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SECONDARY MARKET

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SECONDARY MARKET: STOCK EXCHANGES

The capital market apart from the primary market also includes thesecondary market where the existing issues are traded .

These are also known as Stock Market .

They enable shareholders to sell their holdings readily , thereby ensuring

liquidity .

The investors can also continuously re-arrange their assets .

The stock exchanges provide a market where such mutually satisfactory prices may be determined .

An active secondary market in fact promotes the growth of the primary market and helps in capital formation .

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Continuous Market

The basic function of a SE is the creation of a continuous market wheresecurities are bought and sold in volume with little variation in thecurrent market price as trade succeeds one another .

The indicators of a continuous market are :F requency of sales

Narrow spread between bids and offersPrompt execution of ordersMinimum price changes between transactions as they occur.

The benefits are :

Creates marketable liquid investments

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L iquid MarketL iquidity occupies a central place in evaluating the efficiency of an exchange .

The characteristics of a liquid market are :Depth: a market has depth if the buy and sell orders are forthcoming around the price at which the share is transacting . Market that lacks depth is shallow . Breadth : the adequate volume of the orders gives breadth to the market . In theabsence of which the market are termed thin . Resilience : further the response of the orders to price changes renders the

market resilient.

Empirical Measurement of L iquidityL iquidity is measured by the number of days a company's shares is traded ,out of the number of days in the year when the market is open .Normally a share is considered actively traded and liquid if it is traded on 50%days when the market is open .Liquidity is also measured by the variation of price from one trade to another .If the difference between the lowest asked price and the highest bid-price iswide , the mark et is said to lack d epth and c onsid e r e d s hall ow .

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F air Price Determination

The prices in the stock exchange are determined by the interplay of the

forces of supply and demand . The bargains are struck at the fairest price.

Active bidding and a two way auction trading takes place in the stockexchange .

The result is as near a market for free trading and free competition ascan be found anywhere .

There is no obvious relationship between book value / par value and market value in the matter of many shares .

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Aid to F inancing Industry

Listed companies find it helpful to sell further issues of their shares in theprimary market based on the good performance of their earlier shares .

An active market and a good market price for the company's shares(reflecting the past performance and future prospects) makes the task of

raising funds through further issues easier .

Other F unctions

The stipulation on disclosure and transparency ensures that the investorshave access to information on the listed companies particularly withregard to their financial conditions .

This also protects the investor's interests by eliminating the dishonestand irregular practices .

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Demutualisation of Stock ExchangesSE is a corporate tax paying entitySeparation of ownership rights and trading rightsMinimum stake of a single shareholder cannot exceed 5% of the totalequity.51%shares to investors who do not have trading rights. This allowsbetter regulation.49% foreign investment in SEs [ 26 % F DI : 23 % by F II ]Access to more funds for investment in technology , mergers and

strategic alliances.NSE , BSE and OTCEI are demutualised.

Benefits:Safeguard the interest of the investors

Brings out greater transparency in the functioning of the SEsReduces the conflict of interest between the exchange and the brokersand the chances of brokers using stock exchanges for personal gains.Strategic investments assist in growth of SE and make themcompetitive globally

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TRADING IN STOCK EXCHANGES

Order Driven / Customer Driven : o rd e rs fr om all ove r the c ou n t ry ar e e n te r e d in to an e l e c t r onic sys te m and ma t c he d dir e c t ly and c on t inuou sly w i thout the invo l ve me n t o f a mark et mak e r .

Quote Driven / Dealer Driven:

ther e

ar e

mark et

mak e

rswho

c o

nt in

uously o ff e r two w ay q uote s b uy and s e ll quote s - and ar e w illing to buy and s e ll

any q uan t i t y .

A Hybrid system

New York Stock Exchange (NYSE) : an order driven auction market

National Association of Security Dealers Automated Q uotation System(NASDA Q ) : over the counter market ,i.e. a quote driven or dealer market

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In India generally we have order driven auction market

NSE: order drivenBSE : hybrid market , auction system but quote driven .

TRADING ARRANGEMENTS

Trading NSE introduced for the first time in India, fully automated screenbased trading . It uses a modern, fully computerized trading system designedto offer investors across the length and breadth of the country a safe andeasy way to invest .

The NSE trading system called 'National Exchange for AutomatedTrading' [NEAT ].

BSE On-Line Trading System [ BO L T]

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L isting

It means admission of securities of an issuer to trading privileges on astock exchange through a formal agreement .

The prime objective of admission to dealings on the exchange is to provideliquidity and marketability to securities, as also to provide a mechanism for

effective management of trading .

Grouping***A Group : Companies with very large trading volumes***B1 Group : Companies with high growth potential and trading volumes***B2 Group : Companies with low trading volumes***Z Group : Companies which do not meet the rules, regulations and

stipulations laid down by the exchange .

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Benefits of L istingListing provides an opportunity to the corporates / entrepreneurs to raise capital to fund new projects/undertake expansions/diversifications and for acquisitions .

Listing also provides an exit route to private equity investors as well as liquidityto the ESOP-holding employees .

Listing also helps generate an independent valuation of the company by the market .

Listing raises a company's public profile with customers, suppliers,investors, financial institutions and the media . A listed company istypically covered in analyst reports and may also be included in one or moreof indices of the stock exchanges .

An initial listing increases a company's ability to raise further capital through various routes like preferential issue, rights issue, Qualified Institutional Placements and ADRs / GDRs / FCCBs , and in the processattract a wide and varied body of institutional and professional investors .

Listing leads to better and timely disclosures and thus also protects theinterest of the investors .

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Guidelines for selection of constituents in SENSEX are as follows:

Listed HistoryTrading Frequency

Market Capitalization Weightage Industry / S ector Representation Final Rank Track Record

L arge Cap Stocks - Companies with large capitalization. Traditionally, thesafest stocks , but also the least rewarding in return .

Infosys Technologies , Bharti-Tele-Ventures L td. , ICICI Bank L td , HD F C L td ,ONGC L td , Maruti U dyog L td ,

Mid Cap Stocks - Bigger than small caps, smaller than large caps. They are inthe middle of the road in terms of risk and reward .India-bulls Securities L td. ; Thomas Cook ( India ) L td. ; Century Plyboards (India ) L td. ; Jet Airways( India ) L td. ; Parshavnath Developers L td. ; NicholasPiramal India L td.

Small Cap Stocks - Smaller companies that usually grow faster, giving a better return, but are riskier because they have less protection against going out of business due to their small size .

Kajaria CeramicsL

td. ; Kohinoor F

oodsL

td. ; Bata IndiaL

td. ; Arvind MillsL

td.; J.K. Cement L td.

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Risk Management

A sound risk management system is integral to an efficient clearing andsettlement system . NSE introduced for the first time in India, risk

containment measures that were common internationally but were absentfrom the Indian securities markets .

NSCCL has put in place a comprehensive risk management system, whichis constantly upgraded to pre-empt market failures . The ClearingCorporation ensures that trading member obligations are commensurate

with their networth . Risk Containment Measures

capital adequacy requirements of members,position limits based on capital,stringent margin requirements,monitoring of member performance and track record,automatic disablement from trading when limits are breached, etc.

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CAPITA L ADE Q U ACY NORMS F OR BROKERS

Base Minimum Capital

Security deposit kept by members in SEs form the base minimum capital

25% of base minimum capital to be kept in cash with the exchange

25% in form of long term (3yrs or more) fixed deposit with banksuggested by SE

Remaining maintained in the form of securities

the securities should be in the name of members and pledged in favor of SE

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Intra-day Turnover L imit

G ross turnover ( buy+ sell ) intra-day of the member should not exceed 20 times thebase capital.

Members violating the intra-day gross turnover limit at any time on any trading dayare not be permitted to trade forthwith. When a member crosses 100% of theintra-day trading limit or gross exposure limit a message is flashed on the screenwhich says "CAPITAL ADEQUACY LIMIT VIOLATED" or "GROSSEXPOSURE LIMIT VIOLATED" respectively and immediately all the [Trader Work Stations] TWSs of the member get de-activated.

Members are given a maximum of 15 days time from the date of the violation to bringin the additional capital .

Upon members failing to deposit the additional capital within the stipulated time, thereduced turnover limit of 15 times the base capital would be applicable for a

period of one month from the last date for providing the margin deposits.

To trade in excess of this limit , a broker would be required to deposit additionalcapital with the exchange.

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MarginsSEs impose different types of margins on brokers for individualsstocks depending on the exposures taken by these brokers in thesestocks , both on proprietary basis and on behalf of clients , vis--visthe overall market in the scrips.

Several of these margins are paid upfront by brokers.

These margins are collected to prevent operators from taking marketpositions in excess of their buying capacities and are used to settledues to the exchanges / clearing corporations / traders in the event of any fund shortage faced by the brokers.

The margins vary from operators to operator depending on the size of the position taken in the market .

F ailure to pay Margin

Non-payment of either the whole or part of the margin amount due will be treated as a violationof the Bye Laws of the Clearing Corporation and will attract penal charges @ 0.09% per day o f the am ou n t not paid th r ou g hout the pe ri od o f non- paym e n t .

In case a member has a margin shortage of Rs. 10 lacs or above for more than 10occasions in the past 4 weeks , the gr oss expo s u r e mu l t i pl e o f the me mb e r w ill be r e d uc e d toone level lower at the time of re-activation of their trading terminals

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Circuit Breakers

To contain excessive volatility in prices , the Sebi introduced , in1995 , scrip wise daily circuit breakers / price-bands . The circuit breakers bring about a halt / suspension in tradingautomatically for a specified period if the market prices varyunusually on either side i .e . move out of a pre-specified band .

Circuit breaker do not halt trading but no order is permitted if it

falls out of a specified price range .Both NSE and BSE have implemented the circuit limit systemon the stocks . They have applied the stock wise circuit limit

system at four levels i .e . 2%, 5%, 10% and 20% .

In index-based market the circuit works at three stages : 10% ;15% ; 20% .