Sri Sharada Institute Of Indian Management -Research Approved by AICTE

Plot No. 7, Phase-II, Institutional Area, Behind the Grand Hotel, Vasant Kunj,

New Delhi – 110070 Website: www.srisiim.org

Summer internship(dm 312) PROJECT REPORT

ON

DERIVATIVES IN INDIA:IT’S PRESENT SCENARIO AND FUTURE PROSPECTS

IN THE PARTIAL FULFILLMENT OF THE REQUIREMENT OF 3rd TRIMESTER

Submitted To:- Submitted By:-

Prof. R Venkataraman Faculty of SRISIIM Anmol Raina(20130108)

DECLARATION

I hereby declare that the following project report “DERIVATIVES IN INDIA: IT’S

PRESENT SCENARIO AND FUTURE PROSPECTS” is an authentic work done

by me. This is to declare that all work indulged in the completion of this work such as

research, analysis and compilation of the project is profound and honest work of mine.

Destimony Securities Private Limited Place: Mumbai Anmol Raina(20130108) PGDM Batch: 2013-2015

ACKNOWLEDGEMENTS

I, would like to express my hearty gratitude to my faculty guide, Prof. R Venkataraman

for giving me the opportunity to visit “DESTIMONY SECURITIES PRIVATE LTD.,

MUMBAI” for my 2 month summer internship program starting 23rd june to 22nd

August, and for his valuable guidance and sincere cooperation which helped me in Completing my internship in the organization.

I, would also like to thank and express my gratitude to my industry guide, Mr.Sougata

Sengupta-Vice President Corporate Banking and Advisory (Destimony Securities)

For giving me the opportunity to prepare a project report on “DERVATIVES IN INDIA :IT’S PRESENT SCENARIO AND FUTURE PROSPECTS “and for his valuable

Guidance and sincere cooperation, which helped me in completing the project during

the period 23rd June to 22nd August.

Anmol Raina (20130108)

PGDM : 2013 – 15 Destimony Securities Pvt Ltd. Mumbai

Table of Contents: Company profile………………………………………………………………….....1

Abstract and Project Title………………………………………….…………...…..3

Chapter 1 Introduction 1.1 Aims and Objectives………………………………………………………………..4 1.2 Background……………………………………………………….………………….4 1.2(a) Evolution of Derivatives Trading in India……………………….……………...7 History of Derivatives……………………………………………………………10 1.3 Structure of study……………………………………………………………….......11

Chapter 2 Literature Review………………………………………………………..…..13 2.0 Forwards……………………………………………………………………………14 2.1 Functions of Derivative Market………………………………………………….....23 2.2 Evolution of Equity Derivatives and its Present Status………………………….31

Chapter 3 Research Methodology……………………………………...……….…….......35 3.1 Sampling…………………………………………………………………… ……..35 3.2 The Interviews…………………………………………………………………….36

Chapter 4 Data Analysis And Findings………………………………....……….……..36 4.0 Introduction………………………………………………………………………...36 4.2 Summary of Conclusions……………………………………………………..……53 4.3 Recommendations……………………………………………………………….....55

Biblography………………………………………………………………….………..56 Questionairre…………………………………………………………………………….57

Company Profile -(DESTIMONY SECURITIES PVT LTD.)

AT A GLANCE-

Destimony securities established in 2006 is a leading financial services organization providing finan-

Cial protection and wealth accumulation solutions for customers across india. Destimony is

promote-

D by New Silk Route-A leading Asia focused growth capital P.E firm with over $1.5 billion under

Management.

THE PROMOTER-NEW SILK ROUTE

New Silk Route is a leading Asia focused growth capital Firm founded in 2006 with $1.5 billion

und

-er management, focused on the Indian subcontinent, as well as other rapidly growing economies in

Asia and Middle East. N.S.R has investments in Consumer Services, Telecom, Manufacturing, Fina

-ncial Services and Infrastructure among others. It has a manpower of over 800 employees in 20 stat

-es.

LEADERSHIP

Destimony Securities is led by Sudip Bandopadhyay, A Chartered Accountant by Profession, Mr.

Bandopadhyay has over 25 yrs of experience in the Financial Sector.

VISION

To build one of the world class customer centric Financial Services entity that fulfils the

financial needs of the average Indian with global product and processes

To focus on profitable growth.

To unlock potential across four dimensions individual, team, customer and market place.

1

MISSION

To forge strong sustained relationships with the client by creating value for them.

To get thorough insight into clients financial needs and goals.

EQUITY ,CURRENCY AND COMMODITY TRADING SERVICES

On-line trading platform

State of art user friendly trading platform

Real time streaming quotes and portfolio tracking

Single platform to invest in equities, commodites,IPO and mutual funds

Tie up with leading Indian banks to facilitate seamless payments towards trading in equity

and derivatives.

HORIZONS

Trading member of BSE, MSE providing broking services in equity, commodity and currenc

-ies

Competitive Brokerage

Equities

On-line as well as off line trading

Equity Derivatives

Commodity Derivatives

Currency Derivatives

On-line IPO

2

DERIVATIVES MARKET IN INDIA:ITS PRESENT SCENARIO AND FUTURE PROSPECTS

Abstract

The derivative market has become multi-trillion dollar markets over the years.

Derivatives are financial commitments indexed or linked in some capacity to changes in

the value of underlying assets. The bulk of the derivatives trading internationally are

linked to currencies and interest rates, other derivatives are linked to equity or equity

indices. A very small volume of derivatives, compared to the total, is indexed to

traditional commodities. Small by comparison to other derivatives markets, these

commodities-indexed derivatives markets are large compared to the underlying physical

commodity market.

Questionnaires, sampling and interviews were conducted for answering the research

questions and achieving aims and objectives of research.

The findings were in favour of derivatives being vital for the stock market and they are

not diminishing in today’s world, but they are at the booming stage; and every

institutional investor. The research deals with basics of derivatives and its evolution in India.

In the report it is concluded that the derivatives market will continue to grow,and there is a

need to remove the obstacles in its way. Also,more products should be introduced in the

derivatives market.

3

CHAPTER 1

1.1 Aims and Objectives The aim of this research is to study the derivative market in India and its current and future

trends.

The objectives of the study are as follows:

• To have an overview of the Indian Derivative Market.

• To assess risk management tools and its strategies.

• To evaluate products of derivatives i.e. Forwards, Futures, Swaps and Options.

• To critically analyse its participants i.e. Hedgers, Speculators and Arbitrageurs.

• To evaluate the functions of derivatives.

• To analyse the trends of working and the future trends of Equity Derivatives.

• To propose conclusion and recommendation based upon the findings.

1.2 Background “The History of financial markets is replete with crises, such

as the collapse of the fixed exchange rate system in 1971, the Black Monday of October

1987, the steep fall in the Nikkei in 1989, the US bond debacle of 1994, all these events

occur because of very high degree of volatility of financial markets and their

unpredictability. Such disasters have become more frequent with increased global

integration of markets. Innovative financial instruments have emerged to protect against

hazards, these include Future and Options, which are the most dominant forms of

financial derivatives, since such volatility and associated disasters cannot be washed

away. They are called derivatives because their values are derived from an underlying

primary financial instrument, commodity or index, such as interest rates, exchange rates,

commodities and equities. For examples, a commodity future price depends on the value

4

of the underlying commodity; the price of a stock option depends on the value of the

underlying stock and so on. A derivative provides a mechanism, which market

participants use to hedge their position against the adverse movement of variables over

which they have no control. Financial derivatives came into

the spotlight along with the growing instability in current markets during the post- 1970

period, when the US announced its decision to give up gold- dollar parity, the basic king

pin of the Bretton Wood System of fixed exchange rates. The derivative markets became

an integral part of modern financial system in less than three decades of their emergence.

According to Greenspan (1997) “By far the most significant event in finance during the

past decades has been the extraordinary development and expansion of financial

derivatives…”

Derivatives include a wide range of financial contracts, including forwards, futures,

swaps and options. The International Monetary Fund (2001) defines derivatives

as

“financial instruments that are linked to a specific financial instrument or indicator or

commodity and through which specific risks can be traded in financial markets in their

own right. The value of a financial derivative derives from the price of an underlying

item, such as an asset or index. Unlike debt securities, no principal is advanced to be

repaid and no investment income accrues.” While some derivatives may have complex

structures, all of them can be divided into basic building blocks of forward and option

contracts or some combination thereof. For the purpose of hedging, speculating,

arbitraging price differences and adjusting portfolio risks, derivatives allow financial

institution and other participants to identify, isolate and manage separately the market

5

risks in financial instruments and commodities. The risks that are associated with

derivatives include credit risk, liquidity risk and market risk (comprising commodity

price risk, currency, interest-rate risk and equity price risk.). The risks of derivatives are

more directly related to size and price volatility of the cash flows they represent than they

are to the size of the notional amounts on which the cash flows are based. In fact the risk

of derivatives and cash flows, which are derived from them are usually only a small

portion of notional amounts. Financial institutions may use derivatives as dealers and

end-users. For example, an institution acts as a end-user when it uses derivatives to take

positions as part of its proprietary trading or for hedging as a part of its asset and liability

management; it acts as a dealer when it quotes bids and offers and commits capital to

satisfying customers’ demand for derivatives. 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 themselves against uncertainties arising out of

fluctuation in asset prices. The financial markets can be subject to a very high degree of

volatility by their very nature. It is possible to partially or fully transfer the price risks by

locking-in assets prices, through the use of derivative products. As instruments of risk

management, derivative products 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 investor.

“Derivatives produce initially emerged, as hedging devices against

fluctuation in commodity prices and commodity-linked derivatives remained the sole

6

form of such products for many years. The financial derivatives came into spotlight in post-

1970 period due to growing instability in the financial markets. In recent years, the market

for financial derivatives both OTC as well as exchange traded has grown both in terms of

variety of instruments available, their complexity and also turnover.” The factors generally

attributed as the major driving force behind growth of financial derivatives are:

• Increased volatility in asset prices in financial markets.

• Increased integration of financial markets with the international markets.

• Market improvement in facilities of communication and a sharp decline in costs.

• Providing economic agents a wider choice of risk management strategies through

development of more sophisticated risk management tools.

• Optimally combining the risks and returns over a large number of financial assets,

leading to higher returns, reduces risk as well as transaction cost as compared to

individual financial assets by innovations in the derivative markets.

1.2 (a) Evolution of Derivatives Trading in India

All markets face different kind of risks. The derivative is one of

the categories of risk management tools. As this consciousness about risk management

capacity for derivative grew, the market for derivatives developed. Derivatives markets

are generally an integral part of capital markets in developed as well as in emerging

market economies. These instruments support business growth by disseminating effective

7

price signals concerning indices, reference rates or other assets, exchange rates and

thereby render both derivatives and cash markets more efficient. Possible adverse market

movements offer protection through these instruments and can be used to offset or

manage exposure by hedging or shifting risks particularly during the periods of volatility

thereby reducing costs. By allowing the transfer of unwanted risk, derivatives can

promote more efficient allocation of capital across the economy, increasing productivity

in the economy. Though the commodity features trading has been in existence since 1953

and certain OTC derivatives such as Forward Rate Agreements (FRAs) and Interest Rate

Swaps (IRSs) were allowed by RBI through its guidelines in 1999, the trading in

“securities” based derivatives on stock exchange was permitted only in June 2000. The

discussion that follows is mainly focussed on “securities” based derivatives on stock

exchanges.

The legal framework for derivatives trading is a critical part of

overall regulatory framework of derivative markets. This will be clear when discussed

later on how the regulation and control of derivatives trading and settlement have been

prescribed through suitable amendment to the bye-laws of the stock exchanges where

derivatives trading were permitted. With the role of state intervention in the functioning

of markets is a matter of considerable debate, it is generally agreed that regulation has a

very important and critical role to ensure the efficient functioning if markets and

avoidance of systemic failures. The purpose of regulation is to promote the efficiency and

competition rather than impeding it.

8

While there is a perceived similarity of regulatory

objective, there is no single preferred model for regulation of derivative markets. The

major contributory factors for success or failure of derivatives market are market culture,

the underlying market including its depth and liquidity and financial infrastructure

including the regulatory framework. The efficiency of derivatives market can be impaired

through government interventions. For example, governmental trade agreements or price

controls aimed at stabilizing prices, which do not allow derivative market to flourish are

such examples of government intervention. Further, since the financial integrity,

efficiency, market integrity, integrity and customer protection which are the common

regulatory objectives in all jurisdictions, are critical to the success of any financial

market. Anyone responsible for operating such a market would have strong incentives

independent of external regulation to ensure that these conditions are present in the

market place. The incentives for self-regulation can be complemented through the

observation of a successful regulatory system while reducing the incentives and

opportunity for behaviour, which threatens the success and integrity of market

(International Organization of Securities Commission 1996a). The derivatives

market

that have emerged will require legislation normally, which addresses issues regarding

legality of derivatives instruments, specially protecting such contracts from anti-gambling

laws, because these involve contracts for differences to be settled by exchange of cash,

prescription of appropriate regulations and power to monitor compliance with regulation

and power to enforce regulations. The type and scope of regulation also change, as the

industry grows. Therefore, regulatory flexibility is critical to the long run success of both

regulation and industry it regulates. It would be interesting to observe the historical

9

evolution of development of derivatives market and then examine what needs to be done to

build up these markets.

History of Derivatives: A Time Line

The Ancient: Derivatives

1400s -Japanese rice futures

1500s- Dutch tulip bulb options

1800s- Puts and options

The Recent: Financial Derivatives Listed Markets

1972- Financial currency futures

1973 - Stock options

1977 - Treasury bond futures

1981- Eurodollar futures

1982- Index futures

1983- Stock index options

1990- Foreign index warrants and leaps

1991- Swap futures

1992-Insurance futures

1993- Flex options

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1.3 Structure Of Study

Chapter 1 This chapter looks into the markets of derivatives in detail and introduces the equity

market of India and shows how derivatives revolve around the equity market. It also

shows the companies which made profits through them and disasters, and, finally, why they

are important in today’s world.

Chapter 2 This chapter discusses the methodology of the study. It describes the method of collecting

data and sampling.

Chapter 3 This chapter is concerned with data presentation and analysis. It commences with the

presentation of data as put forward in the questionnaire, in order to facilitate in the

analysis process of data. The data presented will be analysed in detail against other

research. The main finding of the research is highlighted. It summarises the conclusions,

11

which have been drawn using the available data and analysis of it. It also put forwards

future recommendations, regarding the use of derivatives within organisations.

Chapter 4 This chapter brings out the conclusion based on the research and its findings. Area of

future research has been suggested in this chapter, which has been identified during the

writing of study.

Thus the aims and objectives of research which have been achieved in the later part of the

research and also about the historical background of derivatives market i.e. Evolution of

trading and forward trading in India, has been discussed in this chapter.

12

CHAPTER 2

Literature Review

“A derivative is a synthetic construction designed to give the

same profile of returns as some underlying investment or transaction, without requiring

the principal cash outlay. They are called derivatives because they derive their value from

the performance of the underlying instrument. Financial derivatives can be found in debt,

equity, currency and commodity markets”. The examples of derivatives include futures,

forwards, options and swaps. In simple words derivatives is a financial model which

includes a wide range of financial contracts including forwards, futures, options and

swaps which helps corporation to achieve success in the market.

Derivatives allow financial institutions and other participants to identify, isolate and

manage separately the market risks in financial instruments and commodities for the

purpose of hedging, speculating, arbitraging price differences and adjusting portfolios

risks. “Derivatives are used as a tool of risk management; the risks are associated with

derivatives including market risk,credit risk and liquidity risks. The risks are directly related

to size and price volatility of the cash flows they represent they are to the size of the notional

amounts on which the cashflows are based. Derivatives as “financial instruments which can

be traded (e.g. options, warrants, rights, futures contract, options on futures, etc.) on various

markets. They are called derivatives because they are “derived” from some real, underlying

item of value (such as company share or other real, tangible commodity.) A

derivative is a tradable “contract”, created by exchangers and dealers. A warrant or

option is the simplest form of derivative. The most common usage relates to the trading

13

of commodities futures and options on futures-where pre-defined contracts relating to a right

to buy or sell and underlying commodity or security are traded as opposed to the actual

commodity or security itself.” NPV, APT and CAPM are few such financial models

which are part of derivatives; corporations use these models in addition with derivatives

to achieve success. Thus, as mentioned above by diverse authors, that derivatives have

various products/variants which play a vital role in the market for any institution; they are

Forwards, Futures, Options and Swaps:-

2.0 (a) Forwards

“A forward contract is an agreement between two parties calling for

delivery of, and payment for, a specified quality and quantity of a commodity at a

specified future date. The price may be agreed upon in advance, or determined by

formula at the time of delivery or other point in time”. Beside other instruments, such as

Options or Futures, it is used to control and hedge risk, for example currency exposure

risk (e.g. forward contracts on USD or EUR) or commodity prices (e.g. forward contracts

on oil). The forward price usually gives a good estimation of the market price in the

future.A forward contract is an agreement between two persons for the purchase and sale of

a commodity or financial asset at a specified price to be delivered at a specified future date.

One of the parties to a forward contract assumes a long position and agrees to buy the

underlying asset at a certain future date for a certain price. The specified price is referred to

as the

14

delivery price. The parties to the contract mutually agree upon the contract terms like

delivery price and quantity.

2.0 (b) Futures

“A Futures Contract is 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 futures price, naturally, converges towards the

settlement price on the delivery date”. In simple words, “futures contract

as a standardized, transferable, exchange-traded contract that requires delivery of a

commodity, bond, currency, or stock index, at a specified price, on a specified future

date. Unlike options, futures convey an obligation to buy. The risk to the holder is

unlimited, and because the payoff pattern is symmetrical, the risk to the seller is

unlimited as well. Dollars lost and gained by each party on a futures contract are equal

and opposite. In other words, a future trading is a zero-sum game. Futures contracts are

forward contracts, meaning they represent a pledge to make a certain transaction at a

future date. The exchange of assets occurs on the date specified in the contract. Futures

are distinguished from generic forward contracts in that they contain standardized terms,

trade on a formal exchange, are regulated by overseeing agencies, and are guaranteed by

clearing houses. Also, in order to insure that payment will occur, futures have a margin

15

requirement that must be settled daily. Finally, by making an offsetting trade, taking

delivery of goods, or arranging for an exchange of goods, futures contracts can be closed.

Hedgers often trade futures for the purpose of keeping price risk in check also called

futures”. The Types of Futures which are as follows:

Foreign Exchange Futures

Currency Futures

Stock Index Futures

Commodity Futures

Interest Rate Futures

2.0 (c) Options

“An Options Contract is the right, but not the obligation, to buy (for a

call option) or sell (for a put option) a specific amount of a given stock, commodity,

currency, index, or debt, at a specified price (the strike price) during a specified period of

time. For stock options, the amount is usually 100 shares. Each option contract has a

buyer, called the holder, and a seller, known as the writer. If the option contract is

exercised, the writer is responsible for fulfilling the terms of the contract by delivering

the shares to the appropriate party. In the case of a security that cannot be delivered such

as an index, the contract is settled in cash. For the holder, the potential loss is limited to

the price paid to acquire the option. When an option is not exercised, it expires. No shares

change hands and the money spent to purchase the option is lost. For the buyer, the

16

upside is unlimited. Option contracts, like stocks, are therefore said to have an

asymmetrical payoff pattern. For the writer, the potential loss is unlimited unless the

contract is covered, meaning that the writer already owns the security underlying the

option. Option contracts are most frequently as either leverage or protection. As leverage,

options allow the holder to control equity in a limited capacity for a fraction of what the

shares would cost. The difference can be invested elsewhere until the option is exercised.

As protection, options can guard against price fluctuations in the near term because they

provide the right acquire the underlying stock at a fixed price for a limited time risk is

limited to the option premium (except when writing options for a security that is not

already owned). However, the costs of trading options (including both commissions and

the bid/ask spread) is higher on a percentage basis than trading the underlying stock. In

addition, options are very complex and require a great deal of observation and

maintenance also called option”.

There are two different types of options which are as follows:

Call Option

Put Option

“Asian Options are different and are average rate

options. At the end of the contract period, the strike rate is compared with the average

rate observed for the currency exchange. If the strike price is favorable to the holder of

17

the Asian Options, the option is exercised by the way of cash settlement. Asian options

are useful for hedging currency exposure where management accounts are translated on

an average rate for the accounting period and are misleading cheaper that American or

European options. They simply cost less because of the statistical fact that an average of a

price series is more stable than any particular price series. Asian options are cash settled

automatically”.

2.0 (d) Swaps

“A swap is a derivative, where two counterparties exchange one stream of

cash flows against another stream. These streams are called the legs of the swap. The

cash flows are calculated over a notional principal amount. The notional amount

typically does not change hands and it is simply used to calculate payments Swaps are

often used to hedge certain risks, for instance interest rate risk. Another use is

speculation”.

The notional amount typically does not change hands and it is simply used to calculate

payments.

Types of Swaps

There are two basic kinds of swaps:

Currency Swaps

Interest Rate Swaps

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Currency Swaps involve exchange of currencies at specified exchage rates and to make a

series of interest payments for the currency that is received at specified intervals.Today,

interest rate swaps account for the majority of banks’swap activity and the fixed for floating

rate swap is the most common interest rate swap. In such a swap one party agrees to make a

floating rate interest payment in return for fixed rate interest payments from the counterparty,

with the interest rate calculations based on hypothetical amouny of principal called the notional

amount.

The emergence of the derivative market products most notably forwards, futures and

options can be traced back to the willingness of risk-averse economic agents to guard

themselves against uncertainties arising out of fluctuations in asset prices. Financial markets,

by the very nature can be subject to a very high degree of volatility. Through the use of the

products of derivatives it is possible to fully or partially transfer risk of price by looking-

in the price of assets. As instruments of risk management, derivative products

generally do not influence the fluctuations in the underlying asset prices. However by

locking -in the price of assets, the products of derivatives minimize the impact of

fluctuation in the price of assets on the profitability and cash flow situation of risk-averse

investor.

19

There are three broad categories of participants-hedgers, speculators and arbitrageurs,

trade in the derivative market they are:

2.0 (e) Hedgers

Hedgers are attracted to the derivative market to reduce a risk they already face. A hedge is

a position in order to offset the associated risk with the movement of price of an asset and

to reduce the risk with the use of derivatives. A hedger is a trader who enters the future

market to reduce a pre- existing risk.

2.0 (f) Speculators

In contrast to hedgers who want to reduce or eliminate their risk, speculators take a

position in the market, thereby increasing their own risk. Speculators buy and sell

derivatives to make profit and not to reduce their risk. Speculators wish to take a position

in the market by betting on future movement of price of an asset. Futures and options

both increase the potential gain and losses in a speculative venture. Speculators are

attracted to exchange traded derivative products because of their high leverage, high

liquidity, low impact cost, low transaction cost and default risk behavior. It is the

speculators who keep the market going because the bear the risks, which no one else is

willing to bear.

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2.0(g) Arbitrageurs

An arbitrageur is basically risk-averse and enters into those contracts where he can earn

riskless profits. It is possible to make riskless profits by buying one market and

simultaneously selling in another, when markets are imperfect (long in one market and

short in one market). Arbitrageurs always look out on such price differences.

Arbitrageurs fetch enormous liquidity to the products, which are traded on exchanges.

The liquidity in-turn results in better price discovery, lesser market manipulation and

lesser cost of transaction.

“The hedgers, the speculators and the arbitrageurs all three must co-

exist. A hedger is always risk-averse. Typically in India he may be a treasurer in a public

sector company who certainly wants to know the cost of interest for the year 2002,

therefore based on the current information, he would enter into a future contract and lock

up the rate of interest four years hence. But he consciously ignores what is called the

upside potential (here the possibility that the interest rate may be lower in 2002 that what he

had contracted for four years earlier. A hedger therefore plays it safe. To complete the hedging

transaction, there

must be another person willing to take advantage of the movement of price that is the

21

speculator. The speculator thrives on uncertainties while the hedger avoids them. The

speculator stands to gain enormously if he is proved correct but if the speculator forecast

wrong then he may lose plenty of money. An integral part of derivative market is the risk

taking associated with speculation. The arbitrageur is the third category of participant,

who looks at riskless profit by buying and selling simultaneously, the same or similar

financial products in various markets. There is a possibility to take advantage of space or

time differentials that exist, as markets are seldom perfect. Arbitrage evens out the price

variations.

In simple words, for healthy functioning of the derivative market, all the three types of

participants are required. The market would become mere tools of gambling if without

hedgers, as they provide economic substance to this market. Speculators provide depth

and liquidity to the market. Arbitrageurs help in bring price discovery and price

uniformity. The presence of the three participants not only enables the smooth

functioning of the market in derivatives but also helps in increasing the market liquidity

as well.

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2.1 Functions of Derivative Market

The derivative market performs a number of useful economic functions:

1. Price Discovery: The futures and options market serve an all important

function

of price discovery. To take advantage of such information in these markets, the

individuals with better information and judgment are inclined to participate. The

actions of the speculator swiftly feed their information into the derivative markets

causing changes in the prices of derivatives, when some new information arrives,

perhaps some good news about the economy. As indicated earlier, these markets

are usually the first ones to react because the cost of transaction is much lower in

these markets than in the spot markets. Therefore, these markets indicate what is

likely to happen and thus assist in better price discovery.

2. Risk Transfer: The derivative instruments do not themselves involve risk, by

the

very nature. Rather, they merely distribute the risk between market participants.

In this sense, the whole derivative market may be compared to a gigantic

insurance company - providing means to hedge against adversities of

unfavourable market movements in return for a premium, providing means and

opportunities to those who are prepared to take risks and make money in the

process.

23

3. Market Completion: The existence of derivative market adds to the degree

of

completeness of the market. When the number of independent securities or

instruments is equal to the number of all possible alternative future states of

economy, it implies a complete market. To understand the idea, let us recall that

the derivative instruments of futures and options are instruments that provide the

investor the ability to hedge against possible odds or events in the economy. If

instruments may be created which can, solely or jointly, provide a cover against

all the possible adverse outcomes, then a market would be said to be complete. It

is held that a complete markets can be achieved only when , firstly , there is a

consensus among all investors in the economy can land up with, secondly, there

should exist an ‘efficient fund’ on which simple options can be traded. Here an

efficient fund implies a portfolio of basic securities that exist in the market with

the property of having a unique return that exist in the market with property of

having a unique return for every possible outcome, while a simple options is one

whose payoffs depends on underlying return.

Evidently, since the requiring condition identification and listing of all possible

states of the economy can never be obtained in practice, and it is also not possible to design

financial contracts that are enforceable, which can cover an endless range contingencies,

a complete market remains a theoretical concept. Thus leads to a great degree of

market completeness due to the presence of futures and options.

24

“Derivatives are the risk”. This statement can be wrong at a

certain point, and at the same time it can be right as well. Derivatives involving disasters

have confined the notice of the global financial sector. Names like Orange County,

Barings, and Proctor&Gamble have come to symbolize the “danger of derivatives”.

Since derivatives grow to have an increasingly significant impact in the economy of

India, what does this mean for us? Barings Bank was brought down by a single trader is

State Bank similarly vulnerable? Specifically in the equity market, where the first exchange-

traded derivatives are likely to start trading in early 1998, what new pitfalls lie in store for

us? Thus it shows that derivatives do not always give way to profits, but it also

sometimes gives ways to losses.

These examples suggest that the scandals are not

only in the market of derivatives-related instruments, but also in foreign exchange

trading, commodity trading and in bonds. ‘Over-the-counter’ (OTC) deals with most of

the failures which have taken place, except with the Barings’ case where it was a case of

internal fraud, as also with the case of Daiwa Bank, where there was a loss of $1 billion

in debt portfolio. ‘Over-the-Counter deals lack a well laid out regulatory framework,

transparency and sophisticated margin system. Due to the complex nature of transactions,

most of the failure happens, while exchange-traded derivatives are simple and easy to

understand. In that sense, these derivatives have been found to be more useful in allowing

participants to transfer their risk, without the problems associated with the OTC deals.

25

For normal equity or debt trading as much as derivative trading, internal control would be

important in any case; and the participants need to be more cautious in implementing and

operating superior back-office and control system to stay away from any internal control

failures. Indian investors will have difficulties in understanding, as derivatives are

complex and exotic instruments. Trading in standard derivatives such as forwards, futures

and options is already established in India and has a long history. Forward-trading in

rupee-dollar forward contracts, which has become a liquid market and also cross currency

options trading are allowed by the Reserve Bank of India (RBI).

The derivatives have existed in the equity market for long. In fact, the history of the

Native Share and Stock Brokers Association, which is now known as the Bombay Stock

Exchange (BSE), suggests that the concept of options existed early as in 1898. Even today,

options are traded with complex strategies, which are called jota-phatak, bhav-bhav and

teji-manda at various places. In that sense, derivatives are not new to India and are current

in various markets including the equity markets.

26

The market of India is not ready for derivatives trading and capital

markets are safer than derivatives and are correct to some extent because there are no

risks such as Investment, Liquidity, Credit, Exchange, Management and Market risks.

This was the situation when they were just introduced to the market, and people playing

with it didn’t know what exactly it means but now derivatives are used as a tool of risk

management and there are no more conflicts in using derivatives in equity markets and

other markets, because people today have the exact knowledge that derivatives is not just

an underlying value, because they are derived from any asset or commodity but now they

know derivative is a financial model and know what derivatives can do to help their

corporation and is far more better than capital market.

Ever since the first financial futures started trading in 1972,

the global industry of derivatives has seen massive growth rates, with trading volumes

doubling every three years for the following twenty years. The outstanding derivative

position that exist today typically run into many trillion of dollars

27

In this situation,in the early nineties, we have seen disasters involving a few billion dollars.

This is not a large “failure rate”. It is useful to demarcate two categories of derivatives

contracts:those which are traded at exchange and those which are traded on OTC. OTC

derivatives involve many complexities: the price that is negotiated might not be fair price,

there is a counter party risk, the transactions are not publicly visible and the

complexity of contracts often generates unsavory sales practices and high fees for

intermediaries.In contrast, exchange-traded derivatives are safer in many directions: they

ensure that users get a fair price on all trades; there is zero risk of default through the role

of clearing corporation and high degree of transparency. A lot of famous disasters have

taken place with the OTC derivatives.

In India, on the equity market, SEBI has made it clear that the development of the

derivatives industry should focus on exchange- traded derivatives. In the commodities

area also, the development of the last three years in India have centered on exchanges. It

is in interest rates and currencies, where OTC derivatives presently dominate in India that

28

concerns about fairplay and credit risk are more serious. India’s equity market has been

the centre of better debates. One argument which is often heard runs as follows:

“Derivatives are highly leveraged instruments; hence the proposal to create index futures

and options should be viewed with great caution.” This is inconsistent with a remarkable

fact about exchange-traded index derivatives in India: they involve less danger than

existing spot market.

Market Manipulation The index, with a market capitalisation of Rs.2.2 trillion , is much harder to manipulate

that individual securities. Hence the dangers of market manipulation are smaller on an

index derivatives market as compared with the existing cash market i.e. the market

manipulation is much smaller on an index of market of derivatives as compared to the

cash market.

Insider Trading Individual companies are typified by sharp information of asymmetry, between external

traders/investors and company insiders. In contrast, the index is about India’s

macroeconomy, where there is less information of asymmetry i.e. in this sense , there is a less

scope for malpractice on a market which trades the index.

The India’s dollar-rupee forward market experience, the largest

market of derivatives in existence in India today- is an example of how this might

29

proceed. When this market first came about, it had a fairly restricted usage. Today, the

use of forward market is routine and commonplace amongst hundreds of importers and

exporters. These are firms with core competences such as importing crude oil or

exporting garments; they are faced with currency risk and do not view trading in the

rupee as being a core competence. The forward market enables them to proceed with

their core competences while using the forward market to eliminate currency risk. The

dollar-rupee forward market has typical daily trading volumes of $1.5 billion, which

makes it one of the biggest financial markets in India today. Even though it is an OTC

market, it is known as a serious disaster.

Over the years the market of derivatives have become multi-

trillion dollar markets .Derivatives are financial commitments indexed or linked in some

capacity on the value of underlying assets. The bulk of the derivatives traded

internationally are linked to currencies and interest rates. Other derivatives are linked to

equity or equity indices. A very small volume of derivatives, compared to the total is

indexed to traditional commodities. Small by comparison to other derivatives markets,

these commodities-indexed derivatives markets are large compared to the underlying

physical commodities markets. It has been a gradual march to glory for derivatives

trading in India with current average daily trading volume at more than 10000 crores

Thanks to the market’s growing fancy for stock futures,

derivatives trading have finally been able to underline its presence in the Indian capital

market. From a meager Rs. 35 crores worth of turnover in June 2000, when derivatives

where introduced in phase to Rs. 572,403 crores in December 2003 and reached Rs

30

600,000 crore in March 2006. There has been a phenomenal rise in the growth of futures

and options market. Gradually more derivatives products are being offered with the

underlying as diverse as commodities, credit, interest rate, currency etc.

In simple words, derivatives have come along from 1970 till today, it had helped

corporations to make immense profit, and sometimes it had corporations going down the

drain with all the losses on their head. As explained earlier, derivatives have four main

variants/products which are Forwards, Options, Swaps and Options and also have three

main participants which are Hedgers, Speculators and Arbitrageurs and the scenario of the

Indian derivative market. Now let us see how derivatives revolve around equity i.e. stock

market and foreign markets in India.

2.2 Evolution of Equity derivatives and its Present Status

Equity derivatives trading started in India in June 2000, after a regulatory process

which stretched over more than four years. In July 2001, the equity spot market move to

rolling settlement. Thus, in 2000 and 2001 the Indian Equity market reached the logical

conclusion of the reform program, which began in 1994. It is, hence, important to learn about

the behaviour of the equity market in this new regime.

India’s experience with the launch of equity derivatives market has been extremely

positive, by world standards. Amongst all emerging markets, in terms of equity

derivatives turnover, NSE is now one of the prominent exchanges. There is an increasing

sense that the market of equity derivatives is playing a major role in shaping price

31

discovery. The goal of this section is to convey a detailed sense of the functioning of the

equity derivative market. I seek to convey some insights into what is going on with the

equity derivative market, and summarise broad empirical regularities about pricing and

liquidity. Equity derivatives are traded only on two exchanges.

NSE

BSE

Chart 1 shows the time-series of NSE and BSE turnover. This graph is in log scale.

Straight line segments in such graphs correspond to periods of constant percentage

compound growth rate. This suggests that NSE has had a phase of meteoric and steady

growth from May 2001 onwards. As taken place with competing derivatives markets

elsewhere in the world, there was substantial competition in the early days of market.

However, NSE has become the clearly dominant market trading equity derivatives in

India.

Chart 1: Derivative Markets Volume at NSE and BSE

32

Trading Mechanism

The trading system of derivatives at NSE is known as NEAT-F&O trading system,

which provides a fully automated screen-based trading for all kinds of products of

derivatives available on NSE on a national wide basis. It supports an anonymous

order driven market, which operates on a time priority/strict price. It offers great

flexibility to users in terms of kinds of orders that can be placed on the system. Various

time and price-related conditions like Immediate or Cancel, Limit/Market Price, Stop Loss,

etc. can be built into an order. The trading in derivatives is essentially similar to that of

trading of securities in the CM segment.

There are four entities in the trading system:

1. Trading members: Trading members can either trade either on their own

account

or on behalf of their clients including participants. They are registered as

members with NSE and are assigned an exclusive trading member ID.

2. Clearing members: Clearing members are members of NSCCL. They

carry out

risk management activities and confirmation/inquiry of trades through the trading

system. These clearing members are also trading members and clear trade for

themselves or/and others.

33

3. Professional clearing members: A professional clearing member

(PCM) is a

clearing member who is not a trading member. Typically, banks and custodian

become PCMs and clear and settle for their trading members.

4. Participants: A participant is a client of trading members like

financial

institutions. These clients may trade through multiple trading members, but settle

their trades through a single clearing member only.

The terminals of trading of F&O Segment are available in 298 cities at the end of March

2006. Besides trading terminals, it can also be accessed through the internet by investors

from anywhere.

34

CHAPTER 3

3.1 Sampling

Four companies were chosen for having Comparative Analysis of Current and Future

trends with the help of Equity (stock) market in India.

The companies which have been chosen for the comparative study are:

NSE

BSE

ShreeKrishna Mutual Funds Ltd

Kabra Mutual Funds Ltd.

These above mentioned companies do represent a part of Mutual Fund’s

Associations companies, so data collected is valid and reliable to all extent.

Research was be carefully studied, analyzed, and conclusions were made on the

overall performance of three kinds of funds of the above chosen Mutual Fund

Companies.

35

3.2 The Interviews

The data that is collected is valid and reliable as mentioned earlier as these companies represent a part

of Mutual Fund’s Association of the companies.Therefore, same set of questionnaires were used but

subsidiaries’ questions were used depending on the responses. Therefore, various interview were conducted

a some interviews with the employee working for the above mentioned firms and the employees of NSE and

BSE markets.The sample size of interview will be 15 which would be analysed by quantitative methods.To

collect the data from the four major mutual fund companies under study,i had used semi-structured

interviews. The data that is collected is recorded as written note and shown in chart form analysis. The bias

information is removed through this process and tries to probe deeply into real ideas of the

respondents.

CHAPTER 4

Data Analysis and Findings

Derivatives are key parts of the financial system. They are financial instruments which

are derived from underlying items of values and it does play a vital role in the equity

markets in many forms such as Forwards, Futures, Swaps and Options. Derivatives do

revolve around these above-mentioned variants/products with the help of its participants

which are Hedgers, Speculators and Arbitrageurs.

36

Chart 1: Awareness of Derivatives in Equity Market.

100 9580

60 YesNo

40 N/A20 0 4 1

The chart above clearly shows that 95% of the people have knowledge about what

derivatives are and how they revolve around the equity market. 4% of the people thinks

that derivatives are no longer to be used in the equity market, and 1% of the people have

knowledge of what derivatives are but do not know what difference it makes to the equity

market.

37

The NSE reported a total turnover of Rs.25,470,526 million

during 2004-2005 as against Rs.21,306,492 million during the preceding year, about 770

lakhs contracts were traded during the same period. The daily turnover average also

increased from 110,150 million in April 2004 to 135,844 million in March 2005.

The product-wise distribution of turnover for NSE segment for the period 2004-2005 is

presented in Chart 2. It seems that near month contracts are most popular than not so

near month contracts, futures are more well-liked than options, contracts on securities are

more well-liked than on indices and call options are more well-liked than put options.

Chart 2 Product-wise Distribution of Turnover of NSE, 2004-2005

Thus from the above chart we can see clearly that Stock Futures (58.27%) have

dominated the market in 2004-2005 and have the highest product-wise distribution of

38

turnover of the NSE in compared to Stock Options(6.63%), Index Futures (30.32%) and

Index Options(4.79%).

One of the puzzles in India’s experience with the equity derivatives has been domination of

individual stock derivatives. This partly reflects a problem with human capital, where the

thought processes of speculation and market making on individual stocks, which have

prevailed for many decades, were carried forward into equity derivatives market from

2001, onwards. In contrast, trading in index derivatives requires new kinds of thinking like

the portfolio concept diversification.

As experience with derivative grows, we shall expect a greater shift away from individual

stocks to index derivatives. In addition, the importance of index volatility is greater when

faced with situations like budget announcement, or the Gulf War, as opposed to months

where macroeconomic news appears to be unimportant.

39

Chart 3: Business Growth of NSE Segment

Source: NSE

The business growth of NSE segment is shown in the chart above. The daily average

turnover is also shown during the period. It is seen that the average daily turnover was

more than 250000 million during Jan-Mar 2006 quarter whereas it has

been increasing from Jan- Mar 02 quarter which was approximate 1000 million, it does

not mean that people didn’t know what was the equity market at that time but they were

getting much more knowledge about the stock market and thus as we can see in the chart

above the business growth have not been stagnant but it has been increasing with a quick

speed and thus have reached the turnover above 250,000million during the quarter Jan -

March 2006.

40

Intermediation

The key element of a successful derivatives market is a nationwide network of brokerage

firms. These role play a important role in terms of giving direct market access to firms

and individuals located across the country , by doing credit risk management about the

failure of customers, and by performing knowledge functions in terms of training,

technical support and consulting.

Geographical Distribution

The F&O segment of NSE provides a nation-wide market. During the month Jan 2005,

Mumbai contributed nearly 43.54% of the total turnover. The contribution from Delhi

was 21.54% and Kolkata was 12.15%.

The distribution of and the turnover of derivatives by various urban centres

as of Jan 2005 shows that equity derivatives trading is more concentrated in the top

five urban centres. Turnover from outside the top five centres amounts to 18.2% only.

This difference is likely to be largely owing to gaps in knowledge on the part of

employees of brokerage firms, and their customers, in location outside the major urban

centres.

41

Derivatives Markets in India

Member trading Pattern in the Derivative Segment

Source: NSE

Open Interest

Open Interest is the total number of outstanding contracts that are held by market

participants at the end of each day. Putting it simply, open interest is a measure of how

much interest is there is a particular option or future. Increasing open interest means that

fresh funds are flowing in the market, while declining open interest means that the market is

liquidating.

42

Chart 4: Awareness of the Open Interest Rate

120%

100%

80%60%40%

20%0%

97%

YesNoN/A

2% 1%

Yes No N/A

Chart 4 clearly shows that 97% of the people are aware of what is open interest and

have knowledge about how important is it for the equity market., where as 2% of the

people do not know what is implied by open interest rate and 1% are aware and

have knowledge about how important is open interest rate but they don’t know

what difference does it make to the equity market.

43

Chart 5: Daily Open Interest for Near Month Nifty Futures for 2004 - 2005

Source: NSE

Chart 5 clearly shows that the daily open interest rate have been tremendously going up

from 1- 15 April 2002 which is a very good sign for market, because the more the open

interest goes up, the more the market is flowing in with fresh funds and by any chance if

the daily open interest rate goes declines/down, then the market will have to pay debts.

So, the above chart clearly shows that the market is flowing in with fresh funds and the

daily open interest rate is as high approximate Rs.20000 million.

44

Implied Interest Rate

The ideal efficient market, the cost of transaction should be zero, and there should be a

generous supply of sophisticated arbitrageurs. This should yield a cost of carry on the

futures market which exactly reflects the zero coupon yield curve for government bonds,

with a slight risk premium to reflect the failure probability of clearing corporation.

The implied interest rate or futures market or cost of carry is often used inter-changeably.

Cost of carry is more appropriately used for commodity futures, as by definition it means

that the total costs required carrying a commodity or any other good forward in time. The

costs involved are insurance cost, transportation cost, storage cost and the financing cost.

In case of equity, the carry cost is the cost of financing less the dividend returns.

Assuming zero dividends the only relevant factor is the cost of financing. One could

work out the implied interest rate incorporated in future prices, which is the percentage

difference between the future value of an index and the spot value annualised on the basis

of the number of days before the expiry of the contract. Carry cost or implied interest rate

plays an important role in determining the price differential between the spot and the

futures market. By comparing the implied interest rate and the existing interest rate level,

one can determine the relative cost of futures’ market price. Implied interest rate is also a

measure of profitability of an arbitrage position. Theoretically, if futures price is less that

the spot price plus cost of carry or if the future price is greater than the spot price plus

cost of carry, arbitrage opportunities exist.

45

Chart 6 shows the awareness of people in subject to Implied Interest Rate. The futures

prices are available for different contracts at different points of time. Chart 7 presents

Nifty futures close prices for the near month contracts, which are most liquid

and the spot

Nifty close values from April 2003 to March 2004. The difference between the future

price and spot price is called basis. As the time to expiration of a contract reduces, the

basis reduces. Daily implied interest rate for Nifty futures from April 2003 to March

2004 is also observed. It is observed that index futures

market suffers from mispricing in the sense that futures trade at discount to underlying.

This may be due to restriction on short sales and lack of maturity.

Chart 6: Awareness of Implied Interest rate

100% 96%80%

60% Yes40% No

N/A20%0% 3% 1%

Yes No N/A

Chart 6 above shows that 96% of the people are aware of what implied interest is and

have the knowledge about how important it is to the equity market, where as 3% of the

people have no clue about what is known by implied interest rate and 1% of the people

are aware of it and have knowledge about how important is Implied interest for the equity

market but they don’t know what differences does it make to equity market.

46

Chart 7: Nifty Futures and Spot Price (2004 -2005)

47

Implied Volatility

Volatility is one of the important factors, which is taken into account

while pricing options. It is a measure of the amount and the speed of price change. To

estimate future volatility, a time series analysis of historical volatility may be carried out

to know the future movements of the underlying. Alternatively, one could work out

implied volatility by entering all parameters into an option pricing model and then

solving it for volatility. For example, the Black Scholes model solves for the fair price of the

option by using the following parameters-days to expiry, strike price, spot price, and

volatility of underlying, interest rate, and dividend. This model could be used in reverse

to arrive at implied volatility by putting the current price of the option prevailing in the

market. Putting it simply implied volatility is the estimate of how volatile the underlying

will be from the present until the currency of option. If volatility is high, then the options

premiums are relatively expensive and vice-versa. However, implied volatility estimate

can be biased, especially if they are based upon options that are thinly traded samples

Chart 9: Awareness of Implied Volatility

100% 95%

80%

60% Yes

40% NoN/a

20%

0% 3% 2%

48

Chart 9 above shows that 95% of the people are aware of what Implied Volatility is and have the

knowledge important it is to the equity market, where as 3%of the people have no clue about what is known

by implied volatility and 1% of the people are aware of it and have knowledge about how important is

Implied Volatility for the equity market but they don’t know what differences does it make to equity market.

Political Future

Relation between the organisation and government

The distribution of income is directly related to GDP of a country, as mentioned above and since the

GDP is directly related to each and every consumer’s income, therefore more than 79% of the people

Are employed by the equity market and thus it concludes that India is tertiary economy and no more

an Agrarian economy. Nowadays, the government is playing a major role in each and every country

and giving out investment policies not only related to stock market but also related to stock market

but also related to power industries,tea industries etc.

Education Future

Today there is an awareness made to the people by the government that the fact that

derivatives do play an important role in the equity market by making them more and

more educated not in general manners but also in the stock market, to know how vital

the stock market is, there are courses conducted. And how our economic is directly

related to it, which is very vital for all the individuals to know, because the total GDP for

our country depends on the equity market.

49

Economic Future

Interest Rate

Interest rate depend on the equity market because if the interest rates are set high by any

firm for their shares then buyers would not buy their shares and would opt for some

other good firm’s shares i.e. stocks. So the interest rate for each and every firm’s

shares should be set to standard rate.

Investment, by the state, private enterprise and foreign companies.

There is investment made by foreign companies, state, people and private enterprise

into this equity market. For instance in India, Reliance, Dell, Satyams, Wipro and many

other big names are examples of people, foreign companies and private enterprise

investing into them to make them recognised worldwide.

Currency fluctuations and exchange rates.

Currency fluctuations and exchange rates of each and every country depends upon its

GDP. As mentioned above that equity markets do play a vital role to set up or to

decline a country’s GDP, because people do invest in this market to get high returns.

50

Disposable Income and Consumer expenditure.

Disposal income is an income where an individual keep it aside for investment or any

other activity. As there are higher returns in the stock market and people are aware

of these, individuals are investing more and more of their disposable income

into stock market to obtain high returns.

Social-Cultural Future

Distribution of Income

Distribution of Income does relate with Equity and Derivatives market, because in

countries like India for, the total GDP relates to the above mentioned market, because it

employs more than 79%.

Education

One of the vital aspects related to Equity and Derivatives market in India is

education. This is because people day by day are more aware of the importance and the

role of derivatives in the stock market .i.e. equity market.

51

Technological Future

Level of expenditure on R&D by organisation’s rivals

The level of expenditure on R&D by organisation rivals are on a very high scale;

because each and every firm want to be best and earn the most profit i.e. sellers

should sell and buyers should buy it shares, therefore, the rivals expenditure is on a

higher scale.

Government investment policy

Government is playing a most important role in each and every country and giving out

investment policies not only related to stock market but also relates to power sector

industries, tea industries and etc.

Legal Future

Competition law and government policy

Government have put certain policies for each and every organisation to introduce its

shares i.e. stocks into the market and also certain policies for sellers and buyers who

play a vital role in making a sale for the companies.

52

Conclusion and Recommendation

Derivatives are a key part of the financial system. To conclude the significance of

derivative market in India, in this chapter I have taken the findings and directly have

related its importance with the institutional investors of India. Thus, the findings are

summarised below:

The Sellers and Buyers have knowledge and are aware of derivatives and its

importance in equity market i.e. NSE, BSE.

The best product-wise distribution has been made by NSE for equity market in

India.

The Business growth of NSE started from a mere Rs.1000 million and has reached

to 250,000 million during Jan- Mar 2006 quarter and is at the booming stage at the

moment possible itself.

The brokers who are the intermediates play an important role for up-keeping the

interest rate in the equity market.

The business capital of India which is Mumbai has shown the highest Member

trading i.e. business of equity market.

The Sellers and Buyers are alert to the open interest rate which is calculated by the

end of day to know the business growth.

Today we can see that the Open Interest rates for NSE Segment for Near Month

Nifty Futures have risen to 25000 million, which is quite remarkable; because it

states that the sellers and buyers of the stock/shares are aware of the broker’s

53

holding their contracts and making equity market more reliable so that more and

more users/people/clients do put in money.

Sellers and Buyers have the knowledge and aware of the implied interest rate which

is used to calculate the efficiency of the equity market.

Sellers and Buyers also have the knowledge and aware of the implied volatility

which is used to calculate to know the pricing options.

Intra-day evolution of implied volatility has estimated the prices of options and

found that for about 7.5% for all puts and about 6.5% for all calls was undefined,

because of the intrinsic value, this was a dreadful sign for the market of equity,

because it was clearly a signal of mispricing the options and the sellers and buyers

had no clue about it. This shift can be attributed to low cost of transactions, low

margins, etc for the equity market.

The market has a much automated borrowing and lending market which is not upto

the market.

In India, derivatives and equity markets hold 79% (approximately) population

towards it. Sellers and Buyers who sell and buy the stock listed on the BSE and NSE

are alert that NSE has the highest product-wise distribution for

India.

In terms of a vibrant market for exchange-traded derivatives, India is one of the most

booming developing countries. This chapter recaps the strength of the modern

development of India’s securities market and conclusion i.e. suggestions on to how the

54

institutional investors in India i.e. mutual funds companies, banks, FDI,etc play an

important role in the market which are based on nationwide market access, anonymous

electronics trading, and a predominantly retail market.The derivative

market of India had a flat line in the early 1950s, but since the new turn of millennium

have gone strength to strength, doubling the turnover and outdoing expectations. Not

even on the radar of the global business futures of 1990s, India has recently rocketed up

to become Asia’s fourth largest exchange traded derivative market, behind Korea, Japan

and China. The bulk of trading is in equity products including single stocks (SSF’s) and

options offered by National Stock Exchange of India, with transactional values equivalent

to 200% of the underlying cash market, which is not bad for a market which is five years

old i.e. Indian Equity Market.

There is a lot of risk in investment in Equity Funds and is appropriate for those individual

who can afford to take high risk but this high risk may either leave the investor to lose all

their money with no returns as they are not safe investments or pay them high returns in

the long run. Therefore, from the point of view of the investment in such type of equity

funds would be safer, and investments would be secure. Thus, we can conclude by saying

that the entire derivatives market and the future trends in India would be essential to

compare and see how these derivatives in the equity market are used by institutional

investors.

55

BIBLOGRAPHY

Books Referred :-

A Srikanth and Anup Menon (2003) - Index Futures - the Scope of Arbitrage.

A.K. Srithar (2000) - Managing Index Funds.

A.N. Oppenhei,(2000)- Questionnaire Design, interviewing and attitude

measurement.

Ajay Shah (2000) - Equity Market India

Websites Reffered:-

www.indiainfoline.com

www.bseindia.com

www.economictimes.com

www.moneycontrol.com

www.nseindia.com

56

Questionnaire

1. Do you know about Derivates ? And how does it revolve around the equity markets?

a) Yes b) No c) N/A

2. Which would you rate product-wise distribution of Turnover of NSE in 2004 - 2005?

a) Index Futures b) Stock Futures c) Index Options d) Stock Options

3. What do you think should be the daily average turnover i.e. growth of business at

NSE?

a) 8000, b) 10000, c) 12000, d) above12million Rs.

4. Do you understand the term “Daily open interest”?

a) Yes b) No c) N/A

5. What do you think could be the daily open interest at NSE for Index Futures?

a) 8000, b) 10000, c) 12000, d) above12million Rs.

6. What according to you could be approximate close price for Nifty Futures from

2004 -2005?

a) 8000, b) 10000, c) 12000, d) above12million Rs.

7. Do you understand the term “Daily implied interest rate”?

57

a) Yes b) No c) N/A

8. What according to you could be approximate daily implied interest rate from

2004 - 2005?

a) 8000, b) 10000, c) 12000, d) above12million Rs.

9. Do you understand by the term “Implied Volatility”?

a) Yes b) No c) N/A

10. What according to you could be the intra-day evolution of implied volatility on the

9th Dec 2002?

a) 0.15, b) 0.25, c) 0.35, d) 0.45, e) 0.55

58