A STUDY ON

INDIAN DERIVATIVE MARKET

With special reference to

Indiabulls Securities Ltd.,

Project report Submitted to

JAWAHARLAL NEHRU TECNOLOGICAL UNIVERSITY

ANANTAPUR

In partial fulfillment of the Requirement for the award of the degree of

MASTER OF BUSINESS ADMINISTRATION

By

G.SREEKANTH

Reg.no:092G1E0016

Under the Guidance of

Mr. Sunil Kumar

DEPARTMENT OF MASTER OF BUSINESS ADMINISTRATION

ANANTHALAKSHMI INSTITUTE OF TECHNOLOGY AND SCIENCES

(Affiliated to JNTUniversity, Anantapur.)

ITIKULAPALLI, ANANTAPUR – 517 502.

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(2009 – 2011)

TO WHOMSOEVER IT MAY CONCERN

On behalf of Indiabulls Securities Ltd., I take the privilege of recognizing the efforts put in by Mr. G.Sreekanth to carry out him Project on “Indian Derivative Market” from 2nd May to 3rd June,2011. G Sreekanth has not only carried out this study as a part of his curriculum but he has proven to be a key member in bringing positive contribution to improve our people practices, focus on employee satisfaction level as well contribute to our best trading. In fact we are considering adapting a few suggestions given by him in the above context. Lastly, I would like to thank your esteemed institution for providing your students such a platform; for them to learn from their experiences while carrying out these studies.

Warm regards,

( Atish Gupta) Manager .

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ANANTHA LAKSHMI INSTIUTE OF TECHNOLOGY AND SCIENCES

(Affiliated to J.N.T.University, Anantapur.)

ITIKULAPALLI, ANATAPUR-515001

ANANTAPUR, A.P

Ph No: 08554 – 255233

Fax: 08554 – 255222

CERTIFICATE

This is certified that the project report entitled INDIAN DERIVATIVE MARKET

With special reference to Indiabulls Securities Ltd submitted by Mr. G.SREEKANTH

(Reg.no:092G1E0016) for the award of Master of Business Administration, to JNTUnivercity,

Anantapur, is a record of independent research work undertaken by him, under my supervision and

guidance and the project has not been submitted earlier either in part or whole for the award of any

other degree or diploma of any university.

Project Guide Head of the Department

Mr. SUNIL KUMAR Mr. D. NABI RASOOL

M.B.A M.A(Economics),

M.B.A.;(Ph.D)

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G.SREEKANTH Reg.no:092G1E0016 MBA IV SEMISTER ALTS, ANANTAPUR.

DECLARATION

I hereby declare that the project report entitled “INDIAN DERIVATIVE MARKET”

With special reference to “Indiabulls securities Ltd” is original and independent record of

research work, submitted by me to JNTU, Anantapur, Under the guidance of Mr. Sunil

kumar Faculty member department of MBA, ANANTHALAKSHMI INSTITUTE OF

TECHNOLOGY AND SCIENCES, Anantapur, for the award of the degree of MASTER

OF BUSINESS ADMINISTRATION and has not been submitted earlier for the award of any

degree or diploma of any university.

Place:

Date: (G.SREEKANTH)

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ACKNOWLEDGEMENT

This project is entitled INDIAN DERIVATIVE MARKET With special

reference to Indiabulls securities Ltd.

I express my hearty full gratitude to Mr.M.RAMUDU, Chairman of

ANANTHALAKSHMI INSTITUE OF TECHNOLOGY AND SCIENCES, Anantapur.

I express my hearty full gratitude to Mr.M.RAMESH NAIDU Director of

ANANTHALAKSHMI INSTITUE OF TECHNOLOGY AND SCIENCES, Anantapur.

I express my hearty full gratitude to Mr.B.RAMESH BABU Principal of

ANANTHALAKSHMI INSTITUE OF TECHNOLOGY AND SCIENCES, Anantapur.

I wish to extend my sincere gratitude to, Mr. Atish Gupta Manager, India bulls Securities Ltd., for providing me with all the facilities to carry on this research work efficiently and also the entire team at Indiabulls Securities Ltd, for their co-operation and last but not the least the employees at Indiabulls Securities Ltd for their support and encouragement in fulfillment of this report. With Profound gratitude towards Mr. Sunil Kumar, Faculty, Anantha Lakshmi Inst of Sciences for guiding me in the completion of this project.

I am extremely grateful to D.NABI RASOOL M.A (economics), M.B.A, (PH.D)

head of the department of MBA, for his finely advice and valuable suggestions.

I am particularly indebted to my parents and my friends for supporting me in all the

aspects.

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CONTENTS

SL.NO DESCRIPTION PG.NO

Declaration

Acknowledgement

CHAPTER: 1 INTRODUCTION & RESEARCH METHOCOLOGY

CHAPTER: 2 REVIEW OF LITERATURE

CHAPTER: 3 COMPANY PROFILE

CHAPTER: 4 DATA ANALYSIS & INTERPRETATION

CHAPTER: 5 SUMMARY OF FINDINGS & SUGGESTIONS

Conclusion

Appendices

Bibliography

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CHAPTER-I

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1: INTRODUCTION

The global economic order that emerged after World War II was a system where many less developed countries administered prices and centrally allocated resources. Even the developed economies operated under the Bretton Woods system of fixed exchange rates.

The system of fixed prices came under stress from the 1970s onwards. High inflation and unemployment rates made interest rates more volatile. The Bretton Woods system was dismantled in 1971, freeing exchange rates to fluctuate. Less developed countries like India began opening up their economies and allowing prices to vary with market conditions.

Price fluctuations make it hard for businesses to estimate their future production costs and revenues. Derivative securities provide them a valuable set of tools for managing this risk 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 not influence the fluctuations 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 investors.

This project describes the evolution of Indian derivatives markets, the popular derivatives instruments, and the main users of derivatives in India. I conclude by assessing the outlook for Indian derivatives markets in the near and medium term.

1.1: Derivatives defined

The work "derivative" originates from mathematics. It refers to a variable, which has been derived from another variable.

I.e. X = f (Y)

WHERE X (dependent variable) = DERIVATIVE PRODUCT Y (independent variable) = UNDERLYING ASSET

Derivative is a product whose value is derived from the value of one or more basic variables, called bases (underlying asset, index, or reference rate), in a contractual manner. The underlying asset can be equity, forex, commodity or any other asset. For example, wheat farmers may wish to sell their harvest at a future date to eliminate the risk of a change in prices by that date. Such a transaction is an example of a derivative. The price of this derivative is driven by the spot price of wheat which is the “underlying”. In the Indian context the Securities Contracts (Regulation) Act, 1956 (SC(R) A) defines “equity derivative” to include –

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A security derived from a debt instrument, share, loan whether secured or unsecured, risk instrument or contract for differences or any other form of security.

A contract, which derives its value from the prices, or index of prices, of underlying securities.

The derivatives are securities under the SC(R) A and hence the trading of derivatives is governed by the regulatory framework under the SC(R) A.

In India, most derivatives users describe themselves as hedgers and Indian laws generally require that derivatives be used for hedging purposes only.

Another motive for derivatives trading is speculation (i.e. taking positions to profit from anticipated price movements).

In practice, it may be difficult to distinguish whether a particular trade was for hedging or speculation, and active markets require the participation of both hedgers and speculators.

A third type of trader, called arbitrageurs, profit from discrepancies in the relationship of

spot and derivatives prices, and thereby help to keep markets efficient.

1.2: STAEMENT OF THE PROBLEM

The turnover of the stock exchange has been tremendously increasing since inception at

sometime fluctuations in prices with high volatility also increased. The number of trades and the

number of investors, who are participating, have increased. The investors are willing to reduce

their risk, so they are seeking for the risk management tools.

Prior to SEBI abolishing the BADLA system, the investors had this system as a source of

reducing the risk, as it has many problems like no strong margin system, unclear expire date and

generating counter party risk. In view of this problem SEBI abolished the BADLA system.

After the abolition of the BADLA system, the investors are seeking for a hedging

system, which could reduce their portfolio risk. SEBI thought the introduction of the derivatives

trading, as a first step it has set up a 24 member committee under the chairmanship of

Dr.L.C.Gupta to develop the appropriate framework for derivatives trading in India, SEBI accepted

the recommendation of the committee on may 11, 1998 and approved the phase introduction of the

derivatives trading beginning with stock index futures.

There are many investors who are willing to trade in the derivatives segment, because

of its advantages like limited loss unlimited profit by paying the small premiums.[Type text]

1.3: NEED OF THE STUDY

In less than three decades of their coming into vogue, derivatives markets have become the most important markets in the world. Today, derivatives have become part and parcel of the day-to-day life for ordinary people in major part of the world. Until the advent of NSE, the Indian capital market had no access to the latest trading methods and was using traditional out-dated methods of trading. There was a huge gap between the investors’ aspirations of the markets and the available means of trading. The opening of Indian economy has precipitated the process of integration of India’s financial markets with the international financial markets. Introduction of risk management instruments in India has gained momentum in last few years

The study of Financial Derivatives is to know the Trading and Risk management Derivatives in stock markets by adhering of investors, dealers, brokers and institutions in regarding derivatives market.

1.4: OBJECTIVES OF THE STUDY

The main objectives of my final project report are as follows:-

» To analyze the derivatives market in India.

» To analyze the operations of futures and options in India.

» To study the various trends that comes in the way of Derivatives market.

» To find out that what would be the future and market potential of derivative

market in India.

» To get knowledge about shortcomings in Indian derivative market.

» To analyze the trading system of market players.

1.5: SCOPE OF THE STUDY:

The study is limited to “Derivatives” with special reference to futures and option in the Indian context and the Inter-Connected Stock Exchange of India Ltd, has been taken as a representative sample for the study. The study can’t be said as totally perfect. Any alteration may come. The study has only made a humble attempt at evaluation of derivatives market only in Indian context. The study is not based on the international perspective of derivatives markets, which exists in NASDAQ, CBOT etc.

1.6: LITERATURE REVIEW

The emergence of the market for derivative products, most notably forwards, futures and options, can be traced back to the willingness of risk-averse economic agents to guard

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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 not influence the fluctuations 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 investors.

Derivative products initially emerged, as hedging devices against fluctuations in commodity prices and commodity-linked derivatives remained the sole form of such products for almost three hundred years. The financial derivatives came into spotlight in post-1970 period due to growing instability in the financial markets. However, since their emergence, these products have become very popular and by 1990s, they accounted for about two-thirds of total transactions in derivative products. In recent years, the market for financial derivatives has grown tremendously both in terms of variety of instruments available, their complexity and also turnover. In the class of equity derivatives, futures and options on stock indices have gained more popularity than on individual stocks, especially among institutional investors, who are major users of index-linked derivatives.

Even small investors find these useful due to high correlation of the popular indices with various portfolios and ease of use. The lower costs associated with index derivatives vis-vis derivative products based on individual securities is another reason for their growing use.

As in the present scenario, Derivative Trading is fast gaining momentum,

That is the main reason for why I have chosen this topic.

1.7: LIMITAITONS OF STUDY

The time available to conduct the study was only 2 months. It being a wide topic had a limited time.

Limited resources are available to collect the information about the commodity trading.

Share market is so much volatile and it is difficult to forecast anything about it whether you trade through online or offline

Some of the aspects may not be covered in my study.

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2: RESEARCH METHODOLOGY

For implementing the study of Indian Derivative Market different tools, data and techniques are required. In attempting to pursue this research study topic qualitative as well as quantitative approaches are undertaken.

The statements cover the aspects of Financial Derivatives and associated issues. Personal interviews are taken with respondents to strengthen the information.

The following tools and methods are used to strengthen the study:

2.1: SOURCES OF DATA:

Source of data is available in two types’ viz. primary data and secondary Data.

2.1.1: PRIMARY DATA:

Primary data and those which are collected a fresh and for the first time, And this happen to be original in character.

The Primary Data is collected from discussions with brokers; India bulls staff members, friends, Interviewing People and lectures by professors.

2.1.2: SECONDARY DATA:

Secondary data are those which have been already been collected by someone else and which already been passed through the statistical process.

The secondary data is obtained from Text books related to derivatives Journals, magazines, news papers, fact sheets, repots of NSE and BSE, NCFM Derivative Module and internet.

To better understand the data the standard statistical tools were used like

Statistical tools used

Bar Graphs.

Average,

Weighted average,

Pie charts.

Tabulation.

Pie charts and other graphical representation tools.

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CHAPTER-II

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3: REVIEW OF LITERATURE

New ideas and innovations have always been the hallmark of progress made by mankind. At every stage of development, there have been two core factors that drive man to ideas and innovation. These are increasing returns and reducing risk, in all facet of life. The financial markets are no different. The endeavor has always been to maximize returns and minimize risk. A lot of innovation goes into developing financial products centered on these two factors. It has spawned a whole new area called financial Engineering.

Derivatives are among the forefront of the innovations in the financial markets and aim to increase returns and reduce risk. They provide an outlet for investors to protect themselves from the vagaries of the financial markets. These instruments have been very popular with investors all over the world. Indian financial markets have been on the ascension and catching up with global standards in financial markets. The advent of screen based trading, dematerialization, rolling settlement has put our markets on par with international markets. As a logical step to the above progress, derivative trading was introduced in the country in June 2000. Starting with index futures, we have made rapid strides and have four types of derivative products- Index future, index option, stock future and stock options. Today, there are 30 stocks on which one can have futures and options, apart from the index futures and options. This market presents a tremendous opportunity for individual investors.

The markets have performed smoothly over the last two years and have stabilized. The time is ripe for investors to make full use of the advantage offered by this market. We have tried to present in a lucid and simple manner, the derivatives market, so that the individual investor is educated and equipped to become a dominant player in the market.

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3.2: HISTORY OF DERIVATIVES

While trading in derivatives products has grown tremendously in recent times, the earliest evidence of these types of instruments can be traced back to ancient Greece. Even though derivatives have been in existence in some form or the other since ancient times, derivatives have probably been around for as long as people have been trading with one another. Forward contracting dates back at least to the 12th century, and may well have been around before then. the advent of modern day derivatives contracts is attributed to farmers’ need to protect themselves against a decline in crop prices due to various economic and environmental factors. Thus, derivatives contracts initially developed in commodities. - The first “futures” contracts can be traced to the Yodoya rice market in Osaka, Japan around 1650. The farmers were afraid of rice prices falling in the future at the time of harvesting. To lock in a price (that is, to sell the rice at a predetermined fixed price in the future), the farmers entered into contracts with the buyers. These were evidently standardized contracts, much like today’s futures contracts.Although early forward contracts in the US addressed merchants’ concerns about ensuring that there were buyers and sellers for commodities, “credit risk” remained a serious problem. To deal with this problem, a group of Chicago businessmen formed the Chicago Board of Trade (CBOT) in 1848. The primary intention of the CBOT was to provide a centralized location known in advance for buyers and sellers to negotiate forward contracts. In 1865, the CBOT went one step further and listed the first “exchange traded” derivatives contract in the US; these contracts were called “futures contracts”. In 1919, Chicago Butter and Egg Board, a spin-off of CBOT, was reorganized to allow futures trading. Its name was changed to Chicago Mercantile Exchange (CME). The CBOT and the CME remain the two largest organized futures exchanges, indeed the two largest “financial” exchanges of any kind in the world today. The first stock index futures contract was traded at Kansas City Board of Trade Currently the most popular index futures contract in the world is based on S&P 500 index, traded on Chicago Mercantile Exchange. During the mid eighties, financial futures became the most active derivative instruments generating volumes many times more than the commodity futures. Index futures, futures on T-bills and Euro-Dollar futures are the three most popular futures contracts traded today. Other popular international exchangesthat trade derivatives are LIFFE in England, DTB in Germany, SGX in Singapore, TIFFE in Japan, MATIF in France, etc.

While the basics of derivatives are the same for all assets such as equities, bonds, currencies, and commodities, we will focus on derivatives in the equity markets and all examples that we discuss will use stocks and index (basket of stocks).

Source: http://www.nse-india.com/content/ncfm/EDBM_workbook.pdf

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3.3: INDIAN DERIVATIVE MARKET

Starting from a controlled economy, India has moved towards a world where prices fluctuate every day. The introduction of risk management instruments in India gained momentum in the last few years due to liberalization process and Reserve Bank of India’s (RBI) efforts in creating currency forward market. Derivatives are an integral part of liberalization process to manage risk. NSE gauging the market requirements initiated the process of setting up derivative markets in India. In July 1999, derivatives trading commenced in India

3.3.1: DEVELOPMENT OF DERIVATIVES IN INDIA

The first step towards introduction of derivatives trading in India was the promulgation of the Securities Laws (Amendment) Ordinance, 1995, which withdrew the prohibition on options in securities. The market for derivatives, however, did not take off, as there was no regulatory framework to govern trading of derivatives. SEBI set up a 24–member committee under the Chairmanship of Dr.L.C.Gupta on November 18, 1996 to develop appropriate regulatory framework for derivatives trading in India. The committee submitted its report on March 17, 1998 prescribing necessary pre–conditions for introduction of derivatives trading in India. The committee recommended that derivatives should be declared as ‘securities’ so that regulatory framework applicable to trading of ‘securities’ could also govern trading of securities. SEBI also set up a group in June 1998 under the Chairmanship of Prof.J.R.Varma, to recommend measures for risk containment in derivatives market in India. The report, which was submitted in October 1998, worked out the operational details of margining system, methodology for charging initial margins, broker net worth, deposit requirement and real–time monitoring requirements. The Securities Contract Regulation Act (SCRA) was amended in December 1999 to include derivatives within the ambit of ‘securities’ and the regulatory framework were developed for governing derivatives trading. The act also made it clear that derivatives shall be legal and valid only if such contracts are traded on a recognized stock exchange, thus precluding OTC derivatives. The government also rescinded in March 2000, the three decade old notification, which prohibited forward trading in securities. Derivatives trading commenced in India in June 2000 after SEBI granted the final approval to this effect in May 2001. SEBI permitted the derivative segments of two stock exchanges, NSE and BSE, and their clearing house/corporation to commence trading and settlement in approved derivatives contracts. To begin with, SEBI approved trading in index futures contracts based on S&P CNX Nifty and BSE–30 (Sensex) index. This was followed by approval for trading in options based on these two indices and options on individual securities. The trading in BSE Sensex options commenced on June 4, 2001 and the trading in options on individual securities commenced in July 2001. Futures contracts on individual stocks were launched in November 2001. The derivatives trading on NSE commenced with S&P CNX Nifty Index futures on June 12, 2000. The trading in index options commenced on June 4, 2001 and trading in options on individual securities commenced on July 2, 2001. Single stock futures were launched on November 9, 2001. The index futures and options contract on NSE are based on S&P CNX Trading and settlement in derivative contracts is done in accordance with the rules, byelaws,

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and regulations of the respective exchanges and their clearing house/corporation duly approved by SEBI and notified in the official gazette. Foreign Institutional Investors (FIIs) are permitted to trade in all Exchange traded derivative products.

The following are some observations based on the trading statistics provided in the NSE report on the futures and options (F&O):

• Single-stock futures continue to account for a sizable proportion of the F&O segment. It constituted 70 per cent of the total turnover during June 2002. A primary reason attributed to this phenomenon is that traders are comfortable with single-stock futures than equity options, as the former closely resembles the erstwhile badla system.

• On relative terms, volumes in the index options segment continue to remain poor. This may be due to the low volatility of the spot index. Typically, options are considered more valuable when the volatility of the underlying (in this case, the index) is high. A related issue is that brokers do not earn high commissions by recommending index options to their clients, because low volatility leads to higher waiting time for round-trips.

• Put volumes in the index options and equity options segment have increased since January 2002. The call-put volumes in index options have decreased from 2.86 in January 2002 to 1.32 in June. The fall in call-put volumes ratio suggests that the traders are increasingly becoming pessimistic on the market.

• Farther month futures contracts are still not actively traded. Trading in equity options on most stocks for even the next month was non-existent.

• Daily option price variations suggest that traders use the F&O segment as a less risky alternative (read substitute) to generate profits from the stock price movements. The fact that the option premiums tail intra-day stock prices is evidence to this. If calls and puts are not looked as just substitutes for spot trading, the intra-day stock price variations should not have a one-to-one impact on the option premiums.

The spot foreign exchange market remains the most important segment but the derivative segment has also grown. In the derivative market foreign exchange swaps account for the largest share of the total turnover of derivatives in India followed by forwards and options. Significant milestones in the development of derivatives market have been (i) permission to banks to undertake cross currency derivative transactions subject to certain conditions (1996) (ii) allowing corporate to undertake long term foreign currency swaps that contributed to the development of the term currency swap market (1997) (iii) allowing dollar rupee options (2003) and (iv) introduction of currency futures (2008). I would like to emphasize that currency swaps allowed companies with ECBs to swap their foreign currency liabilities into rupees. However, since banks could not carry open positions the risk was allowed to be transferred to any other resident corporate. Normally such risks should be taken by corporate who have natural hedge or have potential foreign exchange earnings. But often corporate assume these risks due to interest rate differentials and views on currencies. This period has also witnessed several relaxations in regulations relating to forex markets and also greater liberalization in capital account regulations leading to greater integration with the global economy. · Cash settled exchange traded currency futures have made foreign currency a separate asset class that can be traded without any underlying need or exposure a n d on a leveraged basis on the recognized stock exchanges with credit risks being assumed by the central counterparty Since the commencement of trading of currency futures in all the three exchanges, the value of the trades has gone up steadily from Rs 17, 429 crores in October

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2008 to Rs 45, 803 crores in December 2008. The average daily turnover in all the exchanges has also increased from Rs871 crores to Rs 2,181 crores during the same period. The turnover in the currency futures market is in line with the international scenario, where I understand the share of futures market ranges between 2 – 3 per cent.

Table 1.1: Chronology of instruments1991                        Liberalization process initiated 

14 December 1995 NSE asked SEBI for permission to trade index futures.

18 November 1996 SEBI setup L.C.Gupta Committee to draft a policy framework for index futures.

11 May 1998 L.C.Gupta Committee submitted report.

7 July 1999 RBI gave permission for OTC forward rate agreements (FRAs) and interest rate swaps.

24 May 2000 SIMEX chose Nifty for trading futures and options on an Indian index.

25 May 2000 SEBI gave permission to NSE and BSE to do index futures trading.

9 June 2000 Trading of BSE Sensex futures commenced at BSE.

12 June 2000 Trading of Nifty futures commenced at NSE.

25 September 2000 Nifty futures trading commenced at SGX.

2 June 2001 Individual Stock Options & Derivatives

4 June 2001 The NSE introduced trading on index options based on the S&P CNX Nifty on

July 2, 2001 Trading on Stock options commences on the NSE

November 9, 2001 Trading on Stock futures commences on the NSE

August 29, 2008 Currency derivatives trading commences on the NSE

August 31, 2009 Interest rate derivatives trading commences on the NSE

February 2010 Launch of Currency Futures on additional currency pairs

October 28, 2010 Introduction of European style Stock Options

October 29, 2010 Introduction of Currency Options

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Source: Standard & Poor’s: S&P CNX Nifty Methodology-www.nse-india.com

3.3.2: Need for derivatives in India today

In less than three decades of their coming into vogue, derivatives markets have become the most important markets in the world. Today, derivatives have become part and parcel of the day-to-day life for ordinary people in major part of the world. Until the advent of NSE, the Indian capital market had no access to the latest trading methods and was using traditional out-dated methods of trading. There was a huge gap between the investors’ aspirations of the markets and the available means of trading. The opening of Indian economy has precipitated the process of integration of India’s financial markets with the international financial markets. Introduction of risk management instruments in India has gained momentum in last few years thanks to Reserve Bank of India’s efforts in allowing forward contracts, cross currency options etc. which have developed into a very large market.

3.4: FACTORS CONTRIBUTING TO THE GROWTH OF DERIVATIVES

Factors contributing to the explosive growth of derivatives are price volatility, globalization of the markets, technological developments and advances in the financial theories.

3.4.1: PRICE VOLATILITY:

A price is what one pays to acquire or use something of value. The objects having value maybe commodities, local currency or foreign currencies. The concept of price is clear to almost everybody when we discuss commodities. There is a price to be paid for the purchase of food grain, oil, petrol, metal, etc. the price one pays for use of a unit of another person’s money is called interest rate. And the price one pays in one’s own currency for a unit of another currency is called as an exchange rate.Prices are generally determined by market forces. In a market, consumers have ‘demand’ and producers or suppliers have ‘supply’, and the collective interaction of demand and supply in the market determines the price. These factors are constantly interacting in the market causing changes in the price over a short period of time. Such changes in the price are known as ‘price volatility’. This has three factors: the speed of price changes, the frequency of price changes and the magnitude of price changes. The changes in demand and supply influencing factors culminate in market adjustments through price changes. These price changes expose individuals, producing firms and governments to significant risks. The breakdown of the BRETTON WOODS agreement brought an end to the stabilizing role of fixed exchange rates and the gold convertibility of the dollars. The globalization of the markets and rapid industrialization of many underdeveloped countries brought a new scale and dimension to the markets. Nations that were poor suddenly became a major source of supply of goods. The Mexican crisis in the south east- 47 Asian currency crisis of 1990’s has also brought the price volatility factor on the surface. The advent of telecommunication and data processing bought information very quickly to the markets. Information which would have taken months to impact the market earlier can now be obtained in matter of moments. Even equity holders are exposed to price risk of corporate share fluctuates rapidly. These price volatility risks pushed the use of derivatives like futures and options increasingly as these instruments can be used as hedge to

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protect against adverse price changes in commodity, foreign exchange, equity shares and bonds.

3.4.2: GLOBALISATION OF MARKETS:

Earlier, managers had to deal with domestic economic concerns; what happened in other part of the world was mostly irrelevant. Now globalization has increased the size of markets and as greatly enhanced competition .it has benefited consumers who cannot obtain better quality goods at a lower cost. It has also exposed the modern business to significant risks and, in many cases, led to cut profit margins In Indian context, south East Asian currencies crisis of 1997 had affected the competitiveness of our products vis-à-vis depreciated currencies. Export of certain goods from India declined because of this crisis. Steel industry in 1998 suffered its worst set back due to cheap import of steel from south East Asian countries. Suddenly blue chip companies had turned in to red. The fear of china devaluing its currency created instability in Indian exports. Thus, it is evident that globalization of industrial and financial activities necessitates use of derivatives to guard against future losses. This factor alone has contributed to the growth of derivatives to a significant extent.

3.4.3: TECHNOLOGICAL ADVANCES:

A significant growth of derivative instruments has been driven by technological Breakthrough. Advances in this area include the development of high speed processors, network systems and enhanced method of data entry. Closely related to advances in computer technology are advances in telecommunications. Improvement in communications allow for instantaneous worldwide conferencing, Data transmission by satellite. At the same time there were significant advances in software programmers’ without which computer and telecommunication advances would be meaningless. These facilitated the more rapid movement of information and consequently its instantaneous impact on market price. Although price sensitivity to market forces is beneficial to the economy as a whole resources are rapidly relocated to more productive use and better rationed overtime the greater price volatility exposes producers and consumers to greater price risk. The effect of this risk can easily destroy a business which is otherwise well managed. Derivatives can help a firm manage the price risk inherent in a market economy. To the extent the technological developments increase volatility, derivatives and risk management products become that much more important.

3.4.4: ADVANCES IN FINANCIAL THEORIES:

Advances in financial theories gave birth to derivatives. Initially forward contracts in its traditional form, was the only hedging tool available. Option pricing models developed by Black and Scholes in 1973 were used to determine prices of call and put options. In late 1970’s, work of Lewis Edeington extended the early work of Johnson and started the hedging of financial price risks with financial futures. The work of economic theorists gave rise to new products for risk management which led to the growth of derivatives in financial markets. The above factors in combination of lot many factors led to growth of derivatives instruments.

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3.5: BENEFITS OF DERIVATIVES

Derivative markets help investors in many different ways:

3.5.1: RISK MANAGEMENT –

Futures and options contract can be used for altering the risk of investing in spot market. For instance, consider an investor who owns an asset. He will always be worried that the price may fall before he can sell the asset. He can protect himself by selling a futures contract, or by buying a Put option. If the spot price falls, the short hedgers will gain in the futures market, as you will see later. This will help offset their losses in the spot market. Similarly, if the spot price falls below the exercise price, the put option can always be exercised.

3.5.2: PRICE DISCOVERY –

Price discovery refers to the markets ability to determine true equilibrium prices. Futures prices are believed to contain information about future spot prices and help in disseminating such information. As we have seen, futures markets provide a low cost trading mechanism. Thus information pertaining to supply and demand easily percolates into such markets. Accurate prices are essential for ensuring the correct allocation of resources in a free market economy. Options markets provide information about the volatility or risk of the underlying asset.

3.5.3: OPERATIONAL ADVANTAGES –

As opposed to spot markets, derivatives markets involve lower transaction costs. Secondly, they offer greater liquidity. Large spot transactions can often lead to significant price changes. However, futures markets tend to be more liquid than spot markets, because herein you can take large positions by depositing relatively small margins. Consequently, a large position in derivatives markets is relatively easier to take and has less of a price impact as opposed to a transaction of the same magnitude in the spot market. Finally, it is easier to take a short position in derivatives markets than it is to sell short in spot markets.

3.5.4: MARKET EFFICIENCY –

The availability of derivatives makes markets more efficient; spot, futures and options markets are inextricably linked. Since it is easier and cheaper to trade in derivatives, it is possible to exploit arbitrage opportunities quickly and to keep prices in alignment. Hence these markets help to ensure that prices reflect true values.

3.5.5: EASE OF SPECULATION – Derivative markets provide speculators with a cheaper alternative to engaging in spot transactions. Also, the amount of capital required to take a comparable position is less in this case. This is important because facilitation of speculation is critical for ensuring free and fair markets. Speculators always take calculated risks. A speculator will accept a level of risk only if he is convinced that the associated expected return is commensurate with the risk that he is taking.

The derivative market performs a number of economic functions. Those are The prices of derivatives converge with the prices of the underlying at the expiration of

derivative contract. Thus derivatives help in discovery of future as well as current prices. An important incidental benefit that flows from derivatives trading is that it acts as a catalyst

for new entrepreneurial activity.[Type text]

Derivatives markets help increase savings and investment in the long run. Transfer of risk enables market participants to expand their volume of activity.

3.4: TYPES OF DERIVATIVE MARKET

Figure 1.1

3.4.1: Derivatives can be differentiated along three main dimensions

Type of derivative and market place: Derivatives can be traded bilaterally OTC (mostly individually customized contracts) or multilaterally on exchanges (standardized contracts).

Type of underlying: Underlyings can be financial instruments themselves, physical assets, or any risk factors that can be measured. Common examples are fixed-income, foreign exchange, credit risk, equities and equity indices or commodities. Exotic underlyings are, for example, weather, freight rates, or economic indicators.

Type of product: The three main types are forwards (or futures), options and swaps.

They differ in terms of their dependence on the price of the underlying.

Derivatives can be traded OTC or in exchanges. OTC derivatives are created by an agreement between two individual counterparties. OTC derivatives cover a range from highly standardized (so-called “exchange look-alike”) to tailor-made contracts with individualized terms regarding underlying, contract size, maturity and other features. Most of these contracts are held to maturity by the original counterparties, but some are altered during their life or offset before termination.

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Exchange-traded derivatives, on the other hand, are fully standardized and their contract terms are designed by derivatives exchanges. Most derivatives products are initially developed as OTC derivatives. Once a product matures, exchanges “industrialize” it,creating a liquid market for a standardized and re-fined form of the new derivatives product. The OTC and exchange-traded derivatives then coexist side by side.

3.4.2: EXCHANGE-TRADED DERIVATIVES

Table 1.2: The global derivatives industry: Outstanding contracts, (in $ billion)

1995 1996 1997 1998 1999

Exchange traded instruments 9283 10018 12403 13932 13522

Interest rate futures and options 8618 9257 11221 12643 11669

Currency futures and options 154 171 161 81 59

Stock Index futures and options 511 591 1021 1208 1793

Some OTC instruments 17713 25453 29035 80317 88201

Interest rate swaps and options 16515 23894 27211 44259 53316

Currency swaps and options 1197 1560 1824 5948 4751

Other instruments - - - 30110 30134

Total 26996 35471 41438 94249 101723

Chronology of instruments

1874 Commodity futures

1972 Foreign currency futures

1973 Equity options

1975 Treasury bond futures

1981 Currency swaps

1982 Interest rate swaps, T note futures, Eurodollar futures, Equity index futures, Options on T bond futures, Exchange listed currency options

1983 Options on equity index, Options on T-note futures, Options on currency futures, Options on equity index futures, interest rate caps and floors

1985 Eurodollar options, Swap options

1987 OTC compound options, OTC average options

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1989 Futures on interest rate swaps, Quanto options

1990 Equity index swaps

1991 Differential swaps

1993 Captions, exchange listed FLEX options

1994 Credit default options

4.2: OTC DERIVATIVES

The OTC derivatives markets have witnessed rather sharp growth over the last few years, which have accompanied the modernization of commercial and investment banking and globalization of financial activities. The recent developments in information technology have contributed to a great extent to these developments. While both exchange-traded and OTC derivative contracts offer many benefits, the former have rigid structures compared to the latter. It has been widely discussed that the highly leveraged institutions and their OTC derivative positions were the main cause of turbulence in financial markets in 1998. These episodes of turbulence revealed the risks posed to market stability originating in features of OTC derivative instruments and markets.

4.2.1: Exchange-traded vs. OTC derivatives markets

The management of counter-party (credit) risk is decentralized and located within individual institutions,

There are no formal centralized limits on individual positions, leverage, or margining,

There are no formal rules for risk and burden-sharing,

There are no formal rules or mechanisms for ensuring market stability and integrity, and for safeguarding the collective interests of market participants, and

The OTC contracts are generally not regulated by a regulatory authority and the exchange’s self-regulatory organization, although they are affected indirectly by national legal systems, banking supervision and market surveillance.

Some of the features of OTC derivatives markets embody risks to financial market stability.

The following features of OTC derivatives markets can give rise to instability in institutions, markets, and the international financial system: (i) the dynamic nature of gross credit exposures; (ii) information asymmetries; (iii) the effects of OTC derivative activities on available aggregate credit; (iv) the high concentration of OTC derivative activities in major institutions; and (v) the central role of OTC derivatives markets in the global financial system. Instability arises when shocks, such as counter-party credit events and sharp movements in asset prices that underlie derivative contracts, occur which significantly alter the perceptions of current and potential future credit exposures. When asset prices change [Type text]

rapidly, the size and configuration of counter-party exposures can become unsustainably large and provoke a rapid unwinding of positions.

There has been some progress in addressing these risks and perceptions. However, the progress has been limited in implementing reforms in risk management, including counter-party, liquidity and operational risks, and OTC derivatives markets continue to pose a threat to international financial stability. The problem is more acute as heavy reliance on OTC derivatives creates the possibility of systemic financial events, which fall outside the more formal clearing house structures. Moreover, those who provide OTC derivative products, hedge their risks through the use of exchange traded derivatives. In view of the inherent risks associated with OTC derivatives, and their dependence on exchange traded derivatives, Indian law considers them illegal.

4.2.2Development of markets in India:

Exchange traded products provide the benefits of transparent pricing and robust risk management. The Reserve Bank introduced currency futures and interest rate futures on the exchanges with a view to increasing the depth and breadth of the derivatives market, in turn helping to provide an effective risk management framework to users.  

Currency futures were launched on the National Stock Exchange (NSE) in August 2008 and

subsequently on other exchanges. European style option on USD‐INR pairs was launched on NSE and USE in October 2010. The biggest challenge in designing a framework for exchange traded currency derivatives in India was the prevailing regulatory system for the OTC products. In the OTC environment, there is an elaborate framework for regulating transactions, including derivatives, and the presence of an underlying exposure is an essential requirement. It was not possible to carry over this requirement onto the exchange traded market. To deal with this, even if partially, position limits have been imposed on exposures to exchange traded products.  

Interest Rate Futures (IRF) contracts on 10‐year notional coupon bonds were launched on NSE in August 2009. Persons resident in India and FIIs have been permitted to participate in the market. The product witnessed significant activity during the initial period, but liquidity tapered off subsequently. The muted market response to IRF is generally attributed to the

illiquidity nature of the underlying G‐sec market and lack of hedging interest in the wake of present HTM regime.  

Notwithstanding this experience, RBI has already issued guidelines for futures contracts on

91‐ day T‐Bills, which are expected to be introduced shortly. We are also considering

introduction of IRF contracts on 2 year and 5 year G‐Secs to provide the products at the shorter end which would offer flexible hedging options to the market participants.

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The most commonly used derivatives contracts are forwards, futures and options which we shall discuss in detail later. Here we take a brief look at various derivatives contracts that have come to be used.

Forwards: A forward contract is a customized contract between two entities, where settlement takes place on a specific date in the future at today’s pre-agreed price.

Futures: A futures contract is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price. Futures contracts are special types of forward contracts in the sense that the former are standardized exchange-traded contracts.

Options: Options are of two types - calls and puts. Calls give the buyer the right but not the obligation to buy a given quantity of the underlying asset, at a given price on or before a given future date. Puts give the buyer the right, but not the obligation to sell a given quantity of the underlying asset at a given price on or before a given date.

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.

Others:

Warrants: Options generally have lives of upto 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.

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LEAPS: The acronym LEAPS means Long-Term Equity Anticipation Securities. These are options having a maturity of upto three years.

Baskets: Basket options are options on portfolios of underlying assets. The underlying asset is usually a moving average or a basket of assets. Equity index options are a form of basket options.

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.

FUTURE CONTRACT

In finance, a futures contract is a standardized contract, traded on a futures exchange, to buy or sell a certain underlying instrument at a certain date in the future, at a pre-set price. The future date is called the delivery date or final settlement date. The pre-set price is called the futures price. The price of the underlying asset on the delivery date is called the settlement price. The settlement price, normally, converges towards the futures price on the delivery date. A futures contract gives the holder the right and the obligation to buy or sell, which differs from an options contract, which gives the buyer the right, but not the obligation, and the option writer (seller) the obligation, but not the right. To exit the commitment, the holder of a futures position has to sell his long position or buy back his short position, effectively closing out the futures position and its contract obligations. Futures contracts are exchange traded derivatives. The exchange acts as counterparty on all contracts, sets margin requirements, etc.

BASIC FEATURES OF FUTURE CONTRACT

1. Standardization : Futures contracts ensure their liquidity by being highly standardized, usually by specifying:

a. The underlying. This can be anything from a barrel of sweet crude oil to a short term interest rate.

b. The type of settlement, either cash settlement or physical settlement.c. The amount and units of the underlying asset per contract. This can be

thenotional amount of bonds, a fixed number of barrels of oil, units of foreign currency, the notional amount of the deposit over which the short term interest rate is traded, etc.

d. The currency in which the futures contract is quoted.e. The grade of the deliverable. In case of bonds, this specifies which bonds can

be delivered. In case of physical commodities, this specifies not only the quality of the underlying goods but also the manner and location of delivery. The delivery month.

f. The last trading date.g. Other details such as the tick, the minimum permissible price fluctuation.

2. Margin : Although the value of a contract at time of trading should be zero, its price constantly fluctuates. This renders the owner liable to adverse changes in value, and creates a credit risk to the exchange, who always acts as counterparty. To minimize

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this risk, the exchange demands that contract owners post a form of collateral, commonly known as Margin requirements are waived or reduced in some cases for hedgers who have physical ownership of the covered commodity or spread traders who have offsetting contracts balancing the position.

Initial Margin: is paid by both buyer and seller. It represents the loss on thatcontract, as determined by historical price changes, which is not likely to beexceeded on a usual day's trading. It may be 5% or 10% of total contract rice.Mark to market Margin: Because a series of adverse price changes mayexhaust the initial margin, a further margin, usually called variation ormaintenance margin, is required by the exchange. This is calculated by thefutures contract, i.e. agreeing on a price at the end of each day, called the"settlement" or mark-to-market price of the contract. To understand the original practice, consider that a futures trader, when taking aposition, deposits money with the exchange, called a "margin". This is intended to protect the exchange against loss. At the end of every trading day, the contract is marked to its present market value. If the trader is on the winning side of a deal, his contract has increased in value that day, and the exchange pays this profit into his account. On the other hand, if he is on the losing side, the exchange will debit his account. If he cannot pay, then the margin is used as the collateral from which the loss is paid.3. Settlement: Settlement is the act of consummating the contract, and can be done in one of two ways, as specified per type of futures contract:· Physical delivery - the amount specified of the underlying asset of the contract is delivered by the seller of the contract to the exchange, and by the exchange to the buyers of the contract. In practice, it occurs only on a minority of contracts. Most are cancelled out by purchasing a covering position - that is, buying a contract to cancel out an earlier sale (covering a short), or selling a contract to liquidate an earlier purchase (covering a long). · Cash settlement - a cash payment is made based on the underlying reference rate, such as a short term interest rate index such as Euribor, or the closing value of a stock market index. A futures contract might also opt to settle against an index based on trade in a related spot market.Expiry is the time when the final prices of the future are determined. For many equity index and interest rate futures contracts, this happens on the Last Thursday of certain trading month. On this day the t+2 futures contract becomesthe t forward contract.

PRICING OF FUTURE CONTRACT

In a futures contract, for no arbitrage to be possible, the price paid on delivery (the forward price) must be the same as the cost (including interest) of buying and storing the asset. In other words, the rational forward price represents the expected future value of the underlying discounted at the risk free rate. Thus, for a simple, non-dividend paying asset, the value of the

future/forward , , will be found by discounting the present value at time t to maturity T by the rate of risk- free return r .

This relationship may be modified for storage costs, dividends, dividend yields, and convenience yields. Any deviation from this equality allows for arbitrage as follows. In the case where the forward price is higher:

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1. The arbitrageur sells the futures contract and buys the underlying today (on the spot market) with borrowed money.2. On the delivery date, the arbitrageur hands over the underlying, and receives the agreed forward price.3. He then repays the lender the borrowed amount plus interest. 4. The difference between the two amounts is the arbitrage profit. In the case where the forward price is lower:1. The arbitrageur buys the futures contract and sells the underlying today (on the spot market); he invests the proceeds.2. On the delivery date, he cashes in the matured investment, which has appreciated at the risk free rate.3. He then receives the underlying and pays the agreed forward price using the matured investment. [If he was short the underlying, he returns it now.]4. The difference between the two amounts is the arbitrage profit.

FORWARD CONTRACTS

A forward contract is an agreement to buy or sell an asset on a specifieddate for a specified price. One of the parties to the contract assumes a long position and agrees to buy the underlying asset on a certain specified future date for a certain specified price. The other party assumes a short position and agrees to sell the asset on the same date for the same price. Other contract details like delivery date, price and quantity are negotiated bilaterally by the parties to the contract. The forward contracts are normally traded outside the exchanges.

BASIC FEATURES OF FORWARD CONTRACT

• They are bilateral contracts and hence exposed to counter-party risk.• Each contract is custom designed, and hence is unique in terms of contract size, expiration date and the asset type and quality.• The contract price is generally not available in public domain.• On the expiration date, the contract has to be settled by delivery of the asset.• If the party wishes to reverse the contract, it has to compulsorily go to the same counter-party, which often results in high prices being charged. However forward contracts in certain markets have become very standardized, as in the case of foreign exchange, thereby reducing transaction costs and increasing transactions volume. This process of standardization reaches its limit in the organized futures market. Forward contracts are often confused with futures contracts. The confusion is primarily because both serve essentially the same economic functions of allocating risk in the presence of future price uncertainty. However futures are a significant improvement over the forward contracts as they eliminate counterparty risk and offer more liquidity.

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DISTINCTION BETWEEN FUTURES AND FORWARDS

Table 1.3: DISTINCTION BETWEEN FUTURES AND FORWARDS CONTRACTS

FEATURE FORWARD CONTRACT

FUTURE CONTRACT

OperationalMechanism

Traded directly betweentwo parties (not traded onthe exchanges).

Traded on the exchanges.

Contract Specifications

Differ from trade to trade

Contracts are standardizedcontracts.

Counter-party risk Exists. Exists. However, assumed by the clearing corp., which becomes the counter party to all the trades or unconditionally guarantees their settlement.

Liquidation Profile Low, as contracts are tailor made contracts catering to the needs of the needs of the parties.

High, as contracts are standardized exchange traded contracts.

Price discovery Not efficient, as marketsare scattered.

Efficient, as markets are centralized and all buyers and sellers come to a common platform to discover the price.

Examples Currency market in India

Commodities, futures, Index Futures and individual stock Futures in India.

.

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OPTIONS

A derivative transaction that gives the option holder the right but not the obligation to buy or sell the underlying asset at a price, called the strike price, during a period or on a specific date in exchange for payment of a premium is known as ‘option’. Underlying asset refers to any asset that is traded. The price at which the underlying is traded is called the ‘strike price’. There are two types of options i.e.

CALL OPTION & PUT OPTION.

CALL OPTION:A contract that gives its owner the right but not the obligation to buy an underlying asset-stock or any financial asset, at a specified price on or before a specified date is known as a ‘Call option’. The owner makes a profit provided he sells at a higher current price and buys at a lower future price.

PUT OPTION:

A contract that gives its owner the right but not the obligation to sell an underlying asset-stock or any financial asset, at a specified price on or before a specified date is known as a ‘Put option’. The owner makes a profit provided he buys at a lower current price and sells at a higher future price. Hence, no option will be exercised if the future price does not increase. Put and calls are almost always written on equities, although occasionally preference shares, bonds and warrants become the subject of options.

SWAPS

Swaps are transactions which obligates the two parties to the contract to exchange a series of cash flows at specified intervals known as payment or settlement dates. They can be regarded as portfolios of forward's contracts. AContract whereby two parties agree to exchange (swap) payments, based on some notional principle amount is called as a ‘SWAP’. In case of swap, only the payment flows are exchanged and not the principle amount. The two commonly used swaps are:

INTEREST RATE SWAPS:Interest rate swaps is an arrangement by which one party agrees to exchange his series of fixed rate interest payments to a party in exchange for his variable rate interest payments. The fixed rate payer takes a short position in the forward contract whereas the floating rate payer takes a long position in the forward contract.

CURRENCY SWAPS:

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Currency swaps is an arrangement in which both the principle amount and the interest on loan in one currency are swapped for the principle and the interest payments on loan in another currency. The parties to the swap contract of currency generally hail from two different countries. This arrangement allows the counter parties to borrow easily and cheaply in their home currencies. Under a currency swap, cash flows to be exchanged are determined at the spot rate at a time when swap is done. Such cash flows are supposed to remain unaffected by subsequent changes in the exchange rates.

FINANCIAL SWAP:Financial swaps constitute a funding technique which permits a borrower to access one market and then exchange the liability for another type of liability. It also allows the investors to exchange one type of asset for another type of asset with a preferred income stream.

Index derivatives

Index derivatives are derivative contracts, which derive their value from an underlying index. The two most popular index derivatives are index futures and index options. Index derivatives have become very popular worldwide. In his report, Dr.L.C.Gupta attributes the popularity of index derivatives to the advantages they offer.

Institutional and large equity-holders need portfolio-hedging facility. Index–derivatives are more suited to them and more cost–effective than derivatives based on individual stocks. Pension funds in the US are known to use stock index futures for risk hedging purposes.

Index derivatives offer ease of use for hedging any portfolio irrespective of its composition.

Stock index is difficult to manipulate as compared to individual stock prices, more so in India, and the possibility of cornering is reduced. This is partly because an individual stock has a limited supply, which can be cornered.

Stock index, being an average, is much less volatile than individual stock prices. This implies much lower capital adequacy and margin requirements.

Index derivatives are cash settled, and hence do not suffer from settlement delays and problems related to bad delivery, forged/fake certificates.

The L.C.Gupta committee which was setup for developing a regulatory framework for derivatives trading in India had suggested a phased introduction of derivative products in the following order:

1. Index futures

2. Index options

3. Options on individual stocks

With the entire above infrastructure in place, trading of index futures and index options commenced at NSE in June 2000 and June 2001 respectively.

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Myths and realities about derivatives

In less than three decades of their coming into vogue, derivatives markets have become the most important markets in the world. Financial derivatives came into the spotlight along with the rise in uncertainty of post-1970, when US announced an end to the Breton Woods System of fixed exchange rates leading to introduction of currency derivatives followed by other innovations including stock index futures. Today, derivatives have become part and parcel of the day-to-day life for ordinary people in major parts of the world. While this is true for many countries, there are still apprehensions about the introduction of derivatives. There are many myths about derivatives but the realities that are different especially for Exchange traded derivatives, which are well regulated with all the safety mechanisms in place.

What are these myths behind derivatives?

Derivatives increase speculation and do not serve any economic purpose

Indian Market is not ready for derivative trading

Disasters prove that derivatives are very risky and highly leveraged instruments

Derivatives are complex and exotic instruments that Indian investors will find difficulty in understanding

Is the existing capital market safer than Derivatives?

Derivatives increase speculation and do not serve any economic purpose While the fact is...

Numerous studies of derivatives activity have led to a broad consensus, both in the private and public sectors that derivatives provide numerous and substantial benefits to the users. Derivatives are a low-cost, effective method for users to hedge and manage their exposures to interest rates, commodity prices, or exchange rates. The need for derivatives as hedging tool was felt first in the commodities market. Agricultural futures and options helped farmers and processors hedge against commodity price risk. After the fallout of Breton wood agreement, the financial markets in the world started undergoing radical changes. This period is marked by remarkable innovations in the financial markets such as introduction of floating rates for the currencies, increased trading in variety of derivatives instruments, on-line trading in the capital markets, etc. As the complexity of instruments increased many folds, the accompanying risk factors grew in

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gigantic proportions. This situation led to development derivatives as effective risk management tools for the market participants.

Looking at the equity market, derivatives allow corporations and institutional investors to effectively manage their portfolios of assets and liabilities through instruments like stock index futures and options. An equity fund, for example, can reduce its exposure to the stock market quickly and at a relatively low cost without selling off part of its equity assets by using stock index futures or index options. By providing investors and issuers with a wider array of tools for managing risks and raising capital, derivatives improve the allocation of credit and the sharing of risk in the global economy, lowering the cost of capital formation and stimulating economic growth. Now that world markets for trade and finance have become more integrated, derivatives have strengthened these important linkages between global markets, increasing market liquidity and efficiency and facilitating the flow of trade and finance.

Indian Market is not ready for derivative trading  

While the fact is...

Often the argument put forth against derivatives trading is that the Indian capital market is not ready for derivatives trading. Here, we look into the pre-requisites, which are needed for the introduction of derivatives, and how Indian market fares: Table 1.4: PRE-REQUISITES INDIAN SCENARIO

Large market Capitalization India is one of the largest market-capitalized countries in Asia with a market capitalization of more than Rs.765000 crores.

High Liquidity in the underlying The daily average traded volume in Indian capital market today is around 7500 crores. Which means on an average every month 14% of the country’s Market capitalization gets traded. These are clear indicators of high liquidity in the underlying.

Trade guarantee The first clearing corporation guaranteeing trades has become fully functional from July 1996 in the form of National Securities Clearing Corporation (NSCCL). NSCCL is responsible for guaranteeing all open positions on the National Stock Exchange (NSE) for which it does the clearing

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A Strong Depository National Securities Depositories Limited (NSDL) which started functioning in the year 1997 has revolutionaries the security settlement in our country.

A Good legal guardian In the Institution of SEBI (Securities and Exchange Board of India) today the Indian capital market enjoys a strong, independent, and innovative legal guardian who is helping the market to evolve to a healthier place for trade practices.

Disasters prove that derivatives are very risky and highly leveraged instruments While the fact is... Disasters can take place in any system. The 1992 Security scam is a case in point. Disasters are not necessarily due to dealing in derivatives, but derivatives make headlines... Here I have tried to explain some of the important issues involved in disasters related to derivatives. Careful observation will tell us that these disasters have occurred due to lack of internal controls and/or outright fraud either by the employees or promoters. Derivatives are complex and exotic instruments that Indian investors will have difficulty in understanding

While the fact is...

Trading in standard derivatives such as forwards, futures and options is already prevalent in India and has a long history. Reserve Bank of India allows forward trading in Rupee-Dollar forward contracts, which has become a liquid market. Reserve Bank of India also allows Cross Currency options trading.

Forward Markets Commission has allowed trading in Commodity Forwards on Commodities Exchanges, which are, called Futures in international markets. Commodities futures in India are available in turmeric, black pepper, coffee, Gur (jaggery), hessian, castor seed oil etc. There are plans to set up commodities futures exchanges in Soya bean oil as also in Cotton. International markets have also been allowed (dollar denominated contracts) in certain commodities. Reserve Bank of India also allows the users to hedge their portfolios through derivatives exchanges abroad. Detailed guidelines have been prescribed by the RBI for the purpose of getting approvals to hedge the user’s exposure in international markets.

Derivatives in commodities markets have a long history. The first commodity futures exchange was set up in 1875 in Mumbai under the aegis of Bombay Cotton Traders Association (Dr.A.S.Naik, 1968, Chairman, Forwards Markets Commission, India, 1963-68). A clearinghouse for clearing and settlement of these trades was set up in 1918. In oilseeds, a futures market was established in 1900. Wheat futures market began in Hapur in 1913.

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Futures market in raw jute was set up in Calcutta in 1912. Bullion futures market was set up in Mumbai in 1920.

History and existence of markets along with setting up of new markets prove that the concept of derivatives is not alien to India. In commodity markets, there is no resistance from the users or market participants to trade in commodity futures or foreign exchange markets. Government of India has also been facilitating the setting up and operations of these markets in India by providing approvals and defining appropriate regulatory frameworks for their operations.

Approval for new exchanges in last six months by the Government of India also indicates that Government of India does not consider this type of trading to be harmful albeit within proper regulatory framework.

This amply proves that the concept of options and futures has been well ingrained in the Indian equities market for a long time and is not alien as it is made out to be. Even today, complex strategies of options are being traded in many exchanges which are called teji-mandi, jota-phatak, bhav-bhav at different places in India Vohra and Bagari, 1998) In that sense, the derivatives are not new to India and are also currently prevalent in various markets including equities markets.

Is the existing capital market safer than Derivatives?

While the fact is...

World over, the spot markets in equities are operated on a principle of rolling settlement. In this kind of trading, if you trade on a particular day (T), you have to settle these trades on the third working day from the date of trading (T+3).

Futures market allow you to trade for a period of say 1 month or 3 months and allow you to net the transaction taken place during the period for the settlement at the end of the period. In India, most of the stock exchanges allow the participants to trade during one-week period for settlement in the following week. The trades are netted for the settlement for the entire one-week period. In that sense, the Indian markets are already operating the futures style settlement rather than cash markets prevalent internationally.

In this system, additionally, many exchanges also allow the forward trading called badla in Gujarati and Contango in English, which was prevalent in UK. This system is prevalent currently in France in their monthly settlement markets. It allowed one to even further increase the time to settle for almost 3 months under the earlier regulations. This way, a curious mix of futures style settlement with facility to carry the settlement obligations forward creates discrepancies.

The more efficient way from the regulatory perspective will be to separate out the derivatives from the cash market i.e. introduce rolling settlement in all exchanges and at the same time allow futures and options to trade. This way, the regulators will also be able to [Type text]

regulate both the markets easily and it will provide more flexibility to the market participants.

In addition, the existing system although futures style, does not ask for any margins from the clients. Given the volatility of the equities market in India, this system has become quite prone to systemic collapse. This was evident in the MS Shoes scandal. At the time of default taking place on the BSE, the defaulting member of the BSE Mr.Zaveri had a position close to Rs.18 crores. However, due to the default, BSE had to stop trading for a period of three days. At the same time, the Barings Bank failed on Singapore Monetary Exchange (SIMEX) for the exposure of more than US $ 20 billion (more than Rs.84,000 crore) with a loss of approximately US $ 900 million ( around Rs.3,800 crore). Although, the exposure was so high and even the loss was also very big compared to the total exposure on MS Shoes for BSE of Rs.18 crores, the SIMEX had taken so much margins that they did not stop trading for a single minute.

DERIVATIVES TRADING SYSTEM IN INDIA for MARKET PLAYERS

Comparision of New System with Existing System for Market Players

Many people and brokers in India think that the new system of Futures & Options and banning of Badla is disadvantageous and introduced early, but I feel that this new system is very useful especially to retail investors. It increases the no of options investors for investment. In fact it should have been introduced much before and NSE had approved it but was not active because of politicization in SEBI.

Players in Derivatives Market and Functions

Three broad categories of participants - hedgers, speculators, and arbitrageurs - trade in the derivatives market. Hedgers face risk associated with the price of an asset. They use futures or options markets to reduce or eliminate this risk. Speculators wish to bet on future movements in the price of an asset. Futures and options contracts can give them an extra leverage; that is, they can increase both the potential gains and potential losses in a speculative venture. Arbitrageurs are in business to take advantage of a discrepancy between prices in two different markets. If, for example, they see the futures price of an asset getting out of line with the cash price, they will take offsetting positions in the two markets to lock in a profit.

The derivative market performs a number of economic functions. First, prices in an organized derivatives market reflect the perception of market participants about the future and lead the prices of underlying to the perceived future level. The prices of derivatives converge with the prices of the underlying at the expiration of derivative contract. Thus derivatives help in discovery of future as well as current prices. Second, the derivatives market helps to transfer risks from those who have them but may not like them to those who have appetite for them. Third, derivatives, due to their inherent nature, are linked to the underlying cash markets.

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With the introduction of derivatives, the underlying market witnesses higher trading volumes because of participation by more players who would not otherwise participate for lack of an arrangement to transfer risk. Fourth, speculative trades shift to a more controlled environment of derivatives market. In the absence of an organized derivatives market, speculators trade in the underlying cash markets. Margining, monitoring and surveillance of the activities of various participants become extremely difficult in these kind of mixed markets. Fifth, an important incidental benefit that flows from derivatives trading is that it acts as a catalyst for new entrepreneurial activity. The derivatives have a history of attracting many bright, creative, well-educated people with an entrepreneurial attitude. They often energize others to create new businesses, new products and new employment opportunities, the benefit of which are immense. Sixth, 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 to the extent the later depends on the rate of savings and investment.

New System Vs Existing System for Market Players

Speculators Figure 8.1

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Arbitrageurs Figure 8.2

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Hedgers Figure 8.3

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ARBITARAGEURS

EXISTING SYSTEM

Approach

1) Buying Stocks in Risk free one and selling in another exchange forward transactions

2) If Future Contract more or less than Fair price.

NEW SYSTEM

Peril &Prize

1) Make money whichever way the Market moves.

Peril &Prize

1) Risk free game.

Approach

1) B Group more promising as still in weekly settlement.

2) Cash & Carry arbitrage continues.

Fair Price = Cash Price + Cost of Carry.

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HEDGERS

EXISTING SYSTEM

Approach

1) Difficult to offload holding during adverse market conditions as circuit filters limit to curtail losses.

NEW SYSTEM

Peril &Prize

1) No leverage available risk reward dependant on market prices.

Peril &Prize

1) Additional cost is only premium.

Approach

1) Fix price today to buy latter by paying premium.

2) For long, buy ATM put option. If market goes up, long position benefit else exercise the option.

3) Sell deep OTM call option with underlying shares; earn premium+ profit with increase price.

AdvantagesAvailability of Leverage

Small Investors Figure 2.4

9: National Exchanges for Derivatives

In enhancing the institutional capabilities for futures trading the idea of setting up of National Commodity Exchange(s) has been pursued since 1999. Three such xchanges, viz, National Multi-Commodity Exchange of India Ltd.,(NMCE), Ahmedabad, National Commodity & Derivatives Exchange (NCDEX), Mumbai, and Multi Commodity Exchange (MCX), Mumbai have become operational. “National Status” implies that these exchanges would beautomatically permitted to conduct futures trading in all commodities subject toclearance of byelaws and contract specifications by the FMC. While the NMCE, Ahmedabad commenced futures trading in November 2002, MCX and NCDEX Mumbai commenced operations in October/ December 2003 respectively.

MCX

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MCX (Multi Commodity Exchange of India Ltd.) an independent and demutualised multi commodity exchange has permanent recognition from Government of India for facilitating online trading, clearing and settlement operations for commodity futures markets across the country. Key shareholdersof MCX are Financial Technologies (India) Ltd., State Bank of India, HDFC Bank,State Bank of Indore, State Bank of Hyderabad, State Bank of Saurashtra, SBILife Insurance Co. Ltd., Union Bank of India, Bank of India, Bank ofBaroda, Canera Bank, Corporation Bank Headquartered in Mumbai, MCX is led by an expert management team with deep domain knowledge of the commodity futures markets. Today MCX is offering spectacular growth opportunities and advantages to a large cross section of the participants including Producers / Processors, Traders, Corporate, Regional Trading Canters, Importers, Exporters, Cooperatives, Industry Associations, amongst others MCX being nation-wide commodity exchange, offering multiple commodities for trading with wide reach and penetration and robust infrastructure.

MCX, having a permanent recognition from the Government of India, is an independent and demutualised multi commodity Exchange. MCX, a state-ofthe-art nationwide, digital Exchange, facilitates online trading, clearing and settlement operations for a commodities futures trading.

NMCE

National Multi Commodity Exchange of India Ltd. (NMCE) was promoted by Central Warehousing Corporation (CWC), National Agricultural Cooperative Marketing Federation of India (NAFED), Gujarat Agro-Industries Corporation Limited (GAICL), Gujarat State Agricultural Marketing Board (GSAMB), National Institute of Agricultural Marketing (NIAM), and Neptune Overseas Limited (NOL). While various integral aspects of commodity economy, viz., warehousing, cooperatives, private and public sector marketing of agricultural commodities, research and training were adequately addressed in structuring the Exchange, finance was still a vital missing link. Punjab National Bank (PNB) took equity of the Exchange to establish that linkage. Even today, NMCE is the only Exchange in India to have such investment and technical support from the commodity relevant institutions. NMCE facilitates electronic derivatives trading through robust and tested trading platform, Derivative Trading Settlement System (DTSS), provided by CMC. It has robust delivery mechanism making it the most suitable for the participants in the physical commodity markets. It has also established fair and transparent rule-based procedures and demonstrated total commitment towards eliminating any conflicts of interest. It is the only Commodity Exchange in the world to have received ISO 9001:2000 certification from British Standard Institutions (BSI). NMCE was the first commodity exchange to provide trading facility through internet, through Virtual Private Network (VPN). NMCE follows best international risk management practices. The contracts are marked to market on daily basis. The system of upfront margining based on Value at Risk is followed to ensure financial security of the market. In the event of high volatility in the prices, special intra-day clearing and settlement is held. NMCE was the first to initiate process of dematerialization and electronic transfer of warehoused commodity stocks. The unique strength of NMCE is its settlements via a Delivery Backed System, an imperative in the commodity trading business. These deliveries are executed through a sound and reliable Warehouse Receipt System, leading to guaranteed clearing and settlement.

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NCDEX

National Commodity and Derivatives Exchange Ltd (NCDEX) is a technology driven commodity exchange. It is a public limited company registered under the Companies Act, 1956 with the Registrar of Companies, Maharashtra in Mumbai on April 23,2003. It has an independent Board of Directors and professionals not having any vested interest in commodity markets. It has been launched to provide a world-class commodity exchange platform for market participants to trade in a wide spectrum of commodity derivatives driven by best global practices, professionalism and transparency. Forward Markets Commission regulates NCDEX in respect of futures trading in commodities. Besides, NCDEX is subjected to various laws of the land like the Companies Act, Stamp Act, Contracts Act, Forward Commission (Regulation) Act and various other legislations, which impinge on its working. It is located in Mumbai and offers facilities to its members in more than 390 centres throughout India. The reach will gradually be expanded to more centres. NCDEX currently facilitates trading of thirty six commodities - Cashew, Castor Seed, Chana, Chilli, Coffee, Cotton, Cotton Seed Oilcake, Crude Palm Oil, Expeller Mustard Oil, Gold, Guar gum, Guar Seeds, Gur, Jeera, Jute sacking bags, Mild Steel Ingot, Mulberry Green Cocoons, Pepper, Rapeseed – Mustard Seed ,Raw Jute, RBD Palmolein, Refined Soy Oil, Rice, Rubber, Sesame Seeds,Silk, Silver, Soy Bean, Sugar, Tur, Turmeric, Urad (Black Matpe), Wheat, Yellow Peas, Yellow Red Maize & Yellow Soybean Meal.

THE CURRENT PROFILE OF FUTURES TRADING ININDIA WITH RESPECT TO THE VARIOUS EXCHANGES IN INDIA:-

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The Present Status:

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Presently futures’ trading is permitted in all the commodities. Trading istaking place in about 78 commodities through 25 Exchanges/Associations asgiven in the table below:-

TABLE 4 Registered commodity exchanges in India

No Exchange Commodity1 India Pepper & Spice Trade Association, Kochi

(IPSTA)Pepper (both domestic and international contracts)

2 Vijai Beopar Chambers Ltd, Muzaffarnagar Gur, Mustard seed3 Rajdhani Oils & Oilseeds Exchange Ltd., Delhi Gur, Mustard seed its oil & oilcake4 Bhatinda Om & Oil Exchange Ltd., Bhatinda Gur5 The Chamber of Commerce, Hapur Gur, Potatoes and Mustard 6 The Meerut Agro Commodities Exchange Ltd.,

MeerutGur

7 The Bombay Commodity Exchange Ltd., Mumbai Oilseed Complex, Castoroil international contracts

8 Rajkot Seeds, Oil & Bullion Merchants Association, Rajkot

Castor seed, Groundnut, its oil & cake, cottonseed, its oil & cake, cotton (kapas) and RBDpalmolein.

9 The Ahmedabad Commodity Exchange, Ahmedabad Castorseed, cottonseed, its, oil and oilcake

10 The East India Jute & HessianExchange Ltd., Calcutta

1.4.2010 to 31.3.2011 Jute goods : Hessian & Sacking (TSD) 7.4.2010 to 6.4.2011 Raw Jute (futures)

11 The East India Cotton AssociationLtd., Mumbai

Cotton

12 The Spices & Oilseeds ExchangeLtd., Sangli.

Turmeric

13 National Board of Trade, Indore . Soya seed, Soyaoil and,Soya meals,,Rapeseed/Mustardseed itsoil and oilcake and RBDPalmolien

14 The First Commodities Exchange ofIndia Ltd., Kochi

Copra/coconut, its oil &oilcake

15 Central India CommercialExchange Ltd., Gwalior

Gur and Mustard seed

16 E-sugar India Ltd., Mumbai . Sugar

17 National Multi-CommodityExchange of India Ltd., Ahmedabad

Several Commodities

18 Coffee Futures Exchange IndiaLtd., Bangalore

Coffee

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19 Surendranagar Cotton Oil &Oilseeds, Surendranagar

Cotton, Cottonseed, Kapas

20 E-Commodities Ltd., New Delhi Sugar (trading yet tocommence)

21 National Commodity & Derivatives,Exchange Ltd., Mumbai

Several Commodities

22 Multi Commodity Exchange Ltd.,Mumbai

Several Commodities

23 Bikaner commodity Exchange Ltd.,Bikaner

Mustard seeds its oil &oilcake, Gram. Guar seed.Guar Gum

24 Haryana Commodities Ltd., Hissar Mustard seed complex25 Bullion Association Ltd., Jaipur Mustard seed Complex

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CHAPTER-III

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2. COMPANY PROFILE

Introduction to India bulls

India bulls are India’s leading Financial and Real Estate Company with a wide presence throughout India. They ensure convenience and reliability in all their products and services. India bulls have over 640 branches all over India. The customers of India bulls are more than 4,50,000 which covers from a wide range of financial services and products from securities, derivatives trading, depositary services, research & advisory services, consumer secured & unsecured credit, loan against shares and mortgage & housing finance. The company employs around 4000 Relationship managers who help the clients to satisfy their customized financial goals. India bulls entered the Real Estate business in the year 2005 with its group of companies. Large scale projects worth several hundred million dollars are evaluated by them.

India bulls Financial Services Ltd is listed on the National Stock Exchange (NSE), Bombay Stock Exchange (BSE) and Luxembourg Stock Exchange. The market capitalization of India bulls is around USD 2500 million (29thDecember, 2006). Consolidated net worth of the group is around USD 700 million. India bulls and its group companies have attracted USD 500 million of equity capital in Foreign Direct Investment (FDI) since March 2000. Some of the large shareholders of India bulls are the largest financial institutions of the world such as Fidelity Funds, Goldman Sachs, Merrill Lynch, Morgan Stanley and Farallon Capital.

India bulls Group is one of the top business houses in the country with business interests in Real Estate, Infrastructure, Financial Services, Retail, Multiplex and Power sectors. India bulls Group companies are listed in Indian and overseas financial markets. The Net worth of the Group exceeds USD 3.8 billion. India bulls has been conferred the status of a “Business Super brand” by The Brand Council, Super brands India.

India bulls Financial Services is an integrated financial services powerhouse providing Consumer Finance, Housing Finance, Commercial Loans, Life Insurance, Asset Management and Advisory services. India bulls Financial Services Ltd is amongst 68 companies constituting MSCI - Morgan Stanley India Index. India bulls Financial is also part of CLSA’s model portfolio of 30 Best Companies in Asia. India bulls Financial Services signed a joint venture agreement with Sogecap, the insurance arm of Societé Generale (SocGen) for its upcoming life insurance venture. India bulls Financial Services in partnership with MMTC Limited, the largest commodity trading company in India, has set up India’s 4th Multi-Commodities Exchange.

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India bulls Real Estate Limited is India’s third largest property company with development projects spread across residential projects, commercial offices, hotels, malls, and Special Economic Zones (SEZs) infrastructure development. India bulls Real Estate partnered with Farallon Capital Management LLC of USA to bring the first FDI into real estate. India bulls Real Estate is transforming 14 million sqft in 16 cities into premium quality, high-end commercial, residential and retail spaces. India bulls Real Estate has diversified significantly in the following business verticals within the real estate space: Real Estate Development, Project Advisory & Facilities Management: Residential, Commercial (Office and Malls) and SEZ Development.

India bulls Securities Limited is India’s leading capital markets company with All-India Presence and an extensive client base. India bulls Securities possesses state of the art trading platform, best broking practices and is the pioneer in trading product innovations. Power India bulls, in-house trading platform, is one of the fastest and most efficient trading platforms in the country.. Indiabulls Securities Limited is the first brokerage house to be assigned the highest rating BQ – 1 by CRISIL.

Growth of Indiabulls

Year 2000-01:

One of India’s first trading platforms was set up by Indiabulls Financial Services Ltd. with the development of an in-house team.

Year 2001-03:

The service offered by Indiabulls was increased to include Equity, F&O, Wholesale Debt, Mutual fund, IPO Financing/Distribution and Equity Research.

Year 2003-04:

In this particular year Indiabulls ventured into Distribution and Commodities Trading business.

Year 2004-05:

This was one of the most important years in the history of Indiabulls. In this year:

India bulls came out with its initial public offer (IPO) in September 2004.

India bulls started its Consumer Finance business.

India bulls entered the Indian Real Estate market and became the first company to bring FDI in Indian Real Estate.

India bulls won bids for landmark properties in Mumbai.

Year 2005-06:

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In this year the company acquired over 115 acres of land in Sonepat for residential home site development. The world renowned investment banks like Merrill Lynch and Goldman Sachs increased their shareholding in Indiabulls. It also became a market leader in securities brokerage industry, with around 31% share in Online Trading. The world’s largest hedge fund, Farallon Capital and its affiliates committed Rs. 2000 million for Indiabulls subsidiaries Viz. Indiabulls Credit Services Ltd. and Indiabulls Housing Finance Ltd. In the same year, the Steel Tycoon Mr. L N Mittal promoted LNM India Internet venture Ltd. acquired 8.2% stake in Indiabulls Credit Services Ltd.

Year 2006-07:

In this year, Indiabulls Financial Services Ltd. was included in the prestigious Morgan Stanley Capital International Index (MSCI). Indiabulls Financial Services Ltd. was benefited with the Farallon Capital agreeing to invest Rs. 6,440 million in it. The company also received an “in principle approval” from Government of India for development of multi product SEZ in the state of Maharashtra. Indiabulls Financial Services Ltd acquired 100% of the equity share capital of Noble Realtors Pvt. Ltd. Noble Realtors is a Company engaged in the business of construction and development of real estate projects. Indiabulls Real Estate Business was demerged to become a separate entity called Indiabulls Real Estate Ltd. The Board of Indiabulls Financial

The Board of Directors

Sameer Gehlaut Chairman and CEO

Gagan Banga Executive Director

Rajiv Rattan CEO

Shamsher Singh Director

Aishwarya Katoch Director

Karan Singh Director

Prem Prakash Mirdha Director

Saurabh K Mittal Director

Amit Jain Company Secretary

Organization Structure- Board of Directors:

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Senior Vice PresidentSenior Vice President

Regional Manager Regional Manager

Branch Manager Senior Sales Manager Branch Manager Senior Sales Manager

Support System Sales Function

RM/SRM

ARMLocal Compliance OfficerBack Office Executive

Dealer

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Indiabulls Securities

Trading Products

Cash Account Intraday Account Margin Trading

Trading Products of Indiabulls Securities

Indiabulls Securities provide three products for trading. They are

Cash Account: It provides the client to buy 4 times of cash balance in his trading account.

Intraday Product: It provides the client to buy 8 times of his cash balance in the trading account.

Mantra Account: Also called as margin trading, is a special account to buy on leverage for a longer duration

The subsidiaries of India bulls Financial Services Ltd. include:

India bulls Capital Services Ltd.

India bulls Commodities Pvt. Ltd.

India bulls Credit Services Ltd.

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India bulls Finance Co. Pvt. Ltd

India bulls Housing Finance Ltd.

India bulls Insurance Advisors Pvt. Ltd.

India bulls Resources Ltd.

India bulls Securities Ltd

India bulls Financial Services Ltd:

India bulls Financial Services Ltd. was incorporated in the year 2005.The Auditors of India bulls Financial Services Ltd. are Deloitte, Haskins & Sells. The main activity of this company is in relation to securities and stock brokerage. It was also responsible for setting up one of India’s first trading platforms. 

Indiabulls Financial Services is one of India’s leading and fastest growing private sector financial services companies. India bulls Financial Services is an integrated financial services powerhouse providing Consumer Finance, Housing Finance, Commercial Loans, Life Insurance, Asset Management and Advisory services. The company is focused on providing multiple financial services through an extensive network of consumer touch-points covering Tier 1, Tier 2 & Tier 3 cities. India bulls serves more than 500,000 customers across different financial products through its branch network, call centers & the internet. It also ranks among the top private sector financial services and banking groups in terms of net worth.

India bulls Securities Limited:

India bulls Securities Limited is India’s leading capital markets company with All-India Presence and an extensive client base. India bulls Securities is the first and only brokerage house in India to be assigned the highest rating BQ – 1 by CRISIL. India bulls Securities Ltd is listed on NSE, BSE & Luxembourg stock exchange

India bulls Real Estate Limited:

India bulls Real Estate Limited with projects covering a total land area in excess of 10,000 acres is one of the largest listed real estate companies in India and a leading national player across multiple realty and infrastructure sectors. IBREL projects include High-end Office and Commercial Spaces, Premium Residential Developments, Integrated Townships, Luxury Resorts and Special Economic Zones. IBREL is partners with internationally renowned consultants and construction companies for its developments at various stages of execution.

Store One Retail India Ltd:

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Retailing in India is gradually inching its way to becoming the next booming industry. The whole concept of shopping has changed in terms of consumer buying behavior and leading to a revolution in shopping. Modern retail has entered India in the form of sprawling shopping centers, multi-storied lifestyle malls and huge complexes offer shopping, entertainment and food all under one large roof.

A retail business works on a network environment as the stores connect to one another as well as to supplier sites. This is because in the retail business quick response is the key to success. Retail is buzzing with lot of excitement and euphoria. The market is growing and government policies are becoming more favorable and emerging technologies are facilitating operations.

The next few years will be amongst the most remarkable in the evolution of modern retail in India and Store One Retail India Ltd. is amongst those that have aspired to emerge into this booming industry.

Store One Retail India Ltd. is the retail arm of Indiabulls Group, a business conglomerate catering to the entire Indian consumption space.

Store One Retail operates on multiple retail formats in both value and lifestyle segment of the Indian consumer market.

The company has forayed in  multiple formats which include Store One (in the process of being re-branded) - a chain of lifestyle stores, “happy store” - a hyper format retail chain offering great value for money on daily needs, apparels, home and appliances. The company already has operational stores at Pune, Nagpur & Faridabad (NCR) .The Company plans to stretch its footprint across the nation with the addition of more such stores.

 INDIABULLS POWER BUSINESS: India bulls Power Limited was established in 2007 to capitalize on emerging opportunities in the Indian power sector. It develops and intends to operate and maintain power projects in India. Indiabulls is currently developing Five Thermal Power Projects with an aggregate capacity of approximately 6600 MW. These projects include, Amravati Phase-I (1320 MW), Amravati Phase-II (1320 MW), Nasik (1335 MW) in Maharashtra, Bhaiyathan Thermal Power Project (1320 MW) & Chhattisgarh Power Project (1320 MW) in the State of Chhattisgarh. In addition to the above Indiabulls is also developing four medium size Hydro Power Projects in Arunachal Pradesh aggregating to 167 MW. Indiabulls has also entered into MoUs with the Govt. of Madhya Pradesh and Jharkhand for setting up of 2640 MW & 1320 MW Thermal Power Projects in each of these States respectively.

Indiabulls power trading ltd:

Indian Power Trading sector has come a long way since trading was recognized as a distinct activity in the Indian Electricity Act 2003. By the end of FY 2008-09 the traded volume has increased manifold since 2003. The market has matured in terms of volume traded, number of trading entities and sophistication of the trading instruments. India saw its first online exchange for trading of electricity in 2008 thus further improving the price discovery

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mechanism. The country today has two operational Power Exchanges which are operating on Day Ahead contracts. The electricity futures have also been introduced on an Indian Commodity Exchange.

These developments in the market open up a new dimension in the Indian energy sector for optimization of Demand and Supply by way of trading. Trading of electric power would help the entities with surplus or deficit power situations to ensure optimal utilization of their resources & create an inter-regional & intra-regional balance in respect of power.

Indiabulls group companies Indiabulls Power Trading Limited and Indiabulls Power Generation Limited have been awarded with Category “A” Interstate Power Trading License by the Hon’ble Central Electricity Regulatory Commission (Vide License No. 32/Trading/CERC dated 12.09.2008 and Vide License No. 33/Trading/CERC dated 12.09.2008). Indiabulls has also been granted a category ‘F’ trading license for intrastate trading in Maharashtra by Hon’ble MERC (Vide License No. 2 of 2008 dated 21st August 2008).

  Mutual Fund

  Assets Under management as on 28th Feb 2010

Asset under management of mutual fund industry for the month of February 2010 augmented by meager 1.08% to Rs. 7,66,869 crores compared to Rs. 7,58,712 crores in the prior month. The industry has seen growth for the second consecutive month led by the strong sentiments of the investors in the market & investments by banks & corporate. The total assets of income funds stood at Rs. 4,76,384 crores (up by 1.21%) while liquid funds went up to Rs. 73,030 crores (up by 2.14%). Mutual Funds were net sellers of Rs 697.40 crore in the equity market and net buyer of Rs 11,973.60 crore in debt market. The MF industry recorded the net inflow of Rs. 6,365 crores in February 2010 against net inflow of Rs 97,242 crore in January 2010

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Investor Relations:

For Investor/Analyst Queries

Indiabulls Financial Services Limited Gagan Banga ( Chief Executive Officer )S. P. Centre, C - Wing,41/44 Minoo Desai Road,Near Radio Club, Colaba,MUMBAI - 400 005Phone: +91 22 39895555Fax : +91 22 22812440Email:ceo.financial@indiabulls.com

Indiabulls Securities Limited Divyesh Shah ( Chief Executive Officer )S. P. Centre, C - Wing,41/44 Minoo Desai Road,Near Radio Club, Colaba,MUMBAI - 400 005Phone: +91 22 39895555Fax : +91 22 22812440Email :ceo.securities@indiabulls.com

Indiabulls Real Estate Limited Vipul Bansal (Jt. Managing Director)S. P. Centre, C - Wing,41/44 Minoo Desai Road,Near Radio Club, Colaba,MUMBAI - 400 005Phone: +91 22 39805251  Fax : +91 22 22812440Email : ceo.realestate@indiabulls.com

Kubeir Khera(Vice President) Indiabulls Group,S. P. Centre, C - Wing,41/44 Minoo Desai Road,

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Near Radio Club, Colaba,MUMBAI - 400 005Phone: +91 22 39895555Mob:  +91 99200 82745Fax :  +91 22 67430989Email:khera@indiabulls.com,      mediaquery@indiabulls.com

The Bankers of Indiabulls Financial Services Ltd. are as follows:

ABN-Amro Bank, Andhra Bank, Bank of Maharashtra, Bank of Rajasthan Ltd, Dena Bank, Citibank, Corporation Bank, Centurion Bank of Punjab Ltd, Yes Bank Ltd, State Bank Of India, Karnataka Bank, HSBC Ltd, ING Vysya Bank Ltd, Industrial Bank Ltd, IDBI Ltd, HDFC Bank Ltd, Punjab National Bank,Syndicate Bank, Union Bank Of India,UTI Bank Ltd.

CHAPTER I

CHAPTER-IV[Type text]

Equity Derivatives Segment

A. Observations on the data for October-December, 2010

At the end of December 2010, NSE had derivatives (futures and options) on 223 stocks and 5 indices while BSE had derivatives on 93 stocks and 5 indices.

During October-December, 2010, the turnover at NSE was INR 8,147 thousand crore whereas turnover at BSE was INR 20 crore, which was insignificant as compared to that of NSE. Hence, the analysis for equity derivatives segment is based on the transactions on NSE.

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Volume and Turnover Analysis (Refer Table 1)

During the quarter under review, volume (no. of contracts) increased by 15% to 2,698 lakh and turnover increased by 23.1% to INR 8,147 thousand crore over July-September, 2010. The higher percentage increase in turnover is partly explained by the increase in the value of Nifty from 5600 (average month end close value) during July-September, 2010 to 6004 (average month end close value) during October-December, 2010.

Futures (Index Futures + Stock Futures) constituted 34.1% of the total number of contracts traded in the equity derivatives segment. Contracts traded in Stock Futures and Index Futures accounted for 19.3% and 14.8% respectively.

Options constituted 65.9% of the total volume. This mainly comprised of trading in Index Options (62.6%).

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Turnover in the equity derivatives segment was 8.06 times that of the turnover in the cash market segment, during October-December, 2010, as compared to 7.15 times in the previous quarter. The turnover in the cash market increased by 10.8% while turnover of equity derivatives increased by 23.1% during the current quarter as compared to the previous quarter.

State Bank of India, Tata Motors Limited, Reliance Industries Ltd, Tata Steel Limited and ICICI Bank Ltd were the most actively traded securities in terms of contracts (both on futures and options) in the equity derivatives segment. They together contributed 23.6% of derivatives turnover on individual stocks.

Client trading constituted 52.60%, Proprietary trading constituted 37.91% and FII (Proprietary and sub-account) trading constituted remaining 9.49% of the total turnover. While Proprietary trading increased by 2.34%, both Client and FII trading decreased by 0.66% and 1.68% respectively in the current quarter as compared to the previous quarter.

Derivative Maturity profile (Refer Table 2)

Total volume in longer-dated (contracts with maturity of more than three months and upto 5 years) derivative contracts on NIFTY was 3.5 lakh and total turnover was INR 10 thousand crore; both volume and turnover have decreased by 69.8% and 69.1% respectively over the previous quarter. This decline has been mainly on account of the fact that during the month of September 2010 (last month of the previous quarter), volume and turnover of longer dated derivative contracts was much higher (turnover for September 2010 -INR17.87 thousand crore as compared to INR 4.93 thousand crore i.e., average of July 2010, August 2010, October 2010, November 2010 and December 2010) than the normal trend as seen in months prior to and after September 2010. Thus, the quarter on quarter comparison gets distorted as a result of spike in the September 2010 figures.

Total volume in shorter-dated (contracts with maturity upto 3 months) derivative contracts on indices and stocks increased by 15.5% to 2,694.9 lakh and total turnover increased by 23.5% to INR 8,137.4 thousand crore over the previous quarter. While trading in shorter-dated contracts has increased, trading in longerdated contracts has decreased.

Mini Nifty Contract (Refer Table 3)

Volume in Mini Nifty (contracts with minimum lot size of INR 1 lakh) was 37.2 lakh and turnover was INR 41.4 thousand crore which increased by 17.7% (volume) and 17.8% (turnover) over the previous quarter. Further, Normal Nifty volume increased by 19.4% while turnover of Normal Nifty increased by 29.9% in the current quarter over the previous quarter. Thus trading in both Mini Nifty and Normal Nifty has increased in the present quarter over the previous quarter.

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Volatility Analysis (Refer Table 4)

During the quarter under review, average daily volatility in the underlying S&P CNX Nifty increased to 1.17% in December 2010 from 1.02% in October 2010.

Refer Table 5

India stands 2nd in Stock Futures, 3rd in Index Futures, 11th in Stock Options and 2nd in Index Options in World Derivatives Market (in terms of volume) at the end of December 2010

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Currency Derivatives Segment

Trading in USD:INR currency futures contracts started on August 29, 2008 at NSE, on October 1, 2008 at BSE and on October 7, 2008 at MCX-SX. BSE has stopped all its operations in the Currency Derivatives Segment from April 7, 2010.

Futures on 3 additional currency pairs, namely, EURO:INR, GBP:INR and JPY:INR were introduced at NSE and MCX-SX on February 1, 2010.

Futures on currency pairs, namely, USD-INR, EURO:INR, GBP:INR and JPY:INR were introduced at USE on September 20, 2010 and, therefore, quarter-on-quarter analysis has not been carried out for USE.

Options on USD:INR, were introduced at NSE and USE on October29, 2010. Therefore, quarter-on-quarter analysis for trades in currency options has not been carried out. However, details of volume and turnover for USD:INR options for November 2010 and December 2010 has been given below.

Observations for October-December, 2010

Refer Table-6, 7, 8 and 9

During the quarter under review, across all three exchanges (NSE, MCX-SX and USE), almost the entire trading, both in terms of volume and turnover, is concentrated in USD:INR futures followed by EURO-INR futures.

MCX-SX has majority market share in USD:INR futures and GBP:INR futures whereas NSE has majority market share in EURO:INR and JPY:INR during October-December, 2010.

The month-end open interest, both in terms of number of contracts and turnover, has increased for all currency futures pairs across both NSE & MCX-SX for the quarter under review over the previous quarter.

NSE has almost 100% market share in options on USD: INR as compared to USE.

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Interest Rate Derivatives Segment

Trading in 10 Year Notional coupon bearing GOI security futures started at NSE on August 31, 2009.

Observations for October-December, 2010

During quarter under review, both volume and turnover increased by 50.3% and 51.2% respectively over July-September, 2010. The higher percentage increase in turnover can be attributed to the fact that in a single day i.e., on December 20, 2010, 211 contracts (worth INR 3.88 crore) were traded.

During the quarter under review, average daily volatility of 10-Year FIMMDA Benchmark bond decreased to 0.4705% from 0.5190% in the previous quarter.

Total delivery during the month, as a percentage of open interest on first day of delivery month, was 100%.

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Source: http://www.sebi.gov.in/boardmeetings/135/derivativedevreport.pdf Date: January 21, 2011Final statement.

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Individual Analysis & Interpretation of Derivatives Segment in India

Table: 13:INDEX FUTURES CONTRACTS

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INTERPRETATION: From the data and the bar diagram above, there is high business growth in the derivative segment in India. In the year 2001-02, the number of contracts in Index Future were 1025588 where as a significant increase of 4116679 is observed in the year 2008-09 but there is declining in 2009-11.

Table: 14: INDEX FUTURES TURNOVER

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INTERPRETATION:

From the data and above bar chart, there is high turnover in the derivative segment in India. In the year 2001-02 the turnover of index future was 21483 where as a huge increase of 4356754.53 cr in the year 2010-11 are observed.

Table: 15: STOCK FUTURES CONTRACTS

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INTERPRETATION:

From the data and bar diagram above there were no stock futures available in the year 2001-02, it predominantly increased to 1957856. Then there was a huge increase of 20, 35,87,952 in the year 2007-08 but there was a high volatility from 2008-11.

Table: 16:STOCK FUTURES TURNOVER

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INTERPRETATION:

From the data and bar chart above, there were no stock futures available in the year 2000-01. There was a steady increase of stock future 51515 in the year 2001-02. But in the year there was a huge increase of 7548563.23 in the year 2007-08 with a considerable decline to 3479642.12 in the year 2008-09 and moving up in the 2009 and 2010.

Table: 17:INDEX OPTIONS CONTRACTS

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Interpretation:

From the data and bar chart above, the no of contracts of index option was nil in the year 2000-2001.But there was a predominant increase of 1, 75,900 in the year 2001-2002. In the year 2010-2011 there was a phenomenal increase in the index option contracts to 650638557.

Table: 18:INDEX OPTIONS TURNOVER

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Interpretation:

From the data and bar chart above, there was no turnover in the year 2000-2001for Index option. It slowly started increasing in the year 2000-2001 to 3765.But in the year 2010-2011 there was a huge increase of 18365365.76.

Table: 19:STOCK OPTIONS CONTRACTS

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INTERPRETATION:

From the data and bar chart above the no of contracts of stock option in the year 2000-2001 was nil. But there was a huge increase of 1037529 observed in the year 2001-2002. It was 32508393 which were the highest in the year 2010- 11.

Table: 19:STOCK OPTIONS TURNOVER

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Interpretation:

From the chart and the bar diagram above the stock option turnover in the year 2000-2001 was nil. There was a slow increase of 25163 in the year 2001-2002.But a phenomenal increase of 359136.55 in the year 2007-2008, and a increase of 1030344.21 in the year 2010-11.

Table: 20:

TOTAL TRADING OF DERIVATIVES CONTRACTS & THEIR TURNOVER SINCE INCEPTION

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Interpretation:

From the data and bar chart above, the overall trading contracts and turnover is steadily increasing except in the year 2008-09 and huge increase of 1766366457 in the year 2010-11.

Table: 21:

AVERAGE DAILY TURNOVER OF DERIVATIVE CONTRACTS

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Interpretation:

From the data and pie chart above, the average daily turnover trading contracts in the year 2000-2001 was 11 cr and there is a constant high growth.

Chart no: 22Product-wise distribution of turnover of F&O segment of NSE, 2009-10

Interpretation:

Index options were the clear leader in the product-wise turnover of futures and options segment in NSE during 2009-10. The turnover in the index options category was 45.45% of the total turnover in the F&O segment of NSE, followed by stock futures and index futures which saw a y-o-y growth of 29.41% and 22.27% respectively. This trend continued in the first-half of 2010-11 with Index options constituting around 58% of the total turnover in this segment. The turnover of index options zoomed by 111% during the first-half of 2010-11.

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Table: 23: Entire Description on Derivatives segment in India since Inception

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Table No :24: Top 10 World rankers in F&O segment

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Interpretation: In the F&O Segment for the period January 2010 to June 2010 Nifty Options was shown a predominant change of 112.9% increase and observed rank of five, but nifty futures shown a decrease change and positioned in the seventh rank.

Chart No: 23

Top 5 Traded symbols in Future Segment (June 2010)

Interpretation:

The above pie chart illustrate that there is a less monopoly participation it strengthening the future segment for less volatility.

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Chart No: 24

Top 5 Traded symbols in options Segment (June 2010)

Interpretation:

In the above pie chart it states that there is a less contribution to the options segment by top members and others.

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CHAPTER-V

FINDINGS[Type text]

I. Derivative market is growing very fast in the Indian Economy. The turnover of Derivative Market is increasing year by year in the India’s largest stock exchange NSE. In the case of index future there is a phenomenal increase in the number of contracts. But whereas the turnover is declined considerably. In the case of stock future there was a slow increase observed in the number of contracts whereas a decline was also observed in its turnover. In the case of index option there was a huge increase observed both in the number of contracts and turnover.

II. The derivatives turnover on the NSE has surpassed the equity market turnover. The turnover of derivatives on the NSE increased from 23,654 million in 2000-01 to ` 176,636,647 million in 2009-10 and ` 124,517,441 million in the first-half of 2010-11. The average daily turnover in this segment of the markets on the NSE was 723,921 mn in 2009-10 compared to that of 453,106 mn during 2008-09.

III. In 2009, the growth rate of trading volumes in stock options was insignificant following a decrease in 2008.

IV. After having grown more rapidly than other segments of the derivatives market in previous years, the stock futures market observed a negative growth rate of 39% in 2008-09.

V. The number of stock index futures traded decreased by 16% in 2009.

VI. Currency derivatives surged by 48%, driven by robust volumes in currency futures in India

VII. All derivative contracts are currently cash settled. During 2009-10, the cash settlement amounted to ` 7,69,428 million,compared to that of ` 9,18,400 million in 2008-09.

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

IX. It encourages entrepreneurship in India. It encourages the investor to take more risk & earn more return. So in this way it helps the Indian Economy by developing entrepreneurship. Derivative Market is more regulated & standardized so in this way it provides a more controlled environment. In nutshell, we can say that the rule of High risk & High return apply in Derivatives. If we are able to take more risk then we can earn more profit under Derivatives.

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X. Commodity derivatives have a crucial role to play in the price risk management process for the commodities in which it deals. And it can be extremely beneficial in agriculture-dominated economy, like India, as the commodity market also involves agricultural produce. Derivatives like forwards, futures, options, swaps etc are extensively used in the country. However, the commodity derivatives have been utilized in a very limited scale. Only forwards and futures trading are permitted in certain commodity items.

XI. The top twenty contracts contributed to around 44% of the total traded volume in Options on individual securities. RELIANCE was the most active option contracts on individual securities traded today with 73157 contracts and TATAMOTORS was the next most active options contracts with 11704 contracts being traded.

XII. The top ten contracts contributed to around 25% of the total traded volume in Futures on individual securities. RELIANCE was the most active future contracts on individual securities traded today with 119533 contracts and SBIN was the next most active futures contracts with 41171 contracts being traded. As on February 22, 2011.

SUGGESTIONS

RBI should play a greater role in supporting derivatives.

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Derivatives market should be developed in order to keep it at par with other derivative markets in the world.

Speculation should be discouraged.

New products should be added to the derivatives in the exchange traded market to facilitate the investors.

To attract the small investor’s margins will be reduce to participate in derivatives contracts.

There must be more derivative instruments aimed at individual investors.

SEBI should conduct awareness programs regarding the use of derivatives to educate individual investors.

After study it is clear that Derivative influence our Indian Economy up to much extent. So, SEBI should take necessary steps for improvement in Derivative Market so that more investors can invest in Derivative market.

There is a need of more innovation in Derivative Market because in today scenario even educated people also fear for investing in Derivative Market Because of high risk involved in Derivatives.

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Conclusion

The derivatives market is very dynamic and has quickly developed into the most

important segment of the financial market. Competing for business, both derivatives exchanges

and OTC providers, which by far account for the largest part of the market, have fuelled growth

by constant product and technology innovation. The competitive landscape has been especially

dynamic in India, which has seen numerous market entries in the last decade. In the process,

strong Market players have emerged that today contributing to the global market in terms of

notional amount outstanding.

The derivatives market functions very well and is constantly improving. It effectively

fulfills its economic functions of price efficiency and risk allocation. The imperatives for a

well-functioning market are clearly fulfilled:

The exchange segment, in particular, has put in place very effective risk mitigation

mechanisms mostly through the use of automation and CCPs.

For its users, the derivatives market is highly efficient. Transaction costs for exchange-

traded derivatives are particularly low.

Innovation has been the market’s strongest growth driver and has been supported by a

beneficial regulatory framework especially in India.

Overall, it is clearly desirable to preserve the environment that has contributed to the

impressive development of the derivatives market and the success of market players in it. There

is thus no need for any structural changes in the framework under which OTC players and

exchanges operate today. However, some aspects of the OTC segment in particular can still be

improved further. Safety and transparency, and operational efficiency could be enhanced along

proven and successful models helping the Indian derivatives market to become even safer

and more efficient.

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List of Abbreviations

ABS - Asset-backed security

CBOE - Chicago Board Options Exchange

CBOT -Chicago Board of Trade

CCP -Central counterparty

CDO -Collateralized debt obligation

CDS -Credit default swap

CER -Certifi ed Emissions Reduction

CLO -Collateralized loan obligation

CME -Chicago Mercantile Exchange

CSD -Central securities depository

EDX -Equity Derivatives Exchange (London)

ETF -Exchange-traded fund

GDP -Gross domestic product

GFI -Trading services provider

ICAP -Trading services provider

ICE -Intercontinental Exchange

ICSD -International central securities depository

ISE -International Securities Exchange

MCX -Multi Commodity Exchange (India)

NCDEX -National Commodity and Derivatives Exchange India

NYBOT -New York Board of Trade

NYSE -New York Stock Exchange

OTC -Over the counter

SEC -Securities and Exchange Commission

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Appendix

List of Underlyings & Underlying Info 

UNDERLYING SYMBOL CNX BANK INDEX BANKNIFTY S&P CNX NIFTY MINIFTY S&P CNX NIFTY NIFTY NIFTY MIDCAP 50 NFTYMCAP CNX IT CNXIT

Derivatives on Individual Securities, Symbol

3I INFOTECH LTD. 3IINFOTECHTRIVENI ENGG. & INDS. LTD TRIVENIABAN OFFSHORE LTD. ABANABB LTD. ABBABG SHIPYARD LTD ABGSHIPADITYA BIRLA NUVO LIMITED ABIRLANUVOACC LIMITED ACCADANI ENTERPRISES LIMITED ADANIENTADANI POWER LTD ADANIPOWERALLAHABAD BANK ALBKALOK INDUSTRIES LTD ALOKTEXTAMBUJA CEMENTS LTD AMBUJACEMANDHRA BANK ANDHRABANKALSTOM PROJECTS INDIA LTD APILAPOLLO TYRES LTD APOLLOTYREAREVA T&D INDIA LIMITED AREVAT&DASHOK LEYLAND LTD ASHOKLEYASIAN PAINTS LIMITED ASIANPAINTAUROBINDO PHARMA LTD AUROPHARMAAXIS BANK LIMITED AXISBANKBAJAJ AUTO LIMITED BAJAJ-AUTOBAJAJ HINDUSTAN LTD BAJAJHINDBAJAJ HOLDINGS & INVS LTD BAJAJHLDNGBALRAMPUR CHINI MILLS LTD BALRAMCHINBANK OF BARODA BANKBARODABANK OF INDIA BANKINDIABATA INDIA LTD BATAINDIABHARAT ELECTRONICS LTD BELBEML LIMITED BEMLBGR ENERGY SYSTEMS LTD BGRENERGYBHARAT FORGE LTD BHARATFORG BHARTI AIRTEL LIMITED BHARTIARTLBHEL BHELBHUSHAN STEEL LIMITED BHUSANSTLBIOCON LIMITED BIOCONBOMBAY DYEING & MFG. CO LTD BOMDYEINGBOSCH LIMITED BOSCHLTDBHARAT PETROLEUM CORP LT ,BPCL ,500,500,500, , , , , , , , , , BOMBAY RAYON FASHIONS LTD ,BRFL ,1000,1000,1000, , , , , , , , , CAIRN INDIA LIMITED ,CAIRN ,1000,1000,1000, , , , , , , , , , , CANARA BANK ,CANBK ,500,500,500, , , , , , , , , , , CENTRAL BANK OF INDIA ,CENTRALBK ,2000,2000,2000, , , , , , , , , CENTURY TEXTILES LTD ,CENTURYTEX,1000,1000,1000, , , , , , , , , CESC LTD ,CESC ,1000,1000,1000, , , , , , , , , , , , CHAMBAL FERTILIZERS LTD ,CHAMBLFERT,4000,4000,4000, , , , , , , , , CHENNAI PETROLEUM CORP LT ,CHENNPETRO,1000, , , , , , , , , , CIPLA LTD ,CIPLA ,1000,1000,1000, , , , , , , , , , , , COLGATE PALMOLIVE LTD. ,COLPAL ,250,250,250, , , , , , , , , , CORE PROJ. & TECH. LTD. ,COREPROTEC,1000,1000,1000, , , , , , , , , , CROMPTON GREAVES LTD ,CROMPGREAV,1000,1000,1000, , , , , , , , , CUMMINS INDIA LTD ,CUMMINSIND,500,500,500, , , , , , , , , , DABUR INDIA LTD ,DABUR ,4000,4000,4000, , , , , , , , , , , DEVELOP CREDIT BANK LTD ,DCB ,8000,8000,8000, , , , , , , , , , DECCAN CHRONICLE HOLD LTD ,DCHL ,4000,4000,4000, , , , , , , , ,

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DENA BANK ,DENABANK ,4000,4000,4000, , , , , , , , , , , DISH TV INDIA LTD. ,DISHTV ,4000,4000,4000, , , , , , , , , , , DIVI'S LABORATORIES LTD ,DIVISLAB ,500,500,500, , , , , , , , , , DLF LIMITED ,DLF ,1000,1000,1000, , , , , , , , , , , , DR. REDDY'S LABORATORIES ,DRREDDY ,250,250,250, , , , , , , , , , EDUCOMP SOLUTIONS LTD ,EDUCOMP ,500,500,500, , , , , , , , , , EVEREST KANTO CYLINDERLTD ,EKC ,4000,4000,4000, , , , , , , , , , ESCORTS INDIA LTD ,ESCORTS ,2000,2000,2000, , , , , , , , , , ESSAR OIL LTD ,ESSAROIL ,2000,2000,2000, , , , , , , , , , , EXIDE INDUSTRIES LTD ,EXIDEIND ,2000,2000,2000, , , , , , , , , , FEDERAL BANK LTD ,FEDERALBNK,1000,1000,1000, , , , , , , , , , FINANCIAL TECHNO (I) LTD ,FINANTECH ,500,500,500, , , , , , , , , , FORTIS HEALTHCARE (I) LTD ,FORTIS ,2000,2000,2000, , , , , , , , , , FIRSTSOURCE SOLU. LTD. ,FSL ,12000,12000,12000, , , , , , , , , , GAIL (INDIA) LTD ,GAIL ,500,500,500, , , , , , , , , , , , THE GE SHPG.LTD ,GESHIP ,1000,1000,1000, , , , , , , , , , , GLAXOSMITHKLINE PHARMA LT ,GLAXO ,125,125,125, , , , , , , , , , GUJARAT MINERAL DEV CORP ,GMDCLTD ,2000,2000,2000, , , , , , , , , GMR INFRASTRUCTURE LTD. ,GMRINFRA ,8000,8000,8000, , , , , , , , , GODREJ INDUSTRIES LTD ,GODREJIND ,2000,2000,2000, , , , , , , , , , GRASIM INDUSTRIES LTD ,GRASIM ,125,125,125, , , , , , , , , , GUJARAT STATE PETRO LTD ,GSPL ,4000,4000,4000, , , , , , , , , , GTL LTD ,GTL ,500,500,500, , , , , , , , , , , , GTL INFRA.LTD ,GTLINFRA ,8000,8000, , , , , , , , , , , GREAT OFFSHORE LTD ,GTOFFSHORE,1000,1000,1000, , , , , , , , , , GVK POW. & INFRA LTD. ,GVKPIL ,8000,8000,8000, , , , , , , , , , HAVELLS INDIA LIMITED ,HAVELLS ,1000,1000,1000, , , , , , , , , , HINDUSTAN CONSTRUCTION CO ,HCC ,8000,8000,8000, , , , , , , , , , HCL TECHNOLOGIES LTD ,HCLTECH ,500,500,500, , , , , , , , , , HDFC LTD ,HDFC ,500,500,500, , , , , , , , , , , , HDFC BANK LTD ,HDFCBANK ,125,125,125, , , , , , , , , , , HOUSING DEV & INFRA LTD ,HDIL ,2000,2000,2000, , , , , , , , , , HERO HONDA MOTORS LTD ,HEROHONDA ,250,250,250, , , , , , , , , , HEXAWARE TECHNOLOGIES LTD ,HEXAWARE ,4000,4000,4000, , , , , , , , , HINDALCO INDUSTRIES LTD ,HINDALCO ,1000,1000,1000, , , , , , , , , HINDUSTAN OIL EXPLORATION ,HINDOILEXP,2000,2000,2000, , , , , , , , , HINDUSTAN PETROLEUM CORP ,HINDPETRO ,1000,1000,1000, , , , , , , , , HINDUSTAN UNILEVER LTD. ,HINDUNILVR,1000,1000,1000, , , , , , , , , HINDUSTAN ZINC LIMITED ,HINDZINC ,2000,2000,2000, , , , , , , , , , HOTEL LEELA VENTURES LTD ,HOTELEELA ,8000,8000,8000, , , , , , , , , INDIABULLS REAL EST. LTD ,IBREALEST ,2000,2000,2000, , , , , , , , , , ICICI BANK LTD. ,ICICIBANK ,250,250,250, , , , , , , , , , , IDBI BANK LIMITED ,IDBI ,2000,2000,2000, , , , , , , , , , , IDEA CELLULAR LIMITED ,IDEA ,4000,4000,4000, , , , , , , , , , INFRA. DEV. FIN. CO. LTD ,IDFC ,2000,2000,2000, , , , , , , , , , , IFCI LTD ,IFCI ,4000,4000,4000, , , , , , , , , , , , INDRAPRASTHA GAS LTD ,IGL ,1000,1000,1000, , , , , , , , , , THE INDIAN HOTELS CO. LTD ,INDHOTEL ,4000,4000,4000, , , , , , , , , THE INDIA CEMENTS LIMITED ,INDIACEM ,4000,4000,4000, , , , , , , , , INDIA INFOLINE LIMITED ,INDIAINFO ,4000,4000,4000, , , , , , , , , , INDIAN BANK ,INDIANB ,1000,1000,1000, , , , , , , , , , , INDUSIND BANK LIMITED ,INDUSINDBK,1000,1000,1000, , , , , , , , , INFOSYS LIMITED ,INFY ,125,125,125, , , , , , , , , , , , INDIAN OVERSEAS BANK ,IOB ,2000,2000,2000, , , , , , , , , , IRB INFRA DEV LTD. ,IRB ,2000,2000,2000, , , , , , , , , , , ISPAT INDUSTRIES LIMITED ,ISPATIND ,9000,9000,9000, , , , , , , , , , ITC LTD ,ITC ,2000,2000,2000, , , , , , , , , , , , IVRCL LIMITED ,IVRCLINFRA,4000,4000,4000, , , , , , , , , , , JET AIRWAYS (INDIA) LTD. ,JETAIRWAYS,500,500,500, , , , , , , , , , JINDAL SAW LIMITED ,JINDALSAW ,2000,2000,2000, , , , , , , , , , JINDAL SOUTHWEST HOLD LTD ,JINDALSWHL,250,250,250, , , , , , , , , JAIN IRRIGATION SYSTEMS ,JISLJALEQS,2000,2000,2000, , , , , , , , , , JAIPRAKASH ASSOCIATES LTD ,JPASSOCIAT,4000,4000,4000, , , , , , , , , JAIPRAKASH POWER VEN. LTD ,JPPOWER ,8000,8000,8000, , , , , , , , , JSW STEEL LIMITED ,JSWSTEEL ,250,250,250, , , , , , , , , , , KINGFISHER AIRLINES LTD ,KFA ,8000,8000,8000, , , , , , , , , , KOTAK MAHINDRA BANK LTD ,KOTAKBANK ,500,500,500, , , , , , , , , K S OILS LIMITED ,KSOILS ,8000,8000,8000, , , , , , , , , , , KARNATAKA BANK LIMITED ,KTKBANK ,2000,2000,2000, , , , , , , , , LIC HOUSING FINANCE LTD ,LICHSGFIN ,1000,1000,1000, , , , , , , , , , LANCO INFRATECH LTD. ,LITL ,8000,8000,8000, , , , , , , , , , LARSEN & TOUBRO LTD. ,LT ,250,250,250, , , , , , , , , , , LUPIN LIMITED ,LUPIN ,1000,1000,1000, , , , , , , , , , ,

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MAHINDRA & MAHINDRA LTD ,M&M ,500,500,500, , , , , , , , , , , MAX INDIA LTD ,MAX ,2000,2000,2000, , , , , , , , , , , , UNITED SPIRITS LIMITED ,MCDOWELL-N,250,250,250, , , , , , , , , , , , MCLEOD RUSSEL INDIA LTD. ,MCLEODRUSS,1000,1000,1000, , , , , , , , , , , , MERCATOR LINES LIMITED ,MLL ,8000,8000,8000, , , , , , , , , , , , MOSER-BAER (I) LTD ,MOSERBAER ,8000,8000,8000, , , , , , , , , , , , MPHASIS LIMITED ,MPHASIS ,500,500,500, , , , , , , , , , , , MRF LTD ,MRF ,125,125,125, , , , , , , , , , , , MRPL ,MRPL ,4000,4000,4000, , , , , , , , , , , , MAHANAGAR TELEPHONE NIGAM ,MTNL ,8000,8000,8000, , , , , , , , , , , , MUNDRA PORT & SEZ LTD ,MUNDRAPORT,2000,2000,2000, , , , , , , , , , , , NAGARJUNA FERT & CHEM LTD ,NAGARFERT ,8000,8000,8000, , , , , , , , , , , , NATIONAL ALUMINIUM CO LTD ,NATIONALUM,2000,2000,2000, , , , , , , , , , , , NCC LIMITED ,NCC ,4000,4000,4000, , , , , , , , , , , , NEYVELI LIGNITE CORPORATI ,NEYVELILIG,2000,2000,2000, , , , , , , , , , , , NHPC LTD ,NHPC ,9000,9000,9000, , , , , , , , , , , , NMDC LTD. ,NMDC ,1000,1000,1000, , , , , , , , , , , , NTPC LTD ,NTPC ,2000,2000,2000, , , , , , , , , , , , ORACLE FIN SERV SOFT LTD. ,OFSS ,125,125,125, , , , , , , , , , , , OIL INDIA LTD ,OIL ,250,250,250, , , , , , , , , , , , OIL AND NATURAL GAS CORP. ,ONGC ,1000,1000,1000, , , , , , , , , , , , ONMOBILE GLOBAL LTD. ,ONMOBILE ,2000,2000,2000, , , , , , , , , , , , OPTO CIRCUITS (I) LTD. ,OPTOCIRCUI,1000,1000,1000, , , , , , , , , , , , ORBIT CORP. LTD. ,ORBITCORP ,4000, , , , , , , , , , , , , , ORCHID CHEM & PHARMA LTD ,ORCHIDCHEM,1000,1000,1000, , , , , , , , , , , , ORIENTAL BANK OF COMMERCE ,ORIENTBANK,1000,1000,1000, , , , , , , , , , , , PANTALOON RETAIL (I) LTD ,PANTALOONR,1000,1000,1000, , , , , , , , , , , , PATEL ENGINEERING LTD. ,PATELENG ,2000,2000,2000, , , , , , , , , , , , PATNI COMPUTER SYST LTD ,PATNI ,500,500,500, , , , , , , , , , , , PETRONET LNG LIMITED ,PETRONET ,2000,2000,2000, , , , , , , , , , , , POWER FIN CORP LTD. ,PFC ,1000,1000,1000, , , , , , , , , , , , PIRAMAL HEALTHCARE LTD ,PIRHEALTH ,500,500,500, , , , , , , , , , , , PUNJAB NATIONAL BANK ,PNB ,250,250,250, , , , , , , , , , , , POLARIS SOFTWARE LAB LTD ,POLARIS ,2000,2000,2000, , , , , , , , , , , , POWER GRID CORP. LTD. ,POWERGRID ,4000,4000,4000, , , , , , , , , , , , PRAJ INDUSTRIES LTD ,PRAJIND ,4000,4000,4000, , , , , , , , , , , , PTC INDIA LIMITED ,PTC ,4000,4000,4000, , , , , , , , , , , , PUNJ LLOYD LIMITED ,PUNJLLOYD ,4000,4000,4000, , , , , , , , , , , , RANBAXY LABS LTD ,RANBAXY ,500,500,500, , , , , , , , , , , ,

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RAYMOND LTD ,RAYMOND ,1000,1000,1000, , , , , , , , , , , , RELIANCE COMMUNICATIONS L ,RCOM ,2000,2000,2000, , , , , , , , , , , , RURAL ELEC CORP. LTD. ,RECLTD ,1000,1000,1000, , , , , , , , , , , , RELIANCE CAPITAL LTD ,RELCAPITAL,500,500,500, , , , , , , , , , , , RELIANCE INDUSTRIES LTD ,RELIANCE ,250,250,250, , , , , , , , , , , , RELIANCE INFRASTRUCTU LTD ,RELINFRA ,500,500,500, , , , , , , , , , , , RELIANCE MEDIAWORKS LTD ,RELMEDIA ,2000, , , , , , , , , , , , , , SHREE RENUKA SUGARS LTD ,RENUKA ,4000,4000,4000, , , , , , , , , , , , ROLTA INDIA LTD ,ROLTA ,2000,2000,2000, , , , , , , , , , , , RELIANCE POWER LTD. ,RPOWER ,2000,2000,2000, , , , , , , , , , , , RUCHI SOYA INDUSTRIES LTD ,RUCHISOYA ,2000,2000,2000, , , , , , , , , , , , STEEL AUTHORITY OF INDIA ,SAIL ,2000,2000,2000, , , , , , , , , , , , STATE BANK OF INDIA ,SBIN ,125,125,125, , , , , , , , , , , , SHIPPING CORP OF INDIA LT ,SCI ,2000,2000,2000, , , , , , , , , , , , SESA GOA LTD ,SESAGOA ,1000,1000,1000, , , , , , , , , , , , SIEMENS LTD ,SIEMENS ,250,250,250, , , , , , , , , , , , SINTEX INDUSTRIES LTD ,SINTEX ,2000,2000,2000, , , , , , , , , , , , S KUMARS NATIONWIDE LTD ,SKUMARSYNF,4000,4000,4000, , , , , , , , , , , , SOBHA DEVELOPERS LTD ,SOBHA ,1000,1000,1000, , , , , , , , , , , , SREI INFRASTRUCTURE FINAN ,SREINFRA ,8000,8000,8000, , , , , , , , , , , , SHRIRAM TRANSPORT FIN CO. ,SRTRANSFIN,500,500,500, , , , , , , , , , , , STERLITE INDS (IND) LTD ,STER ,2000,2000,2000, , , , , , , , , , , , STERLITE TECHNOLOGIES LTD ,STRTECH ,8000,8000,8000, , , , , , , , , , , , SUN PHARMACEUTICALS IND. ,SUNPHARMA ,500,500,500, , , , , , , , , , , , SUN TV NETWORK LIMITED ,SUNTV ,500,500,500, , , , , , , , , , , , SUZLON ENERGY LIMITED ,SUZLON ,8000,8000,8000, , , , , , , , , , , , SYNDICATE BANK ,SYNDIBANK ,2000,2000,2000, , , , , , , , , , , , TATA CHEMICALS LTD ,TATACHEM ,1000,1000,1000, , , , , , , , , , , , TATA COMMUNICATIONS LTD ,TATACOMM ,1000,1000,1000, , , , , , , , , , , , TATA GLOBAL BEVERAGES LTD ,TATAGLOBAL,4000,4000,4000, , , , , , , , , , , , TATA MOTORS LIMITED ,TATAMOTORS,250,250,250, , , , , , , , , , , , TATA MOTORS DVR 'A' ORD ,TATAMTRDVR,500,500,500, , , , , , , , , , , , TATA POWER CO LTD ,TATAPOWER ,250,250,250, , , , , , , , , , , , TATA STEEL LIMITED ,TATASTEEL ,500,500,500, , , , , , , , , , , , TATA CONSULTANCY SERV LT ,TCS ,250,250,250, , , , , , , , , , , , TECH MAHINDRA LIMITED ,TECHM ,500,500,500, , , , , , , , , , , , TITAN INDUSTRIES LTD ,TITAN ,2500,2500,2500, , , , , , , , , , , ,

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TATA TELESERV(MAHARASTRA) ,TTML ,14000,14000,14000, , , , , , , , , , , , TULIP TELECOM LIMITED ,TULIP ,2000,2000,2000, , , , , , , , , , , , TVS MOTOR COMPANY LTD ,TVSMOTOR ,4000,4000,4000, , , , , , , , , , , , UCO BANK ,UCOBANK ,2000,2000,2000, , , , , , , , , , , , ULTRATECH CEMENT LIMITED ,ULTRACEMCO,250,250,250, , , , , , , , , , , , UNION BANK OF INDIA ,UNIONBANK ,1000,1000,1000, , , , , , , , , , , , UNITED PHOSPHORUS LIMITED ,UNIPHOS ,2000,2000,2000, , , , , , , , , , , , UNITECH LTD ,UNITECH ,8000,8000,8000, , , , , , , , , , , , VIDEOCON INDUSTRIES LIMIT ,VIDEOIND ,2000,2000,2000, , , , , , , , , , , , VIJAYA BANK ,VIJAYABANK,4000,4000,4000, , , , , , , , , , , , VOLTAS LTD ,VOLTAS ,2000,2000,2000, , , , , , , , , , , , WELSPUN CORP LIMITED ,WELCORP ,2000,2000,2000, , , , , , , , , , , , WIPRO LTD ,WIPRO ,500,500,500, , , , , , , , , , , , YES BANK LIMITED ,YESBANK ,1000,1000,1000, , , , , , , , , , , , ZEE ENTERTAINMENT ENT LTD ,ZEEL ,2000,2000,2000, , , , , , , , , , , ,

BIBLIOGRAPHY

Books referred: Derivatives June 2010 of E-book.

http://www.nseindia.com/archives/fo/monthly/MDU.pdf Options Futures, and other Derivatives by John C Hull Derivatives FAQ by Ajay Shah NSE’s Certification in Financial Markets: - Derivatives Core module Financial Markets & Services by Gordon & Natarajan

Reports: Report of the RBI-SEBI standard technical committee on exchange traded Currency

Futures Report of the NSE-SEBI Reported on the Date: January 21,2011

http://www.sebi.gov.in/boardmeetings/135/derivativedevreport.pdf

Regulatory Framework for Financial Derivatives in India by Dr.L.C.GUPTA

Asani Sarkar –Indian Derivative Market

http://www.newyorkfed.org/research/economists/sarkar/derivatives_in_india.pdf

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WEBSITES

www.derivativesindia.com

http://en.wikipedia.org/wiki/List_of_stock_exchanges

www.indianinfoline.com

www.nseindia.com

www.sedi.gov.in

www.rbi.gov.in

www.bseindia.com

www.5paisa.com

NEWSPAPER

Business Line

Economic times of India

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