country through an appropriate

communication network,

Providing a fair, efficient and transparent securities market to investors using

electronic trading systems,

Enabling shorter settlement cycles and book entry settlements systems, and

Meeting the current international standards of securities markets.

The standards set by NSE in terms of market practices and technologies have become

industry benchmarks and are being emulated by other market participants. NSE is more

than a mere market facilitator. It's that force which is guiding the industry towards new

horizons and greater opportunities.

Equity shares

By investing in shares, investors basically buy the ownership right to the company.When the company makes profits, shareholders receive their share of the profits inthe form of dividends. In addition, when company performs well and the futureexpectation from the company is very high, the price of the companys shares goesup in the market. This allows shareholders to sell shares at a profit, leading tocapital gains.

Investors can invest in shares either through primary market offerings or in thesecondary market.

The primary market has shown abnormal returns to investors who subscribed forthe public issue and were allotted shares.

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Stock Exchange:

In a stock exchange a person who wishes to sell his security is called a seller, and

a person who is willing to buy the particular stock is called as the buyer. The rate

of stock depends on the simple law of demand and supply. If the demand of shares

of company x is greater than its supply then its price of its security increases.

In Online Exchange the trading is done on a computer network. The sellers and

buyers log on to the network and propose their bids. The system is designed in

such ways that at any given instance, the buyers/sellers are bidding at the best

prices.

The transaction cycle for purchasing and selling shares online is depicted below:

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Client

Member/Brokingfirm.

Stock Exchange

(BSE / NSE)

Member/Brokingfirm.

Client

Transaction C cle


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Corporate overview:

Net worth is a listed entity on the BSE since 1994.

The company is professionally managed with experience of over a decade in

broking and advisory services

Net worth is a member of BSE, NSE, MCX, NCDEX, AMFI, CDSL, and

NSDL.

Current network in Southern and Western India with 250 branches and

franchise, Presence in major metros and cities.

Empanelled with prominent domestic Mutual Funds, Insurance Companies,

Banks, Financial Institutions and Foreign Financial Institutions.

Strong experienced professional team.

75000+ strong and growing client bases.

Average daily broking turnover of around INR 1 billion.

AUM with Investment Advisory Services of around INR 3 billion.

Products and services portfolio:

Retail and institutional broking

Research for institutional and retail clients

Distribution of financial products

Corporate finance

Net trading

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Depository services

Commodities Broking

Infrastructure:

A corporate office and 3 divisional offices in CBD of Mumbai which housesstate-of-the-art dealing room, research wing & management and back offices. All of 250 branches and franchisees are fully wired and connected to hub at

corporate office at Mumbai. Add on branches also will be wired and connectedto central hub

Web enabled connectivity and software in place for net trading. 125 operative IDs for dealing room State of the Art accounting and billing system, on line risk management

system in place with 100% redundancy back up. In house technology back up team to ensure un-interrupted connectivity.

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CHAPTER-3

REVIEW OF

LETERATURE

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DERIVATIVES

The emergence of the market for derivatives products, most notably

Forwards, futures and options can be tracked back to the willingness of risk adverseeconomic agents to guard themselves against uncertainties arising out of fluctuations in

asset prices. By their very nature, the financial markets are marked by a very high

degree of volatility. Through the use of derivative products, it is possible to partially

or fully transfer price risks by locking-in asset prices. As instruments of risk

management, these generally do influence the fluctuations in the underlying asset

prices. However, by locking-in asset prices on the profitability and cash flow situation

of risk adverse investors.Derivatives are risk management instruments, which derive their value

From an underlying asset. The underlying asset can be bullion, index, share,

Bonds currency, interest, etc.... Banks, securities firms, companies and investors to

hedge risks to gain access to cheaper money and to make profit, use derivatives.

Derivatives are likely to grow even at a faster rate in future.

Derivatives are financial contracts whose value is dependent on the

Behaviors of the price of one or more basic underlying assets (often simplyKnown as the underlying). These contracts are legally binding agreements,

Made on the trading screen of stock exchanges, to buy/ sell an asset in future.

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DEFINATION

Derivatives are financial products, such as futures contracts, options, and mortgage-

backed securities. Most of derivatives ' value is based on the value of an underlying

security, commodity, or other financial instrument. For example, the changing valueof a crude oil futures contract depends primarily on the upward or downward

movement of oil prices.

Derivatives is a product whose value is derived from the one or more basic

Variables, called base (underlying asset, index, or value of reference rate), in a

Contractual manner. The underlying asset can be equity, fore, commodity or any

other asset.

In the Indian context the securities contrasts (regulation) act, 1956 (SCR Act)

Defines derivative as:

1) A security derived from an instrument, share, loan whether secured or unsecured,

risk instrument or contract for differences or any other form of security.

2) A contract, which derives its value from the prices, or index of prices, of

Underlying securities.

Futures contracts, forward contracts, options and swaps are the most

common types of derivatives. Because derivatives are just contracts, just about

based on weather data, such as the amount of rain or the number of anything can be

used as an underlying asset. There are even derivatives sunny days in a particular

region. Derivatives are generally used to hedge risk, but can also be used

for speculative purposes

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Characteristics of Derivatives:

1. Their value is derived from an underlying instrument such as stock index,

currency, etc.

2. They are vehicles for transferring risk.

3. They are leveraged instruments.

EVALUTION OF DERIVATIVES:

Derivatives can be found throughout the history of mankind. In the Middle

Ages, engaging in contracts at predetermined prices for future delivery of farming

products.The new era for the derivative markets was ushered with the introduction

of financial derivatives, and it continues to last to this day. Although commodity

derivatives are still quite active, particularly oil and precious metals, financialderivatives dominate trading in the current derivative markets

.

Although the derivatives markets slowed down considerably by the end of the

20th century, that did not mean that there were not a steady offering of existing, as

well as new derivative products. Derivatives exchanges also went through a period

of change; some consolidated, some merged, some became for-profit institutions.Regardless, they all had something in commonthe need for less regulation.

Aside from structural changes, some derivative exchanges also changed the way

they conducted trading. Old systems of face-to-face trading on trading floors have

been replaced with electronic trading, and telephone and computer networks. With

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the advent of Internet, electronic trading evolved into e-trading. And although

trading floors still dominate derivative markets in the U.S., it is obvious that to stay

competitive, the U.S. will have to eventually embrace electronic trading

The following factors have contributed to the growth of financial derivatives:

1) Increased volatility in asset prices in financial markets.

2) Increased integration of national financial markets with the international

markets.

3) Marked improvement in communication facilities and sharp decline in their

costs.

4) Development of more sophisticated risk management tools, providing

economic agents a wider choice of risk management strategies.

5) Innovations in the derivatives markets, which optimally combine the risks and

returns over a large number of financial assets leading to higher returns,

reduced risk as well as transactions costs as compared to individual financial

assets.

6) Technology facilitates the ability to track the payoffs and risk exposures

associated with a portfolio of derivative positions.

7) An important factor in the growth of derivatives markets has been a

Variety of intellectual advances. The development of economic

Models for valuing derivative instruments and assessing their

Riskyness and the increasing sophistication of such models have

Played a crucial role in the growth of the market.

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7) Derivatives markets help increase savings and investment in the long run.

Transfer of risk enables market participants to expand their volume of activity.

Derivatives thus promote economic development

PARTICIPANTS:

The following three categories of participants in the derivatives market:

HEDGERS

1) HEDGERS

2) SPECULATORS

3) ARBITRAGEURS

HEDGERS:

Hedgers face risk associated with the price of an asset. They use futures or optionsmarket to reduce or eliminate this risk.

Hedgers are those who protect themselves from the risk associated with the price

of an asset by using derivatives. He keeps a close watch upon the prices discovered in

trading and when the comfortable price is reflected according to his wants, he sells

SWAPS

OPTIONS

FUTURES

FORWARDS

DERIVATIVES

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futures contracts. Hedgers use futures for protection against adverse future price

movements in the underlying cash commodity. Hedgers are often businesses, or

individuals, who at one point or another deal in the underlying cash commodity.

SPECULATORS:

Speculators are some what like a middle man. They are never interested in actual

owing the commodity. They will just buy from one end and sell it to the other in

anticipation of future price movements. They actually bet on the future movement in

the price of an asset. They are the second major group of futures players. These

participants include independent floor traders and investors. They handle trades for

their personal clients or brokerage firms. Buying a futures contract in anticipation of

price increases is known as going long. Selling a futures contract in anticipation of a

price decrease is known as going short.

ARBITRAGEIRS:

Arbitrators are the person who takes the advantage of a

discrepancy between prices in two different markets. If he finds future prices of a

commodity edging out with the cash price, he will take offsetting positions in both the

markets to lock in a profit. Risk less Profit Making is the prime goal of Arbitrageurs.

Buying in one market and selling in another, buying two products in the same market

are common. They could be making money even without putting there own money in

and such opportunities often come up in the market but last for very short timeframes.

This is because as soon as the situation arises arbitrageurs take advantage and

demand-supply forces drive the markets back to normal.

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Options generally have lives of up to one year, the majority of options

traded on options exchanges having a maximum maturity of nine months. Longer-

dated options are called warrants and are generally traded over-the-counter.

Swaps:

Swaps are private agreements between two parties to exchange cash flows in

the future according to a prearranged formula. They can be regarded as portfolios of

forward contracts. The two commonly used swaps are:

Interest rate swaps:

These entail swapping only the interest related cash flows

between the parties in the same currency.

Currency swaps:

These entail swapping both principal and interest between the

parties, with the cash flows in one direction being in a different currency than those in

the opposite direction.

LEAPS:

The acronym LEAPS means Long-Term Equity Anticipation Securities.

These are options having a maturity of up to three years.

Swaptions:

Swaptions are options to buy or sell a swap that will become operative

at the expiry of the options. Thus a swaption is an option on a forward swap. Rather

than have calls and puts, the swaptions market has receiver swaptions and payer

swaptions. A receiver swaption is an option to receive fixed and pay floating. A payer

swaption is an option to pay fixed and receive floating.

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the month specified in the contract shall be the final settlement date for the contract at

both NSE as well as BSE, It is also know as Expiry Date.

RATIONALE BEHIND THE DEVELOPMENT OF

DERIVATIVES:

Holding portfolios of securities is associated with the risk of the possibility

that the investor may realize his returns, which would be much lesser than what he

expected to get. There are various factors, which affect the returns:

1. Price or dividend (interest)

2. Some are internal to the firm like- Industrial policy

Management capabilities

Consumers preference

Labour strike, etc.

These forces are to a large extent controllable and are termed as non

systematic risks. An investor can easily manage such non-systematic by having a

well-diversified portfolio spread across the companies, industries and groups so that

a loss in one may easily be compensated with a gain in other.

There are yet other of influence which are external to the firm, cannot be

controlled and affect large number of securities. They are termed as systematic risk.

They are:1. Economic

2. Political

3. Sociological changes are sources of systematic risk.

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FUTURES

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A future contract is thus:

An agreement between two parties

To buy and sell

A standardized type and quantity

Of a specified underlying asset

With a certain quality

At a price determined at the closing of the contract

On a specified date

Through a central exchange.

TYPES OF FUTURES:

On the basis of the underlying asset they derive, the futures

are divided in to two types:

1) Stock futures:

The stock futures are the futures that have the underlying asset

as the individual securities. The settlement of the stock futures is of cash

settlement and the settlement price of the future is the closing price of the

underlying security.

2) Index futures:

Index futures are the futures, which have the underlying asset as

an index. The index futures are also cash settled. The settlement price of the index

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futures shall be the closing value of the underlying index on the expiry date of the

contract.

PARTIES IN FUTURES CONTRACT:

There are two parties in a future contract, the buyer and

seller. The buyer of the futures contract is one who LONG on the futures contract and

the seller of the futures contract is who is SHORT on the futures contract.

In a futures contract, both parties have an obligation,

one to buy the underlying instrument

The other to sell the underlying instrument

Both the buyer and the seller can make a profit or suffer a

loss, due to the fact that the contract price (at which the underlying instrument is

bought and sold) is determined at closing of the contract. If the market price at the

delivery date is lower than the futures contract price, the buyer suffers a loss because

he could have bought the instrument in the market at a lower price. He is now

obliged, according to the contract, to buy the underlying instrument at the higher price

specified in the contract. The opposite applies when the market value of the

underlying instrument is above the futures contract price. The buyer can now buy the

underlying instrument at the lower contract price, and sell the instrument immediately

at the higher market price, thus making an immediate profit.

The pay off for the buyer and the seller of the futures of the contracts are as

follows:

1. pay off for a buyer of futures

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2. pay off for a seller of futures

PAY-OFF FOR A BUYER OF FUTURES

F- FUTURES PRICEE1, E2 SETTLEMENT PRICE

CASE 1:- The buyer bought the futures contract at (F); if the futures price

F

LOSS

PROFIT

E2

P

LE1

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Goes to E1 then the buyer gets the profit of (FP).

CASE 2:- The buyer gets loss when the future price goes less then (F), ifThe future price goes to E2 then the buyer gets the loss of (FL).

PAY- OFF FOR A SELLER OF FUTURES

F- FUTURES PRICE

E1, E2 SETTLEMENT PRICE

CASE 1:- The seller sold the future contract at (f); if the future goes to E1

E2

PROFIT

LOSS

E1

P

L

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Then the seller gets the profit of (FP).

CASE 2: - The seller gets loss when the future price goes greater than (F), if

The future price goes to E2 then the seller gets the loss of (FL).

MARGINS:

Margins are the deposits which reduce counter party risk, arise in a futures

contract. These margins are collect in order to eliminate the counter party risk. There

are three types of margins.

Initial Margins:

When ever a futures contract is signed, both buyer and seller are required

to post initial margins. Both buyer and seller are required to make security deposits

that are intended to guarantee that will infact be able to fulfill their obligation. These

deposits are initial margins and they are often referred as purchase price of futures

contract.

Marking to market margins:

The process of adjusting the equity in an investors account in

order to reflect the change in the settlement price of futures contract is known as

MTM margin. At the end of each day, the open positions are marked to closing price

of the day. Accordingly, this will reflect that the gain or loss in each day

Maintenance margin:

The investor must keep the futures account equity equal to or

greater than certain percentage of the amount deposited as initial margin. If the equity

goes less than that percentage of initial margin, then the investor receives a call for an

additional deposit of cash known as maintenance margin to bring the equity up to the

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initial margin.Any customer can withdraw the positive balance in the margin amount

above the initial margin. To ensure that sufficient money is available, maintenance

margin is set. If the balance in the margin account is below the maintenance margin,

the clearing member is required to deposit the funds to bring to initial margin level. If

it is not brought in, the positions will be closed out.

Pricing the futures:

The Fair value of the futures contract is derived from a model

known as the cost of carry model. This model gives the fair value of the contract.

Cost of carry:

tF=S (1+r-q)

Where

F- Futures price

s- Spot price of the underlying

r- Cost of financing

q- Expected dividend yield

t- Holding period

FUTURES TERMINOLOGY

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Forward contracts offer tremendous flexibility to the parties to design the

contract in terms of the price, quantity, quality (in case of commodities),

delivery time and place.

Forward contracts suffer from poor liquidity and default risk.

In a forward transaction, no actual cash changes hands. If the

transaction is collateralized, exchange of margin will take place according to a pre-

agreed rule or schedule. Otherwise no asset of any kind actually changes hands, until

the maturity of the contract.

The forward price of such a contract is commonly contrasted with the

spot price , which is the price at which the asset changes hands (on the spot date,

usually two business days). The difference between the spot and the forward price is

the forward premium or forward discount.

Forward contracts are of two types specific delivery and other than

specific delivery. The first, which is a merchandising contract, enables producers and

consumers to market a commodity. Generally, sellers and buyers directly negotiate

the contract terms.

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http://en.wikipedia.org/wiki/Spot_pricehttp://en.wikipedia.org/wiki/Spot_price


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Forward contracts are very useful in hedging and speculation. The classic

hedging application would be that of an exporter who expects to receive payment in

dollars three months later. He is exposed to the risk of exchange rate fluctuations. By

using the currency forward market to see dollars forward, he can lock on to a rate

today and reduce his uncertainty. Similarly an importer who is required to make a

payment in dollars two months hence can reduce his exposure to exchange rate

fluctuations by buying dollars forward.

If a speculator has information or analysis, which forecasts an upturn

in a price, then he can go long on the forward, wait for the price to rise, and then take

a reversing transaction to book profits. Speculators may well be required to deposit a

margin upfront. However, this is generally a relatively small proportion of the value

of the assets underlying the forward contract. The use of forward markets here

supplies leverage to the speculator.

A forward contract for the future delivery of a particular underlying asset must

have the following information:

1) Name of the principal party

2) Name of the counter party

3) Name of the underlying asset to be delivered

4) Amount of contract

5) Date of delivery

6) Place of delivery

7) Price agreed upon

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8) The date when the contract is sold

9) The value date

10) Other terms and conditions.

LIMITATIONS:

Lack of centralization of trading

Ill liquidity, and

Counter-party risk.

DIFFERENCE BETWEEN FORWARDS AND FUTURES

FORWARDS FUTURES

1

Contract Future agreement thatobliges the buyer and seller

Future agreement that obligesthe buyer and seller

2

contract size Depending on the transactionand the requirements of thecontracting parties.

Standardized

3

Expiry Date Depending on the transaction Standardized

4

Transaction

method

Negotiated directly by thebuyer and seller

Quoted and traded on theExchange

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5

Guarantees None. It is very difficult toundo the operation; profitsand losses are cash settled atexpiry.

Both parties must deposit aninitial guarantee (margin). Thevalue of the operation is markedto market rates with dailysettlement of profits and losses.

6

Secondary

Market

None. It is difficult to quitthe operation; profit or lossat expiry.

Futures Exchange. Operationcan be quit prior to expiry. Profitor loss can be realized at anytime.

7

Institutional

Guarantee

The contracting parties Clearing House

8

Settlement Cash settled. Contracts are usually closedprior to expiry by taking acompensating position. Atexpiry contracts can be cashsettled or settled by delivery

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TYPES OF OPTIONS:

The options are classified into various types on the basis of various variables. The

following are the various types of options:

I). On the basis of the Underlying asset:

On the basis of the underlying asset the options are divided into two types:

INDEX OPTIONS:The Index options have the underlying asset as the index .

STOCK OPTIONS: A stock option gives the buyer of the option the right to buy/sellstock at a specified price. Stock options are options on the individual stocks, there are

currently more than 50 stocks are trading in this segment.

II). On the basis of the market movement:

On the basis of the market movement the options are divided into two types. They

are:

CALL OPTION:

A call options is bought by an investor when he seems that the stock price

moves upwards. A call option gives the holder of the option the right but not

the obligation to buy an asset by a certain date for a certain price.

C = SN(D1) Xe -r t N(-D2)-

PUT OPTION:

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put option is bought by an investor when he seems that the stock

price moves downwards. A put option gives the holder of the option

right but not the obligation to sell an asset by a certain date for a

certain price

P = Xe-rt N (-D2)-SN (-D2)

Where

C = VALUE OF CALL OPTIONS = SPOT PRICE OF STOCKN = NORMAL DISTRIBUTION

V = VOLATILITYX = STRIKE PRICEr = ANNUAL RISK FREE RETURNt = CONTRACT CYCLE

Ln (S/X) + (r+v2/2) td1 = --------------------------

v t

d2 = d1 v t

Ill) On the basis of exercise of option:

On the basis of the exercising of the option, the options are classified into two

categories.

AMERICAN OPTION:

American options are options that can be exercised at any time up to the

expiration date; most exchange-traded options are American.

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EUROPEAN OPTION:

European options are options that can be exercised only on the expiration

date itself. European options are easier to analyze than American option.

Call option

The following example would clarify the basics on Call Options.

Illustration 1:

An investor buys one European Call option on one share of Reliance Petroleum at a

premium of Rs. 2 per share on 31 July. The strike price is Rs.60 and the contractmatures on 30 September. The payoffs for the investor on the basis of fluctuating spot

prices at any time are shown by the payoff table (Table 1). It may be clear form the

graph that even in the worst case scenario, the investor would only lose a maximum

of Rs.2 per share which he/she had paid for the premium. The upside to it has an

unlimited profits opportunity.

On the other hand the seller of the call option has a payoff chart completely reverse of

the call options buyer. The maximum loss that he can have is unlimited though a

profit of Rs.2 per share would be made on the premium payment by the buyer

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A European call option gives the following payoff to the investor: max (S -

Xt, 0).

The seller gets a payoff of: -max (S - Xt,0) or min (Xt - S, 0).

Notes:

S - Stock Price

Xt - Exercise Price at time 't1

C - European Call Option Premium

Payoff - Max (S - Xt, O )

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Net Profit - Payoff minus 'c'

Exercising the Call Option and what are its implications for the Buyer

and the Seller?

The Call option gives the buyera right to buy the requisite shares on a specific date at

a specific price. This puts the seller under the obligation to sell the shares on that

specific date and specific price. The Call Buyer exercises his option only when he/

she feel it is profitable. This Process is called "Exercising the Option".

This leads us to the fact that if the spot price is lower than the strike price then it

might be profitable for the investor to buy the share in the open market and forgo the

premium paid.

The implications for a buyer are that it is his/her decision whether to exercise theoption or not. In case the investor expects prices to rise far above the strike price in

the future then he/she would surely be interested in buying call options. On the other

hand, if the seller feels that his shares are not giving the desired returns and they are

not going to perform any better in the future, a premium can be charged and returns

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from selling the call option can be used to make up for the desired returns. At the end

of the options contract there is an exchange of the underlying asset. In the real world,

most of the deals are closed with another counter or reverse deal. There is no

requirement to exchange the underlying assets then as the investor gets out of the

contract just before its expiry.

Put Options

The European Put Option is the reverse of the call option deal. Here, there is a

contract to sell a particular number of underlying assets on a particular date at a

specific price. An example would help understand the situation a little better:

Illustration 2:

An investor buys one European Put Option on one share of Reliance Petroleum at a

premium of Rs. 2 per share on 31 July. The strike price is Rs.60 and the contract

matures on 30 September. The payoff table shows the fluctuations of net profit with a

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MONEYNESS PUT OPTIONS CALL OPTIONSOut-of-the Money Spot Price>exercise Price Spot Price


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Stocks,

Foreign Currencies,

Stock Indices,

Commodities,

Others - Futures Options, are options on the futures contracts or

Underlying assets are futures contracts. The futures contract generally matures shortlyafter the options expiration

OPTIONS PRICING

Prices of options are commonly depending upon six factors. Unlike futures which

derives there prices primarily from prices of the undertaking. Option's prices are far

more complex.

The table below helps understand the affect of each of these factors and gives a broad

picture of option pricing keeping all other factors constant. The table presents the case

of European as well as American Options.

EFFECT OF INCREASE IN THE RELEVANT PARAMETRE ON OPTION

PRICES:

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RISK FREE RATE OF INTEREST: In reality the r and the stock market is

inversely related. But theoretically speaking, when all other variables are fixed and

interest rate increases this leads to a double effect: Increase in expected growth rate of

stock prices discounting factor increases making the price fallIn case of the put option

both these factors increase and lead to a decline in the put value. A higher expected

growth leads to a higher price taking the buyer to the position of loss in the payoff

chart. The discounting factor increases and the future value become lesser.

In case of a call option these effects work in the opposite direction/The first effect is

positive as at a higher value in the future the call option would be exercised and

would give a profit. The second affect is negative as is that of discounting. The first

effect is far more dominant than the second one, and he overall effect is favorable on

the call option.

DIVIDENDS: When dividends are announced then the stock prices on ex-dividend

are reduced. This is favorable for the put option and unfavorable for the call option

CALL OPTION: C = SN (Dl)-Xe"rtN(D2)

PUT OPTION: p = xe^NC-oaj-SNC-oa)

Where

C - VALUE OF CALL OPTION

S - SPOT PRICE OF STOCK

X - STRIKE PRICE

r - ANNUAL RISK FREE RETURN

t - CONTRACT CYCLE

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CHAPTER-4DATA ANALYSIS

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ANALYSIS AND INTERPRETATION:

S&P CNX NIFTY JAN-MARCH 2012

Index:

Date Open High Low CloseSharesTraded

Turnover(Rs. Cr)

2-Jan-124640.

24645.

954588.

054636.

751084606

68 3590.96

3-Jan-124675.

84773.

14675.

84765.

31466211

15 5021.29

4-Jan-124774.

954782.

854728.

854749.

651659388

49 5661.16

5-Jan-12 47494779.

84730.

154749.

951778629

36 5873.79

6-Jan-124724.

154794.

94686.

854754.

11760572

82 5234.69

7-Jan-124755.

64759.

44743.

054746.

91878388

0 414.88

9-Jan-12

4747.

55

4758.

7

4695.

45

4742.

8

1475345

37 4548.310-Jan-12

4771.85

4855.9

4768.25

4849.55

201661174 6222.27

11-Jan-12

4863.15

4877.2

4841.6

4860.95

209079758 6364

12-Jan-12

4840.95

4869.2

4803.9

4831.25

183068697 7271.44

13-Jan-12

4861.95

4898.85

4834.2 4866

230940604 7117.5

16-Jan-12 4844

4880.8

4827.05

4873.9

160479891 5297.89

17-Jan-

12

4904.

5

4975.

55 4904

4967.

3

2230041

83 7170.7218-Jan-

124977.

754980.

654931.

054955.

82111987

96 7424.7919-Jan-

12 49955023.

84991.

45018.

42034876

08 6634.3320-Jan-

125044.

855064.

155004.

35048.

62210480

07 8120.3523-Jan- 5025. 5059. 5021. 5046. 1581775 5934.04

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12 35 55 35 25 7124-Jan-

125064.

85141.

055049.

85127.

352020065

65 8172.4325-Jan-

125151.

55174.

155130.

255158.

32191757

09 8156.0427-Jan-

125216.

75 52175162.

45204.

72159233

77 7881.1530-Jan-

125163.

555166.

155076.

75087.

31811414

37 6181.3231-Jan-

125125.

255215.

45120.

155199.

252157707

19 8075.54

1-Feb-125198.

155244.

6 51595235.

72348993

58 8066.68

2-Feb-125272.

15289.

955225.

755269.

93379606

51 11126.39

3-Feb-125276.

15334.

855255.

555325.

852173581

88 7573.02

6-Feb-12 5379.45 5390.05 5327.25 5361.65 215080487 7703.06

7-Feb-125412.

955413.

355322.

955335.

151811945

61 6797.14

8-Feb-125343.

85396.

95325.

25368.

152361354

16 9359.98

9-Feb-125343.

055423.

45338.

95412.

352553069

65 8143.9610-Feb-

125399.

85427.

755341.

055381.

62253520

93 7396.3413-Feb-

125382.

15421.

055351.

45390.

21815619

10 6738

14-Feb-12

5380.8

5428.05

5377.95

5416.05

201409996 6693.43

15-Feb-12

5460.6

5542.1

5460.6

5531.95

314366096 9958.28

16-Feb-12

5513.75

5531.4

5483.75

5521.95

270060477 9053.45

17-Feb-12

5574.2

5606.7

5545.2

5564.3

329307516 11512.01

21-Feb-12

5561.9

5621.5

5561.75

5607.15

231132126 8169.38

22-Feb-12

5609.75

5629.95

5491.35

5505.35

263013427 9694.44

23-Feb-12

5490.05

5537.4

5460.8

5483.3

307246519 9987.65

24-Feb-12

5479.15

5521.4

5405.9

5429.3

364660634 17356.76

27-Feb-12

5448.1

5449.8

5268.15

5281.2

235318961 7706.81

28-Feb-12

5310.5

5391.1

5306.45

5375.5

208133889 7815.9

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INDEX: It observe the above data

Contract : OPEN=4640HIGH=4640LOW= 4588CLOSE =4630

INTERPRETATION: Inthe above graph I calculated BEP:

Breakeven point (BEP) = HIGH VALUE+LOW VALUE / 2

=4640+4588/2=9228/2

=4614

GRAPHICAL REPRESENRTATION FOR FEB CONTRACT

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FEB-MARCH It observe the above data 2012Dec month contract: OPEN=5198

HIGH=5244LOW= 5159

CLOSE =5235.12

INTERPRETATION: Inthe above graph I calculated BEP:

Breakeven point (BEP) = HIGH VALUE+LOW VALUE / 2

=5244+5159/2=10403/2

=5201.55

In this graph I observed the following fluctuations. In the period of

(20-May-11 to 23-Jun-11)in these I found as BEP was 5380.025 values. Here I

observed as value share is a lose of point of Nifty-50 value was ( 5380.025-

5577.65=197.625)So here share value is decrease. Due to UN expected change in

market, policies and lack of experience of investors. Here I observed as there is a

change of Nifty-50 share value that is period of (22-12-2008) goes to the share value

high (5380.25-5182.4=197.85) so here share value is increased. And it is good

signal of investment to the buyers. So here investor gets more longs.Again I found margin of safety (MOS):

(1)Margin of safety(MOS)= OPENING SHARE VALUE-BEP

=5445-5380.025

=64.975*(1LOT)

So here MOS is less than the BEP value .so here investors gets more loss.

(2)Margin of safety(MOS)= HIGH SHARE VALUE-BEP

=5577.65-5380.025

=197.625*(1LOT)

So here margin of safety is more than the BEP value. So the investor gets higher

profits and longs to be produced.

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FINDINGS

From the above analysis it can be concluded that:

1. Derivative market is growing very fast in the Indian Economy. The turnover of

Derivative Market is increasing year by year in the Indias largest stock exchangeNSE. In the case of index future there is a phenomenal increase in the number ofcontracts. But whereas the turnover is declined considerably. In the case of stockfuture there was a slow increase observed in the number of contracts whereas adecline was also observed in its turnover. In the case of index option there was ahuge increase observed both in the number of contracts and turnover.

2. After analyzing data it is clear that the main factors that are driving the growth ofDerivative Market are Market improvement in communication facilities as well aslong term saving & investment is also possible through entering into DerivativeContract. So these factors encourage the Derivative Market in India.

3. It encourages entrepreneurship in India. It encourages the investor to take morerisk & earn more return. So in this way it helps the Indian Economy bydeveloping entrepreneurship. Derivative Market is more regulated & standardizedso in this way it provides a more controlled environment. In nutshell, we can saythat the rule of High risk & High return apply in Derivatives. If we are able totake more risk then we can earn more profit under Derivatives.

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OTHER SUGGESTIONS ARE :

1).Increase in scripts under derivative segment:

SEBI and the stock exchanges should constantly endeavor to Update the lists of

stocks available for derivatives trading by including in the list of companies with

very strong fundamentals and a history of excellent track record and also with

excellent corporate govern record even while periodically deleting Companies

which do not keep up their record of high disclosures And corporate governance and

also those companies which may Come under any serious allegations of being

associated with any Stock market scams etc.

2. Physical settlement:

Presently the derivatives traded are settled on cash basis on the last Thursday of each

month. Thus, there is no physical delivery of the traded securities. This is one of the

reasons for the Derivatives market to be dominated by speculators and big players

with grossly inadequate interest shown by small investors to take advantages of the

derivative trading, there is a need to switch over the phases to the physical system.

3.vestor and broker education:

This is the need of the hour. While the Indian investor is familiar With the forward

trading under Badla system, the derivatives Strategies are not yet familiar to him.

Like the certification of traders on the derivatives desk, there has to be an orientation

program for the brokers and intermediaries can best do this job as part of service to

expand the market and awareness

4. SEBI has to take steps to reduce the speculation that is going on in

The market segment

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CONCLUSION

1. Derivative have existed and evolved over a long time, with roots in commodities

market .In the recent years advances in financial markets and technologies have madederivatives easy for the investors.

2. Derivatives market in India is growing rapidly unlike equity markets.

Trading in derivatives require more than average understanding of finance. Being

now markets, Maximum number of investors have not yet understood thee full

implications of the trading in derivatives. SEBI should take actions to create

awareness in investors about the derivative market.

3. Introduction of derivative implies better risk management. These markets can

greater depth, stability and liquidity to India capital markets. Successful risk

management with derivatives requires a through understanding 0 principles that

govern the pricing of financial derivatives.

4. In order to increase the derivatives market in India SEBI should revise some oftheir regulation like contract size, participation of Fill in the derivative market.

Contract size should be minimized because small investor cannot afford this much of

huge premiums.

5. Derivatives are mostly used for hedging purpose.

6. In derivative market the profit and loss of the option writer/option holder purely

depends on the fluctuations of the underlying.

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BIBLIOGRAPH

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BIBLIOGRAPH

BOOKS:

AUTHOURS BOOKS

Gordon and Natrajan Financial Markets andService

NCFM material Derivatives Core ModulWorkbook

M.Y.Khan Indian Financial System

R. Mahajan Futures & Options

V.K. Bhalla Investment management

DUN & Bradstreet financial risk management

Newspapers:

Economic Time.Business line.

Websites:

asha final

Documents