“Indian Derivative Market”

Project report submitted towards fulfillment of PGDM LBSIMT, Bareilly Academic Session [2008-2010] Submitted by Sarang Mani UNDER THE GUIDANCE OF

Mr. Rahul Kumar Agarwal Area Sales Manager IL & FS InvestSmart Securities Ltd.
Submitted by: Name – Sarang Mani



I wish to extend my sincere gratitude to, Mr. Rahul Kumar Agarwal, Area Sales Manager, IL&FS InvestSmart Securities Ltd., for providing me with all the facilities to carry on this research work efficiently. I also extend my gratitude towards Mr. Amitab, Branch Manager for helping me in the completion of this report, the entire team at IL&FS, for their co-operation and last but not the least the employees at IL&FS for their support and encouragement in fulfilment of this report.



On behalf of IL&FS InvestSmart Securities Ltd., I take the privilege of recognizing the efforts put in by Mr. Sarang Mani to carry out her Project on “Indian Derivative Market” from 5th May to 5th July 2009. Sarang 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 in our Sales strategies. The project carried out by Sarang has given us some focused reasons to improve our people practices, focus on employee satisfaction level as well contribute to our sales. 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,

(Rahul Kumar Agarwal) Area Sales Manager


S. No. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 1) 2) 3) 4) i) ii) iii) iv) 5) 11. 12. 1) 2) i) ii) 3) 4) 5) i) ii) iii) iv) 13. 14. 1) 2) 3) 4) 5) TOPICS PAGE NO.

Executive Summary …………………………………………………...... 06 Company Profile……………………………………………................... 10 Introduction …………………………………………………................... 16 Need of the Study............................................................................ 17 Literatural Review............................................................................ 18 Objective of the Study..................................................................... 19 Scope of the Study.......................................................................... 20 Research Methodology.................................................................... 21 Limitations of Study......................................................................... 22 Main Topics of Study Introduction to Derivative............................................................. 23 Derivative Defined......................................................................... 24 Types of Derivatives Market........................................................... 25 Types of Derivatives...................................................................... 25 Forward Contracts...................................................................... 26 Future Contracts........................................................................ 27 Options....................................................................................... 32 Swap....................................................................................... 33 Other Kinds of Derivatives......................................................... 34 History of Derivatives......................................................................... 35 Indian Derivative Market ……………………..…………..…………...... 38 Need of Derivatives in India today.......……………......................... 39 Myths and realities about derivatives…………………….................. 39 Derivatives increase speculation and do not serve any economic purpose ..................................................................... 40 Indian Market is not ready for derivative trading......................... 41 Comparison of New System with Existing System.........…………… 43 Exchange-traded vs. OTC derivatives markets............................... 45 Factors Contributing To The Growth Of Derivatives........................ 47 Price Volatility.............................................................................. 47 Globalisation of Markets.............................................................. 48 Technological Advances.............................................................. 49 Advances in Financial Theories………........................................ 49 Development of Derivative Markets in India……………………....... 50 Benifits of Derivatives……………………................................... 54 Risk Management............................................................................ 54 Price Discovery.............................................................................. 54 Operational Advantages................................................................. 54 Market Efficiency............................................................................ 55 Easy to Speculation......................................................................... 55


.. National Exchanges....... 16....... 22..................................... Business Growth in Derivatives segment (NSE)..... Recommendations & Suggestions.............. 19....... 20............................................................................................................................................................................... 17............. 21................................................ Status Report of the development in Derivative Market............. Findings & Conclusion......................................... Bibliography ……………………………………………………….............15..... 18... 59 60 62 69 81 82 83 84 5 ......... Present Status........... Abbrevations.........

volume of trading. With over 25 million shareholders. Turnover in the Spot and Derivatives segment both in NSE & BSE was higher by 45% into 2006 as compared to 2005. I am also giving brief data about foreign market. transparency and its tremendous growth potential.). The two major exchanges namely the National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE) ranked no. Derivatives trading in the stock market have been a subject of enthusiasm of research in the field of finance the most desired instruments that allow market 6 . Total market capitalization of The Bombay Stock Exchange (BSE). Bombay Stock Exchanges (BSE). 1997. UK. 3 & 5 in the world.4 billion. accounts for the largest number of listed companies transacting their shares on a nationwide online trading system.EXECUTIVE SUMMARY Firstly I am briefing the current Indian market and compairing it with it past. France. which. India has the third largest investor base in the world after USA and Japan. 2007. one of the oldest in the world. Germany. as on July 31. Canada and Hong Kong. Currently the market cap of the Sensex as on July 4th. With daily average volume of US $ 9. Switzerland. Australia. calculated by the number of daily transactions done on the exchanges. was US$ 175 billion has grown by 37. India’s market capitalization was the highest among the emerging markets. The Indian capital market is significant in terms of the degree of development. The Total Turnover of Indian Financial Markets crossed US$ 2256 billion in 2006 – An increase of 82% from US $ 1237 billion in 2004 in a short span of 2 years only.4 Lakh Crore with a P/E of more than 20. the Sensex has posted excellent returns in the recent years. 2009 was Rs 48. Then at the last I am giving my suggestions and recommendations.5% percent every twelve months and was over US$ 834 billion as of January. Over 7500 companies are listed on the Indian stock exchanges (more than the number of companies listed in developed markets of Japan.

• Over-The-Counter (OTC) money market products such as loans or deposits. coffee beans. • Equities For example. • Precious metals like gold and silver. etc. etc. a dollar forward is a derivative contract. companies. called Hedging. However. The derivatives are defined as the future contracts whose value depends upon the underlying assets. stock prices or market indices. The main logic behind derivatives trading is that derivatives reduce the risk by providing an additional channel to invest with lower trading cost and it facilitates the investors to extend their settlement through the future contracts. If derivatives are introduced in the stock market. It provides extra liquidity in the stock market. • Foreign exchange rate. derivatives are a very important tool of risk management. the underlying asset may be anything as component of stock market like. the most important use of derivatives is in transferring market risk.participants to manage risk in the modern securities trading are known as derivatives. which gives the buyer a right & an obligation to buy dollars at some future date. The prices of the derivatives are driven by the spot prices of these underlying assets. These underlying assets are of various categories like • Commodities including grains. 7 . interest rates. which is a protection against losses resulting from unforeseen price or volatility changes. Derivatives are assets. etc. including medium to long-term negotiable debt securities issued by governments. •Bonds of different types. which derive their values from an underlying asset. Thus. • Short-term debt securities such as T-bills.

The contract price will vary according to the market place but it is fixed when the trade is made. “An Options contract confers the right but not the obligation to buy (call option) or sell (put option) a specified underlying instrument or asset at a specified price – the Strike or Exercised price up until or an specified future date – the Expiry date. on the other hand gives the holder the right to sell an underlying asset by a certain date for a certain price. Swaps “A Forward Contract is a transaction in which the buyer and the seller agree upon a delivery of a specific quality and quantity of asset usually a commodity at a specified future date. The price may be agreed on in advance or in future. Forwards 2.” A call option gives the holder the right to buy an underlying asset by a certain date for a certain price. which is called "the put option premium or put option price". The contract also has a standard specification so both parties know exactly what is being done”. Options 4. The Price is called Premium and is paid by buyer of the option to the seller or writer of the option.There are various derivative products traded.” “A Future contract is a firm contractual agreement between a buyer and seller for a specified as on a fixed date in future. The buyer is under an obligation to fulfill the contract and is paid a price for this. They are. Futures 3. which is called "the call option premium or call option price". The seller is under an obligation to fulfill the contract and is paid a price of this. 8 . A put option. 1.

“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. only the payment flows are exchanged and not the principle amount” I had conducted this research to find out whether investing in the derivative market is beneficial or not? You will be glad to know that derivative market in India is the most booming now days. Sorry to say that today even educated persons are not willing to invest in derivative market because they have the fear of high risk. In case of swap. A contract whereby two parties agree to exchange (swap) payments. On the other hand RBI has to play an important role in derivative market. 9 . Also SEBI must encourage investment in derivative market so that the investors get the benefit out of it. They can be regarded as portfolios of forward's contracts. So the person who is ready to take risk and want to gain more should invest in the derivative market. SEBI should take necessary steps for improvement in Derivative Market so that more investors can invest in Derivative market. based on some notional principle amount is called as a ‘SWAP’. So.

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Insurance.com 11 . Mutual Funds. which include providing personalised investment management services including planning. IPOs These services are offered across our network of over 300 offices across the country.Retail Business Retail offerings of IIL seek to cover all financial planning requirements of individuals. Broadly the retail services are divided into two broad categories. • Advisory Services: Portfolio Management Services. You can also enjoy the convenience of availing these services online through our trading platform www. Derivatives. execution and monitoring of the full range of investment services.investsmartonline. advisory. • Trading Services: Equities.

In India. we are committed to offer timely & proactive investing & trading strategies. IIL’s Merchant Banking business has been growing from strength-to-strength. Having successfully managed IPOs. institutional brokerage. It also provides software development expertise and global services facilities for the HSBC Group’s operations worldwide. financial institutions. Our Institutional services can be broadly categorized as follows.Institutional Business IIL’s Institutional business thrives on the strong relationships we have built among domestic mutual funds. one of India's leading infrastructure development and finance companies. Follow-on offerings. Merchant Banking We offer financial advisory and capital-raising services to corporates. insurance. 12 . equities and capital markets. etc. The HSBC Group offers a range of financial services including corporate. Mergers. We are presently empanelled with more than 100 institutions and service customers across geographies. The company is now held by HSBC. retail and private banking. It was promoted in 1997 by Infrastructure Leasing & Financial Services (IL&FS). Institutional Equity & Debt Combining the efforts of a top-drawer research team & dynamic sales professionals. investment banking. one of the world’s largest banking and financial services organisations. custodial services. banks. Promoters IL&FS Investsmart Limited (IIL) is one of India’s leading companies in the Financial Services industry. insurance companies and private sector funds over the past few years. asset management. quality research and high degree of compliance with stock exchange regulations and ethical business standards back IIL’s services to institutional investors. Open Offers. commercial. Efficient execution.

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more basic. underlying variables. Swap and different types of options are regularly traded outside exchanges by financial intuitions. prices of gold or copper. there is no single market place or organized exchanges. Options and Futures are traded actively on many exchanges. Derivatives have become increasingly important in the field of finance. The variables underlying could be prices of traded securities and stock.INTRODUCTION A Derivative is a financial instrument whose value depends on other. banks and their corporate clients in what are termed as over-the-counter markets – in other words. 16 . Forward contracts.

17 .NEED OF THE STUDY The study has been done to know the different types of derivatives and also to know the derivative market in India. This study also covers the recent developments in the derivative market taking into account the trading in past years. Through this study I came to know the trading done in derivatives and their use in the stock markets.

these products have become very popular and by 1990s. By their very nature. In the class of equity derivatives. futures and options. derivative products minimize the impact of fluctuations in asset prices on the profitability and cash flow situation of risk-averse investors. Through the use of derivative products. In recent years. However. they accounted for about two-thirds of total transactions in derivative products. since their emergence. As in the present scenario. these generally do not influence the fluctuations in the underlying asset prices. who are major users of index-linked derivatives. by locking-in asset prices. futures and options on stock indices have gained more popularity than on individual stocks. their complexity and also turnover. The financial derivatives came into spotlight in post-1970 period due to growing instability in the financial markets. most notably forwards. Derivative products initially emerged. 18 . it is possible to partially or fully transfer price risks by locking-in asset prices. the financial markets are marked by a very high degree of volatility. especially among institutional investors. as hedging devices against fluctuations in commodity prices and commodity-linked derivatives remained the sole form of such products for almost three hundred years. Even small investors find these useful due to high correlation of the popular indices with various portfolios and ease of use.LITERATURE REVIEW The emergence of the market for derivative products. However. As instruments of risk management. Derivative Trading is fast gaining momentum. I have chosen this topic. the market for financial derivatives has grown tremendously both in terms of variety of instruments available. can be traced back to the willingness of risk-averse economic agents to guard themselves against uncertainties arising out of fluctuations in asset prices. The lower costs associated with index derivatives vis-vis derivative products based on individual securities is another reason for their growing use.

OBJECTIVES OF THE STUDY  To understand the concept of the Derivatives and Derivative Trading.  To know different types of Financial Derivatives  To know the role of derivatives trading in India.  To analyse the performance of Derivatives Trading since 2001with special reference to Futures & Options 19 .

20 . For better understanding various strategies with different situations and actions have been given.SCOPE OF THE PROJECT The project covers the derivatives market and its instruments. This study extends to the trading of derivatives done in the National Stock Markets. It includes the data collected in the recent years and also the market in the derivatives in the recent years.

21 .RESARCH METHODOLOGY Method of data collection:Secondary sources:It is the data which has already been collected by some one or an organization for some other purpose or research study .The data for study has been collected from various sources:     Books Journals Magazines Internet sources Time: 2 months Statistical Tools Used: Simple tools like bar graphs. tabulation. line diagrams have been used.

LIMITED RESOURCES: Limited resources are available to collect the information about the commodity trading. It being a wide topic had a limited time. LIMITED TIME: The time available to conduct the study was only 2 months. VOLATALITY: Share market is so much volatile and it is difficult to forecast any thing about it whether you trade through online or offline 4. 3.LIMITAITONS OF STUDY 1. 2. 22 . ASPECTS COVERAGE: Some of the aspects may not be covered in my study.

What they would then negotiate happened to be futures-type contract. From the time it was sown to the time it was ready for harvest. he would have to dispose off his harvest at a very low price. Under such circumstances. it was possible for the farmer to partially or fully transfer price risks by locking-in asset prices. during times of oversupply. A group of traders got together and created the ‘to-arrive’ contract that permitted farmers to lock into price upfront and deliver the grain later. However. he would probably obtain attractive prices. which would enable both parties to eliminate the price risk. a merchant with an ongoing requirement of grains too would face a price risk that of having to pay exorbitant prices during dearth. Through the use of simple derivative products. In 1848. These to-arrive contracts proved useful as a device for hedging and 23 . it clearly made sense for the farmer and the merchant to come together and enter into contract whereby the price of the grain to be delivered in September could be decided earlier. although favourable prices could be obtained during periods of oversupply. farmers would face price uncertainty. INTRODUCTION TO DERIVATIVE The origin of derivatives can be traced back to the need of farmers to protect themselves against fluctuations in the price of their crop. In years of scarcity. Clearly this meant that the farmer and his family were exposed to a high risk of price uncertainty. the Chicago Board Of Trade. These were simple contracts developed to meet the needs of farmers and were basically a means of reducing risk. A farmer who sowed his crop in June faced uncertainty over the price he would receive for his harvest in September. was established to bring farmers and merchants together. On the other hand.MAIN TOPICS OF STUDY 1. or CBOT.

Besides commodities. However when derivatives trading in securities was introduced in 2001. the term “security” in the Securities Contracts (Regulation) Act. share. interest rate. These were eventually standardized. derivatives contracts also exist on a lot of financial underlying like stocks. and in 1925 the first futures clearing house came into existence. was amended to include derivative contracts in securities. 2. etc. Today derivatives contracts exist on variety of commodities such as corn. risk instrument or contract differences or any other form of security. Such a transaction is an example of a derivative. Consequently. regulates the forward/futures contracts in commodities all over India. Derivatives are securities under the SCRA and hence the trading of derivatives is governed by the regulatory framework under the SCRA. A contract which derives its value from the prices. In our earlier discussion. we saw that wheat farmers may wish to sell their harvest at a future date to eliminate the risk of change in price by that date. The Securities Contracts (Regulation) Act. loan whether secured or unsecured. forex. 1952. As per this the Forward Markets Commission (FMC) continues to have jurisdiction over commodity futures contracts.speculation on price charges. pepper. The Forwards Contracts (Regulation) Act. cotton. regulation of derivatives came under the purview of Securities Exchange Board of India (SEBI). of underlying securities. exchange rate. The underlying asset can be equity. commodity or any other asset. We thus have separate regulatory authorities for securities and commodity derivative markets. The price of this derivative is driven by the spot price of wheat which is the “underlying” in this case. silver etc. 24 . wheat. or index of prices. DERIVATIVE DEFINED A derivative is a product whose value is derived from the value of one or more underlying variables or assets in a contractual manner. 1956 defines “derivative” to includeA security derived from a debt instrument. 1956 (SCRA).

2 Types of Derivatives 25 .3. TYPES OF DERIVATIVES Derivatives Future Option Forward Swaps Figure. TYPES OF DERIVATIVES MARKET Exchange Traded Derivatives Over The Counter Derivatives National Stock Exchange Bombay Stock Exchange National Commodity & Derivative Exchange Index Future Index option Stock option Stock future Figure.1 Types of Derivatives Market 4.

The forward contracts are n o r m a l l y traded outside the exchanges. expiration date and the asset type and quality. The contract price is generally not available in public domain. 26 . Forward contracts are often confused with futures contracts. Each contract is custom designed. If the party wishes to reverse the contract.(i) FORWARD CONTRACTS A forward contract is an agreement to buy or sell an asset on a specified date for a specified price. BASIC FEATURES OF FORWARD CONTRACT • • • • • They are bilateral contracts and hence exposed to counter-party risk. as in transaction the case costs and increasing markets have volume. price and quantity are negotiated bilaterally by the parties to the contract. Other contract details like delivery date. However futures are a significant improvement over the forward contracts as they eliminate counterparty risk and offer more liquidity. The other party assumes a short position and agrees to sell the asset on the same date for the same price. which often results in high prices being charged. become very This process of of foreign exchange. and hence is unique in terms of contract size. the contract has to be settled by delivery of the asset. 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. thereby reducing transactions standardization reaches its limit in the organized futures market. The confusion is primarily because both serve essentially th e same economic fun ction s of allocating risk in the presence of future price uncertainty. it has to compulsorily go to the same counter-party. However forward contracts in certain standardized. On the expiration date.

The exchange acts as counterparty on all contracts. at a pre-set price. 27 . The pre-set price is called the futures price.(ii) FUTURE CONTRACT In finance. and the option writer (seller) the obligation. converges towards the futures price on the delivery date. normally. The type of settlement. etc. the holder of a futures position has to sell his long position or buy back his short position. to buy or sell a certain underlying instrument at a certain date in the future. The future date is called the delivery date or final settlement date. which gives the buyer the right. the notional amount of the deposit over which the short term interest rate is traded. effectively closing out the futures position and its contract obligations. To exit the commitment. BASIC FEATURES OF FUTURE CONTRACT 1. a fixed number of barrels of oil. The settlement price. which differs from an options contract. This can be anything from a barrel of sweet crude oil to a short term interest rate. This can be the notional amount of bonds. units of foreign currency. sets margin requirements. but not the right. Futures contracts are exchange traded derivatives. either cash settlement or physical settlement. The price of the underlying asset on the delivery date is called the settlement price. The amount and units of the underlying asset per contract. etc. traded on a futures exchange. a futures contract is a standardized contract. usually by specifying: • • • The underlying. but not the obligation. A futures contract gives the holder the right and the obligation to buy or sell. Standardization : Futures contracts ensure their liquidity by being highly standardized.

Margin : Although the value of a contract at time of trading should be zero. The delivery month. his contract has increased in value that day.e. To minimize this risk. called a "margin". is required by the exchange.• • The currency in which the futures contract is quoted. when taking a position. In case of bonds. this specifies not only the quality of the underlying goods but also the manner and location of delivery. the 28 . The grade of the deliverable. To understand the original practice. This renders the owner liable to adverse changes in value. i. called the "settlement" or mark-to-market price of the contract. This is calculated by the futures contract. if he is on the losing side. which is not likely to be exceeded on a usual day's trading. consider that a futures trader. who always acts as counterparty. If the trader is on the winning side of a deal. Mark to market Margin: Because a series of adverse price changes may exhaust the initial margin. deposits money with the exchange. the exchange demands that contract owners post a form of collateral. On the other hand. as determined by historical price changes. Other details such as the tick. the minimum permissible price fluctuation. 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. this specifies which bonds can be delivered. the contract is marked to its present market value. a further margin. 2. agreeing on a price at the end of each day. • • The last trading date. and the exchange pays this profit into his account. It may be 5% or 10% of total contract price. Initial Margin: is paid by both buyer and seller. This is intended to protect the exchange against loss. In case of physical commodities. It represents the loss on that contract. At the end of every trading day. and creates a credit risk to the exchange. usually called variation or maintenance margin. its price constantly fluctuates.

3.that is. and by the exchange to the buyers of the contract.a cash payment is made based on the underlying reference rate. be found by discounting the present value of risk-free return . it occurs only on a minority of contracts.exchange will debit his account. PRICING OF FUTURE CONTRACT In a futures contract. for a simple. On this day the t+2 futures contract becomes the t forward contract. • Cash settlement . If he cannot pay. buying a contract to cancel out an earlier sale (covering a short). Expiry is the time when the final prices of the future are determined. A futures contract might also opt to settle against an index based on trade in a related spot market. will by the rate 29 . In other words. the rational forward price represents the expected future value of the underlying discounted at the risk free rate. non-dividend paying asset. Thus. at time to maturity . then the margin is used as the collateral from which the loss is paid. Settlement Settlement is the act of consummating the contract. the price paid on delivery (the forward price) must be the same as the cost (including interest) of buying and storing the asset. Most are cancelled out by purchasing a covering position . such as a short term interest rate index such as Euribor. or the closing value of a stock market index.the amount specified of the underlying asset of the contract is delivered by the seller of the contract to the exchange. In practice. or selling a contract to liquidate an earlier purchase (covering a long). as specified per type of futures contract: • Physical delivery . and can be done in one of two ways. for no arbitrage to be possible. this happens on the Last Thursday of certain trading month. For many equity index and interest rate futures contracts. the value of the future/forward.

The arbitrageur buys the futures contract and sells the underlying today (on the spot market).This relationship may be modified for storage costs. he returns it now. he cashes in the matured investment. 30 . and convenience yields. 3. dividend yields. The arbitrageur sells the futures contract and buys the underlying today (on the spot market) with borrowed money. The difference between the two amounts is the arbitrage profit. 2. 3. The difference between the two amounts is the arbitrage profit.] 4. he invests the proceeds. dividends. In the case where the forward price is higher: 1. 4. which has appreciated at the risk free rate. On the delivery date. He then receives the underlying and pays the agreed forward price using the matured investment. He then repays the lender the borrowed amount plus interest. On the delivery date. and receives the agreed forward price. [If he was short the underlying. Any deviation from this equality allows for arbitrage as follows. 2. In the case where the forward price is lower: 1. the arbitrageur hands over the underlying.

However. assumed by the clearing corp. Contract Specifications Counter-party risk Differ from trade to trade. Commodities. Exists. price. catering to the needs of the needs of the parties. as markets are centralized are scattered. as markets Efficient. which becomes the counter party to all the trades or unconditionally settlement.TABLE 1DISTINCTION BETWEEN FUTURES AND FORWARDS CONTRACTS FEATURE Operational Mechanism FORWARD CONTRACT FUTURE CONTRACT Traded directly between Traded on the exchanges. Price discovery Not efficient. guarantees their Liquidation Profile Low. Index Futures and Individual stock Futures in India. are standardized Exists. and all buyers and sellers come to a common platform to discover the Examples Currency market in India. Contracts contracts. 31 .. futures. tailor as contracts are High. two parties (not traded on the exchanges). as contracts are standardized made contracts exchange traded contracts.

The price at which the underlying is traded is called the ‘strike 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.e. bonds and warrants become the subject of options. Underlying asset refers to any asset that is traded. during a period or on a specific date in exchange for payment of a premium is known as ‘option’. at a specified price on or before a specified date is known as a ‘Call option’. called the strike price. although occasionally preference shares.. at a specified price on or before a specified date is known as a ‘Put option’. no option will be exercised if the future price does not increase. The owner makes a profit provided he buys at a lower current price and sells at a higher future price. Put and calls are almost always written on equities. Hence.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. CALL OPTION: A contract that gives its owner the right but not the obligation to buy an underlying asset-stock or any financial asset. The owner makes a profit provided he sells at a higher current price and buys at a lower future price. 32 . CALL OPTION & PUT OPTION. There are two types of options i.

A contract whereby two parties agree to exchange (swap) payments. Under a currency swap. In case of swap. CURRENCY SWAPS: 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. It also allows the investors to exchange one type of asset for another type of asset with a preferred income stream. 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. FINANCIAL SWAP: Financial swaps constitute a funding technique which permit a borrower to access one market and then exchange the liability for another type of liability. Such cash flows are supposed to remain unaffected by subsequent changes in the exchange rates. They can be regarded as portfolios of forward's contracts. 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.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. cash flows to be exchanged are determined at the spot rate at a time when swap is done. The parties to the swap contract of currency generally hail from two different countries. only the payment flows are exchanged and not the principle amount. This arrangement allows the counter parties to borrow easily and cheaply in their home currencies. 33 . based on some notional principle amount is called as a ‘SWAP’.

OTHER KINDS OF DERIVATIVES The other kind of derivatives. Longer-dated options are called warrants and are generally traded over-the-counter. exchange may introduce option contracts with a maturity period of 2-3 years. the swaptions market has receiver swaptions and payer swaptions. Rather than have calls and puts.5. LEAPS Normally option contracts are for a period of 1 to 12 months. A receiver swaption is an option to receive fixed and pay floating. These long-term option contracts are popularly known as Leaps or Long term Equity Anticipation Securities. Equity Index Options are most popular form of baskets. which are not. Thus a swaption is an option on a forward swap. A payer swaption is an option to pay fixed and receive floating. much popular are as follows: BASKETS Baskets options are option on portfolio of underlying asset. SWAPTIONS Swaptions are options to buy or sell a swap that will become operative at the expiry of the options. However. WARRANTS Options generally have lives of up to one year. the majority of options traded on options exchanges having a maximum maturity of nine months. 34 .

on International Monetary Market (IMM). was formed in 1848 in the US to deal with the problem of ‘credit risk’ and to provide centralised location to negotiate forward contracts. Thus. forward contracts have existed for centuries for hedging price risk. CBOT listed the first ‘exchange traded’ derivatives contract. 1972.The first of the several networks. The currency futures traded on the IMM are the British Pound. a division of CME. The first organized commodity exchange came into existence in the early 1700’s in Japan. 1982. The first financial futures to emerge were the currency in 1972 in the US. stating what is to be delivered for a fixed price at a specified place on a specified date. and the Euro dollar. Interest rate futures contracts were traded for the first time on the CBOT on October 20. These contracts were also undertaken between farmers and merchants to eliminate risk arising out of uncertain future prices of grains. a spin-off of CBOT. The first stock index futures contracts were traded on Kansas City Board of Trade on February 24. The Chicago Mercantile Exchange (CME). Stock index futures and options emerged in 1982. HISTORY OF DERIVATIVES: The history of derivatives is quite colourful and surprisingly a lot longer than most people think. From ‘forward’ trading in commodities emerged the commodity ‘futures’. Trading in futures began on the CBOT in the 1860’s.11. the Australian Dollar. The first foreign currency futures were traded on May 16. the German Mark. the Canadian Dollar. In 1865. Futures trading grew out of the need for hedging the price risk involved in many commercial operations. The first formal commodities exchange. The first type of futures contract was called ‘to arrive at’. the Chicago Board of Trade (CBOT). Forward delivery contracts. 1975. existed in ancient Greece and Rome. the Japanese Yen. known as the futures contracts. was formed in 1919. which offered a 35 . Currency futures were followed soon by interest rate futures. though it did exist before in 1874 under the names of ‘Chicago Produce Exchange’ (CPE) and ‘Chicago Egg and Butter Board’ (CEBB). the Swiss Franc. Roman emperors entered forward contracts to provide the masses with their supply of Egyptian grain.

A group of firms known as Put and Call brokers and Dealer’s Association was set up in early 1900’s to provide a mechanism for bringing buyers and sellers together. The collapse of the Bretton Woods regime of fixed parties and the introduction of floating rates for currencies in the international financial markets 36 . Dutch growers and dealers traded in tulip bulb options. 1984. owing to a high demand.trading link between two exchanges. The first call and put options were invented by an American financier. in 1872. This model helped in assessing the fair price of an option which led to an increased interest in trading of options. With the options markets becoming increasingly popular. the Chicago Board options Exchange (CBOE) was set up at CBOT for the purpose of trading stock options. the brightly coloured flowers. tulip bulb prices shot up. Options on shares were available in the US on the over the counter (OTC) market only until 1973 without much knowledge of valuation. The market for futures and options grew at a rapid pace in the eighties and nineties. 1973. These speculators were wiped out when the tulip craze collapsed in 1637 as there was no mechanism to guarantee the performance of the option terms. On April 26. Merton. and Scholes invented the famous Black-Scholes Option Formula. was formed between the Singapore International Monetary Exchange (SIMEX) and the CME on September 7. were a symbol of affluence. These options were traded over the counter. the American Stock Exchange (AMEX) and the Philadelphia Stock Exchange (PHLX) began trading in options in 1975. Russell Sage. Their history also dates back to ancient Greece and Rome. It was in 1973 again that black. Agricultural commodities options were traded in the nineteenth century in England and the US. Tulips. There was so much speculation that people even mortgaged their homes and businesses. Options are as old as futures. Options are very popular with speculators in the tulip craze of seventeenth century Holland.

The Philadelphia Stock Exchange is the premier exchange for trading foreign options. The most traded stock indices include S&P 500. The CBOT now offers 48 futures and option contracts (with the annual volume at more than 211 million in 2001).The CBOE is the largest exchange for trading stock options. 37 .paved the way for development of a number of financial derivatives which served as effective risk management tools to cope with market uncertainties. The US indices and the Nikkei 225 trade almost round the clock. The CBOE trades options on the S&P 100 and the S&P 500 stock indices. and the Nikkei 225. The CBOT and the CME are two largest financial exchanges in the world on which futures contracts are traded. The N225 is also traded on the Chicago Mercantile Exchange. the Nasdaq 100. the Dow Jones Industrial Average.

12 June 2000 Trading of Nifty futures commenced at NSE. NSE gauging the market requirements initiated the process of setting up derivative markets in India. 2000 2 June 2001 Individual Stock Options & Derivatives (1) Need for derivatives in India today In less than three decades of their coming into vogue. L. SEBI gave permission to NSE and BSE to do index futures trading. 18 November 1996 SEBI setup L.12. The introduction of risk management instruments in India gained momentum in the last few years due to liberalisation process and Reserve Bank of India’s (RBI) efforts in creating currency forward market. 25 September Nifty futures trading commenced at SGX. 9 June 2000 Trading of BSE Sensex futures commenced at BSE.Gupta Committee submitted report. INDIAN DERIVATIVES MARKET Starting from a controlled economy. India has moved towards a world where prices fluctuate every day. Today. Derivatives are an integral part of liberalisation process to manage risk. SIMEX chose Nifty for trading futures and options on an Indian index.C.Gupta Committee to draft a policy 11 May 1998 7 July 1999 24 May 2000 25 May 2000 framework for index futures. derivatives have become part and parcel of the day-to-day life for ordinary people in major part of 38 . In July 1999. derivatives trading commenced in India Table 2. Chronology of instruments 1991 Liberalisation process initiated 14 December 1995 NSE asked SEBI for permission to trade index futures.C. RBI gave permission for OTC forward rate agreements (FRAs) and interest rate swaps. derivatives markets have become the most important markets in the world.

Derivatives are complex and exotic instruments that Indian investors will find difficulty in understanding Is the existing capital market safer than Derivatives? 39 . The opening of Indian economy has precipitated the process of integration of India’s financial markets with the international financial markets. which have developed into a very large market. (2) Myths and realities about derivatives In less than three decades of their coming into vogue. Until the advent of NSE. Financial derivatives came into the spotlight along with the rise in uncertainty of post-1970. 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. While this is true for many countries. there are still apprehensions about the introduction of derivatives. when US announced an end to the Bretton Woods System of fixed exchange rates leading to introduction of currency derivatives followed by other innovations including stock index futures. the Indian capital market had no access to the latest trading methods and was using traditional out-dated methods of trading. cross currency options etc. 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 have become part and parcel of the day-to-day life for ordinary people in major parts of the world. There are many myths about derivatives but the realities that are different especially for Exchange traded derivatives. Today. which are well regulated with all the safety mechanisms in place. There was a huge gap between the investors’ aspirations of the markets and the available means of trading.the world. derivatives markets have become the most important markets in the world.

This period is marked by remarkable innovations in the financial markets such as introduction of floating rates for the currencies. derivatives allow corporations and institutional investors to effectively manage their portfolios of assets and liabilities through instruments like stock index futures and options. Agricultural futures and options helped farmers and processors hedge against commodity price risk. Derivatives are a low-cost. 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. derivatives improve the allocation of credit and the sharing of risk in the global economy. for example. By providing investors and issuers with a wider array of tools for managing risks and raising capital. derivatives have strengthened these important linkages between global markets. the accompanying risk factors grew in gigantic proportions. on-line trading in the capital markets. commodity prices or exchange rates. both in the private and public sectors that derivatives provide numerous and substantial benefits to the users. the financial markets in the world started undergoing radical changes. The need for derivatives as hedging tool was felt first in the commodities market. Now that world markets for trade and finance have become more integrated. etc. effective method for users to hedge and manage their exposures to interest rates. This situation led to development derivatives as effective risk management tools for the market participants. After the fallout of Bretton wood agreement. lowering the cost of capital formation and stimulating economic growth. increased trading in variety of derivatives instruments. An equity fund. increasing market liquidity and 40 . Looking at the equity market. As the complexity of instruments increased many folds.(i) Derivatives increase speculation and do not serve any economicpurpose: Numerous studies of derivatives activity have led to a broad consensus.

efficiency and facilitating the flow of trade and finance (ii) Indian Market is not ready for derivative trading Often the argument put forth against derivatives trading is that the Indian capital market is not ready for derivatives trading. but I feel that this 41 . which are needed for the introduction of derivatives. and how Indian market fares: TABLE 3. Here. and innovative legal guardian who is helping the market to evolve to a healthier place for trade practices.765000 crores. we look into the prerequisites. National Securities Depositories Limited (NSDL) which started functioning in the year 1997 has revolutionalised the security settlement in our country. NSCCL is responsible for guaranteeing all open positions on the National Stock Exchange (NSE) for which it does the clearing. The first clearing corporation guaranteeing trades has become fully functional from July 1996 in the form of National Securities Clearing Corporation (NSCCL). In the Institution of SEBI (Securities and Exchange Board of India) today the Indian capital market enjoys a strong. Which means on an average every month 14% of the country’s Market capitalisation gets traded. Trade guarantee A Strong Depository A Good legal guardian (3) Comparison of New System with Existing System Many people and brokers in India think that the new system of Futures & Options and banning of Badla is disadvantageous and introduced early. These are clear indicators of high liquidity in the underlying. independent. High Liquidity underlying in the The daily average traded volume in Indian capital market today is around 7500 crores. PRE-REQUISITES INDIAN SCENARIO Large market India is one of the largest market-capitalised Capitalisation countries in Asia with a market capitalisation of more than Rs.

3b Arbitrageurs 42 . margin trading & carry forward transactions.3a –3. In fact it should have been introduced much before and NSE had approved it but was not active because of politicization in SEBI. The figure 3. New Peril &Prize 1)Maximum loss possible to premium paid Approach 1)Buy &Sell stocks on delivery basis 2) Buy Call &Put by paying premium Advantages • • Greater Leverage as to pay only the premium. Greater variety of strike price options at a given time. It increases the no of options investors for investment.e.new system is very useful especially to retail investors.3a Speculators Existing Approach 1) Deliver based Trading. Figure 3. SYSTEM Peril &Prize 1) Both profit & loss to extent of price change.3d shows how advantages of new system (implemented from June 20001) v/s the old system i. before June 2001 New System Vs Existing System for Market Players Figure 3. 2) Buy Index Futures hold till expiry.

Figure 3. long position benefit else exercise the option. cost is only 2)For Long. earn premium + profit with increase prcie Advantages • Availability of Leverage Figure 3. buy ATM Put premium. If market goes up.3c Hedgers Existing Approach &Prize SYSTEM Peril &Prize Approach New Peril 1) Difficult to 1) No Leverage offload holding available risk during adverse reward dependant market conditions on market prices as circuit filters limit to curtail losses.Existing Approach SYSTEM Peril &Prize Approach New Peril &Prize 1) Buying Stocks in 1) Make money 1) B Group more 1) Risk free one and selling in whichever way promising as still game. another exchange. 2) Cash &Carry 2) If Future Contract arbitrage continues more or less than Fair price • Fair Price = Cash Price + Cost of Carry. the Market moves. in weekly settlement forward transactions. 3)Sell deep OTM call option with underlying shares.3d Small Investors 43 . Option. 1)Fix price today to buy 1) Additional latter by paying premium.

44 . SYSTEM Peril &Prize 1) Plain Buy/Sell implies unlimited profit/loss. 1) Buy Call/Put options based on market outlook 2) Hedge position if holding underlying stock Advantages • Losses Protected.Existing Approach &Prize 1) If Bullish buy stocks else sell it. New Approach Peril 1) Downside remains protected & upside unlimited.

The management of counter-party (credit) risk is decentralized and located within individual institutions. These episodes of turbulence revealed the risks posed to market stability originating in features of OTC derivative instruments and markets. Some of the features of OTC derivatives markets embody risks to financial market stability. and 5. There are no formal rules or mechanisms for ensuring market stability and integrity. OTC derivatives markets The OTC derivatives markets have witnessed rather sharp growth over the last few years. 4. The OTC contracts are generally not regulated by a regulatory authority and the exchange’s self-regulatory organization. The OTC derivatives markets have the following features compared to exchangetraded derivatives: 1. Exchange-traded vs. banking supervision and market surveillance. There are no formal rules for risk and burden-sharing. and for safeguarding the collective interests of market participants. 45 . The recent developments in information technology have contributed to a great extent to these developments.4. While both exchange-traded and OTC derivative contracts offer many benefits. although they are affected indirectly by national legal systems. 2. or margining. There are no formal centralized limits on individual positions. 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. leverage. 3. which has accompanied the modernization of commercial and investment banking and globalisation of financial activities. the former have rigid structures compared to the latter.

and (v) the central role of OTC derivatives markets in the global financial system. Instability arises when shocks. There has been some progress in addressing these risks and perceptions. the size and configuration of counter-party exposures can become unsustainably large and provoke a rapid unwinding of positions. 46 . (iv) the high concentration of OTC derivative activities in major institutions. occur which significantly alter the perceptions of current and potential future credit exposures. (iii) the effects of OTC derivative activities on available aggregate credit. The problem is more acute as heavy reliance on OTC derivatives creates the possibility of systemic financial events. and their dependence on exchange traded derivatives. including counter-party. (ii) information asymmetries. hedge their risks through the use of exchange traded derivatives. liquidity and operational risks. the progress has been limited in implementing reforms in risk management. which fall outside the more formal clearing house structures. markets.The following features of OTC derivatives markets can give rise to instability in institutions. Indian law considers them illegal. those who provide OTC derivative products. and the international financial system: (i) the dynamic nature of gross credit exposures. However. such as counter-party credit events and sharp movements in asset prices that underlie derivative contracts. and OTC derivatives markets continue to pose a threat to international financial stability. When asset prices change rapidly. In view of the inherent risks associated with OTC derivatives. Moreover.

The globalisation of the markets and rapid industrialisation of many underdeveloped countries brought a new scale and dimension to the markets. Prices are generally determined by market forces. technological developments and advances in the financial theories. A. petrol. This has three factors: the speed of price changes. The Mexican crisis in the south east- 47 . The changes in demand and supply influencing factors culminate in market adjustments through price changes. globalisation of the markets. local currency or foreign currencies. consumers have ‘demand’ and producers or suppliers have ‘supply’. The objects having value maybe commodities. etc. The concept of price is clear to almost everybody when we discuss commodities. And the price one pays in one’s own currency for a unit of another currency is called as an exchange rate. These price changes expose individuals. the price one pays for use of a unit of another persons money is called interest rate. There is a price to be paid for the purchase of food grain.} PRICE VOLATILITY – A price is what one pays to acquire or use something of value. Nations that were poor suddenly became a major source of supply of goods. oil. and the collective interaction of demand and supply in the market determines the price. In a market.5. These factors are constantly interacting in the market causing changes in the price over a short period of time. producing firms and governments to significant risks. FACTORS CONTRIBUTING TO THE GROWTH OF DERIVATIVES: Factors contributing to the explosive growth of derivatives are price volatility. The break down of the BRETTON WOODS agreement brought and end to the stabilising role of fixed exchange rates and the gold convertibility of the dollars. Such changes in the price are known as ‘price volatility’. the frequency of price changes and the magnitude of price changes. metal.

Even equity holders are exposed to price risk of corporate share fluctuates rapidly. south East Asian currencies crisis of 1997 had affected the competitiveness of our products vis-à-vis depreciated currencies. 48 . The advent of telecommunication and data processing bought information very quickly to the markets. These price volatility risks pushed the use of derivatives like futures and options increasingly as these instruments can be used as hedge to protect against adverse price changes in commodity.it has benefited consumers who cannot obtain better quality goods at a lower cost. it is evident that globalisation of industrial and financial activities necessitates use of derivatives to guard against future losses. foreign exchange. managers had to deal with domestic economic concerns. Steel industry in 1998 suffered its worst set back due to cheap import of steel from south East Asian countries.} GLOBALISATION OF MARKETS – Earlier.Asian currency crisis of 1990’s has also brought the price volatility factor on the surface. B. Thus. This factor alone has contributed to the growth of derivatives to a significant extent. equity shares and bonds. led to cut profit margins In Indian context. Export of certain goods from India declined because of this crisis. Now globalisation has increased the size of markets and as greatly enhanced competition . Suddenly blue chip companies had turned in to red. what happened in other part of the world was mostly irrelevant. The fear of china devaluing its currency created instability in Indian exports. in many cases. Information which would have taken months to impact the market earlier can now be obtained in matter of moments. It has also exposed the modern business to significant risks and.

Closely related to advances in computer technology are advances in telecommunications. was the only hedging tool available.} TECHNOLOGICAL ADVANCES – A significant growth of derivative instruments has been driven by technological breakthrough. At the same time there were significant advances in software programmes without which computer and telecommunication advances would be meaningless.C. work of Lewis Edeington extended the early work of Johnson and started the hedging of financial price risks with financial futures. derivatives and risk management products become that much more important. Option pricing models developed by Black and Scholes in 1973 were used to determine prices of call and put options. Advances in this area include the development of high speed processors. 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. In late 1970’s. The above factors in combination of lot many factors led to growth of derivatives instruments 49 . Data transmission by satellite. The work of economic theorists gave rise to new products for risk management which led to the growth of derivatives in financial markets. To the extent the technological developments increase volatility. D. The effect of this risk can easily destroy a business which is otherwise well managed.} ADVANCES IN FINANCIAL THEORIES – Advances in financial theories gave birth to derivatives. Improvement in communications allow for instantaneous worldwide conferencing. Derivatives can help a firm manage the price risk inherent in a market economy. Initially forward contracts in its traditional form. network systems and enhanced method of data entry.

This was followed by approval for trading in options based on these two indexes and options on individual securities. DEVELOPMENT OF DERIVATIVES MARKET IN INDIA The first step towards introduction of derivatives trading in India was the promulgation of the Securities Laws (Amendment) Ordinance. methodology for charging initial margins. 1996 to develop appropriate regulatory framework for derivatives trading in India. worked out the operational details of margining system.L. 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. 1995. SEBI approved trading in index futures contracts based on S&P CNX Nifty and BSE–30 (Sense) index. which withdrew the prohibition on options in securities. SEBI set up a 24–member committee under the Chairmanship of Dr. broker net worth. deposit requirement and real–time monitoring requirements. SEBI also set up a group in June 1998 under the Chairmanship of Prof.C. NSE and BSE. Derivatives trading commenced in India in June 2000 after SEBI granted the final approval to this effect in May 2001.J. The government also rescinded in March 2000. The market for derivatives. to recommend measures for risk containment in derivatives market in India. thus precluding OTC derivatives. did not take off. however. the three decade old notification.13. The committee submitted its report on March 17.R. which was submitted in October 1998. 50 . which prohibited forward trading in securities. 1998 prescribing necessary pre–conditions for introduction of derivatives trading in India. To begin with. 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 report.Varma.Gupta on November 18. and their clearing house/corporation to commence trading and settlement in approved derivatives contracts. The act also made it clear that derivatives shall be legal and valid only if such contracts are traded on a recognized stock exchange. SEBI permitted the derivative segments of two stock exchanges. as there was no regulatory framework to govern trading of derivatives.

2001. Typically. 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. volumes in the index options segment continue to remain poor. 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. 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. 2001 and trading in options on individual securities commenced on July 2. because low volatility leads to higher waiting time for round-trips. 51 . This may be due to the low volatility of the spot index. 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. 2001 and the trading in options on individual securities commenced in July 2001. A related issue is that brokers do not earn high commissions by recommending index options to their clients. Foreign Institutional Investors (FIIs) are permitted to trade in all Exchange traded derivative products. 2000. as the former closely resembles the erstwhile badla system. 2001. • On relative terms. options are considered more valuable when the volatility of the underlying (in this case. and regulations of the respective exchanges and their clearing house/corporation duly approved by SEBI and notified in the official gazette. Single stock futures were launched on November 9. byelaws. The trading in index options commenced on June 4. the index) is high.The trading in BSE Sensex options commenced on June 4.

• 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. I would like to emphasise that currency swaps allowed companies with ECBs to swap their foreign currency liabilities into rupees. Normally such risks should be taken by corporates who 52 . However. the intra-day stock price variations should not have a one-to-one impact on the option premiums. If calls and puts are not looked as just substitutes for spot trading.86 in January 2002 to 1. Significant market have milestones been in India followed by forwards and in the development of derivatives to banks to undertake cross (i) permission currency derivative transactions subject to certain conditions (1996) (ii) allowing corporates 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).• Put volumes in the index options and equity options segment have increased since January 2002. The fact that the option premiums tail intra-day stock prices is evidence to this. In the derivative market foreign exchange swaps account for the largest share of the total turnover of derivatives options. • Farther month futures contracts are still not actively traded. • The spot foreign exchange market remains the most important segment but the derivative segment ha s also grown. Trading in equity options on most stocks for even the next month was non-existent. The call-put volumes in index options have decreased from 2. since banks could not carry open positions the risk was allowed to be transferred to any other resident corporate.32 in June. The fall in call-put volumes ratio suggests that the traders are increasingly becoming pessimistic on the market.

But often corporate assume these risks due to interest rate differentials and This period has also witnessed several relaxations in regulations relating to forex markets and also greater liberalisation in capital account regulations leading to greater integration with the global economy.5 April’06Mar’07 6.0 30.181 crores during the same period.1 April’07Mar’08 12.have natural hedge or have potential foreign exchange earnings.404 2.9 21. the value of the trades has gone up steadily from Rs 17.3 31.1 April’08Dec’08 9. 429 crores in October 2008 to Rs 45.6:1 50.37: 1 49. • 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 central counterparty Since the commencement of trading of currency futures in all the three exchanges. where I understand the share of futures market ranges between 2 – 3 per cent.66:1 45.5 32. views on currencies.7 19.571 2.304 2.7:1 51. Table 4.621 2.5 19.7 53 . The average daily turnover in all the exchanges has also increased from Rs871 crores to Rs 2. 803 crores in December 2008.9 30.1ForexMarketActivity on a leveraged basis on the recognized stock exchanges with credit risks being assumed by the April’05Total turnover (USD billion) Inter-bank to Merchant ratio Spot/Total Turnover (%) Forward/Total Turnover (%) Swap/Total Turnover (%) Source: RBI Mar’06 4. The turnover in the currency futures market is in line with the international scenario.9 17.

As we have seen. Accurate prices are essential for ensuring the correct allocation of resources in a free market economy. the put option can always be exercised. He can protect himself by selling a futures contract.] RISK MANAGEMENT – Futures and options contract can be used for altering the risk of investing in spot market. If the spot price falls. For instance. Secondly. or by buying a Put option. they offer greater liquidity. Futures prices are believed to contain information about future spot prices and help in disseminating such information. as you will see later. Finally. Large spot transactions can often lead to significant price changes. 3. He will always be worried that the price may fall before he can sell the asset. the short hedgers will gain in the futures market. 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. if the spot price falls below the exercise price. BENEFITS OF DERIVATIVES Derivative markets help investors in many different ways: 1. futures markets tend to be more liquid than spot markets. Similarly. Options markets provide information about the volatility or risk of the underlying asset.] OPERATIONAL ADVANTAGES – As opposed to spot markets. 54 .14. Consequently. However. futures markets provide a low cost trading mechanism. Thus information pertaining to supply and demand easily percolates into such markets. because herein you can take large positions by depositing relatively small margins. 2. it is easier to take a short position in derivatives markets than it is to sell short in spot markets. This will help offset their losses in the spot market. derivatives markets involve lower transaction costs. consider an investor who owns an asset.] PRICE DISCOVERY – Price discovery refers to the markets ability to determine true equilibrium prices.

Speculators always take calculated risks. Thus derivatives help in discovery of future as well as current prices.] MARKET EFFICIENCY – The availability of derivatives makes markets more efficient. the amount of capital required to take a comparable position is less in this case. The derivative market performs a number of economic functions. • • An important incidental benefit that flows from derivatives trading is that it acts as a catalyst for new entrepreneurial activity. 5. 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. spot. futures and options markets are inextricably linked. Also. Transfer of risk enables market participants to expand their volume of activity. This is important because facilitation of speculation is critical for ensuring free and fair markets. 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 prices of derivatives converge with the prices of the underlying at the expiration of derivative contract. Derivatives markets help increase savings and investment in the long run.4. Since it is easier and cheaper to trade in derivatives.] EASE OF SPECULATION – Derivative markets provide speculators with a cheaper alternative to engaging in spot transactions. 55 .

Bank of Bank Corporation Headquartered in Mumbai. State Bank of India. SBI Life Insurance Co. State Bank of Indore.. State Bank of Saurashtra. Cooperatives. offering multiple commodities for trading with wide reach and penetration and robust infrastructure. Ahmedabad. MCX MCX (Multi Commodity Exchange of India Ltd.) an independent and demutulised multi commodity exchange has permanent recognition from Government of India for facilitating online trading. Importers. Regional Trading Canters.. 56 . State Bank of Hyderabad. viz. MCX and NCDEX. National Commodity & Derivatives Exchange (NCDEX). Mumbai have become operational. Bank Baroda. While the NMCE. Traders. Exporters. Union Bank of India. Corporate. Canera Bank. Mumbai. of India. “National Status” implies that these exchanges would be automatically permitted to conduct futures trading in all commodities subject to clearance of byelaws and contract specifications by the FMC. Ahmedabad commenced futures trading in November 2002. MCX is led by an expert management team with deep domain knowledge of the commodity futures markets. Key shareholders of MCX are Financial Technologies (India) Ltd. (NMCE). Three such Exchanges. Today MCX is offering spectacular growth opportunities and advantages to a large cross section of the participants including Producers / Processors. amongst others MCX being nation-wide commodity exchange. clearing and settlement operations for commodity futures markets across the country. HDFC Bank. Industry Associations. Ltd. and Multi Commodity Exchange (MCX).15.. National Exchanges In enhancing the institutional capabilities for futures trading the idea of setting up of National Commodity Exchange(s) has been pursued since 1999. Mumbai commenced operations in October/ December 2003 respectively. National Multi-Commodity Exchange of India Ltd.

NMCE National Multi Commodity Exchange of India Ltd. It is the only Commodity Exchange in the world to have received ISO 9001:2000 certification from British Standard Institutions (BSI). Punjab National Bank (PNB) took equity of the Exchange to establish that linkage. Even today. finance was still a vital missing link.. and Neptune Overseas Limited (NOL). Gujarat Agro-Industries Corporation Limited (GAICL). The system of upfront margining based on Value at Risk is followed to ensure financial security of the market. provided by CMC. Gujarat State Agricultural Marketing Board (GSAMB). It has also established fair and transparent rule-based procedures and demonstrated total commitment towards eliminating any conflicts of interest. (NMCE) was promoted by Central Warehousing Corporation (CWC). It has robust delivery mechanism making it the most suitable for the participants in the physical commodity markets. clearing and settlement operations for a commodities futures trading. Derivative Trading Settlement System (DTSS). National Institute of Agricultural Marketing (NIAM). research and training were adequately addressed in structuring the Exchange. The contracts are marked to market on daily basis. facilitates online trading. NMCE facilitates electronic derivatives trading through robust and tested trading platform. private and public sector marketing of agricultural commodities.MCX. cooperatives. NMCE was the first commodity exchange to provide trading facility through internet. viz. NMCE is the only Exchange in India to have such investment and technical support from the commodity relevant institutions. a state-ofthe-art nationwide. In 57 . While various integral aspects of commodity economy. digital Exchange. MCX. having a permanent recognition from the Government of India. is an independent and demutualised multi commodity Exchange. through Virtual Private Network (VPN). warehousing. National Agricultural Cooperative Marketing Federation of India (NAFED). NMCE follows best international risk management practices.

It is a public limited company registered under the Companies Act. Besides. Cotton Seed Oilcake. It is located in Mumbai and offers facilities to its members in more than 390 centres throughout India. Rubber. Rapeseed . Forward Markets Commission regulates NCDEX in respect of futures trading in commodities. Coffee. Mulberry Green Cocoons. Cotton. The unique strength of NMCE is its settlements via a Delivery Backed System. Pepper. Guar gum. Stamp Act. Contracts Act. RBD Palmolein. These deliveries are executed through a sound and reliable Warehouse Receipt System. NCDEX is subjected to various laws of the land like the Companies Act.the event of high volatility in the prices. special intra-day clearing and settlement is held. 58 . 1956 with the Registrar of Companies. Maharashtra in Mumbai on April 23.Mustard Seed . an imperative in the commodity trading business. Rice. Crude Palm Oil. The reach will gradually be expanded to more centres. NCDEX currently facilitates trading of thirty six commodities . Gold. Forward Commission (Regulation) Act and various other legislations. Chana. professionalism and transparency.Cashew. Refined Soy Oil. Jeera. NCDEX National Commodity and Derivatives Exchange Ltd (NCDEX) is a technology driven commodity exchange.2003. Mild Steel Ingot. Chilli. Sesame Seeds. Expeller Mustard Oil. which impinge on its working. NMCE was the first to initiate process of dematerialization and electronic transfer of warehoused commodity stocks. Jute sacking bags. Castor Seed. leading to guaranteed clearing and settlement. Gur. Guar Seeds. 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.Raw Jute. It has an independent Board of Directors and professionals not having any vested interest in commodity markets.

Silver.Silk. Sugar. Yellow Red Maize & Yellow Soybean Meal. Tur. Wheat. TABLE4: THE CURRENT PROFILE OF FUTURES TRADING IN INDIA WITH RESPECT TO THE VARIOUS EXCHANGES IN INDIA:- 59 . Urad (Black Matpe). Turmeric. Soy Bean. Yellow Peas.

16. The Present Status: 60 .

. Sangli.. Delhi oilcake Bhatinda Om & Oil Exchange Ltd. Indore Soya seed. Rapeseed/Mustardseed its 61 .Presently futures’ trading is permitted in all the commodities.. Oil & oil international contracts Bullion Castor seed. Castor Ltd. Trading is taking place in about 78 commodities through 25 Exchanges/Associations as given in the table below:TABLE 4 Registered commodity exchanges in India No. its oil & cake. Calcutta The East India Cotton Association Cotton Ltd. Soyaoil and Soya meals. Hapur The Meerut Agro Gur. 3.. Mustard seed its oil & Ltd. Commodity Castorseed. its Exchange. Potatoes and Mustard seed Commodities Gur Exchange Ltd. Gur Bhatinda The Chamber of Commerce. 5. cottonseed. 4. 11.. 13.. 6. cottonseed. Ahmedabad oil and oilcake The East India Jute & Hessian Hessian & Sacking Exchange Ltd. Rajkot 9. 10. 12. National Board of Trade. The Ahmedabad palmolein. Kochi (IPSTA) Vijai Beopar Chambers Muzaffarnagar Rajdhani Oils & Oilseeds Exchange Gur. and cotton RBD (kapas) Merchants Association. Mustard seed & Spice Association. Mumbai The Spices & Oilseeds Exchange Turmeric Ltd. Gur. 8. Groundnut. 7. Mumbai Rajkot Seeds. Meerut The Bombay Commodity Exchange Oilseed Complex.. its oil & cake. Exchange India Pepper COMMODITY Trade Pepper (both domestic and international contracts) Ltd. 1. 2..

22.14.. its oil & India Ltd. which was insignificant as compared to that of NSE at Rs... Several Commodities Mumbai 23... Guar seed. 15. Gwalior E-sugar India Ltd. 16. Haryana Commodities Ltd. Equity Derivatives Segment A. 3. Several Commodities Exchange Ltd.... Observations on the quarterly data for July-September. Gram. the turnover at BSE was Rs. The Board at its meeting on November 29. Bangalore Surendranagar Cotton Oil & Cotton. Ahmedabad Coffee Futures Exchange India Coffee Ltd. 2008-09 During July-September 2008-09. Accordingly. Bullion Association Ltd. 2.. Bikaner Guar Gum 24.. Mumbai Sugar National Multi-Commodity Several Commodities Exchange of India Ltd.315. 17. 19. Kochi Central India oilcake Commercial Gur and Mustard seed Exchange Ltd.491 crore. Surendranagar E-Commodities Ltd. Hissar Mustard seed complex 25. this memorandum presents a status report for the quarter July-September 2008-09 on the developments in the derivative market. STATUS REPORT OF THE DEVELOPMENTS IN THE DERIVATIVE MARKET 1. Cottonseed. 21. 20. Mustard seeds its oil & oilcake. Mumbai Multi Commodity Exchange Ltd.. Bikaner commodity Exchange Ltd. oil and oilcake and RBD Palmolien The First Commodities Exchange of Copra/coconut. 62 . Kapas Sugar (trading yet to Oilseeds. Jaipur Mustard seed Complex 17.510 crore.1. New Delhi commence) National Commodity & Derivatives. 2002 had desired that a quarterly report be submitted to the Board on the developments in the derivative market. 18.

06% to 1.68%). 3. State Bank of India and ICICI Bank Ltd were the most actively traded scrips in the derivatives segment. Refer Table 2  Volume in longer dated derivative contracts (contracts with maturity of more than three months and up to 3 years) was 3. 63 . 3.17%.99 lakh and total turnover was Rs. Refer Table 3  Volume in Mini Nifty (contracts with minimum lot size of Rs.698.1 lakh) was 44 lakh and total turnover was Rs.317 thousand crore in JulySeptember 2008-09 over April-June 2008-09.19 times that of its cash segment. Stock Future and Index Future accounted for 35.  Client trading constituted 60. Reliance Capital Ltd.76% of the total turnover. 37 thousand crore.20% of the total number of contracts traded in the F&O Segment.12% of derivatives turnover in individual stocks. This mainly comprised of trading in Index Option (30.307 thousand crore. 9870 crore.  Turnover at F&O segment was 4.07% and FII trading constituted remaining 8. Reliance Petro.  Futures (Index Future + Stock Future) constituted 67.  Total volume in shorter dated derivative contracts (contracts with maturity up to 3months) was 1.77% to Rs.  Reliance. Together they contributed 25.Refer Table 1  Volume (no.  Options constituted 32. of contracts) increased by 42. Ltd.7 lakh while turnover increased by 24.94% respectively.695 lakh and total turnover was Rs.26% and 31.80% of the total volumes. Propriety trading constituted 31.

1 599.6 1.6 542.3 Future Stock Option 25. of Turnover PRODUCT Contracts(L (Rs.Refer Table 4  During July-September.2 1.317.4 1.0 1.5 35. 2008.077.3 521.5 58.1 Total 1. ‘000) Contracts(Lakh) (Rs. S&P CNX Nifty futures recorded highest average daily volatility of 2. of Turnover No.130. Refer Table 5  The volume (in terms of no.5 Index Option 240.September 2008-09.658.093.5 1.7 935. Table-5: Fact file of July-September 2008-09 with respect to the Depth Depth Market previous quarter APRIL-JUNE 2008-09 JULY-SEPTEMBER2008-09 No.20 31.85% in July 2008. 16th in Stock Option and 4th in Index Options (as on November 10. of contracts traded) of Nifty Future at SGX as a percentage of the volume of Nifty Future at NSE was 8.1 571.94 32.9 69.698.7 3.195.55% during July.0 Market Share ( %) Index Future 1.9 Single Stock 514. Derivative contracts were launched on 38 securities at National Stock Exchange during July-September 2008-09. 2nd in Index Futures.3 35.077. 2008) in World Derivatives Market  (in terms of volume) at the end of September 2008. ‘000) akh) VOLUME & TURNOVER Index Future 415.8 2.48 64 . Refer Table 6  India stands 2nd in Stock Futures.039.

of three monthsin 59.19 .09 31.88 12.) No contracts (lakh) than Longer Dated 3 months) Turnover (Rs.35 30.Reliance Five most active .039.77 31.Reliance Petro. Ltd the F&O Segment Contribution of the above f iv e to total 23.9 Single Stock 41.07 8.3 Future Stock Option 2.Reliance Capital Ltd .68 35.12 (avg.11 34.Reliance Petro.1 Turnover in F&O as multiple of turnover in 3.76 60.130. ‘000 cr.17 Table-6: Data for Shorter Dated and Longer Dated derivative contracts Time Period Trades in Shorter Dated Trades in 3 Months) more of Turnover (Rs.Reliance Capital Ltd active scrips in . Ltd .08 4.26 cash segment . Ltd.ICICI Bank Ltd 25.72 derivatives turnover (%) Client (excluding FII trades) Proprietary FII 27.State Bank of India .12 1.33 2. ‘000 cr.Tata Steel F&O Segment .49 Index Option 1.19 69.) derivative contracts (up t o derivative contracts (more of (Quarter) No contracts (lakh) 65 .Reliance .Market Concentration 21. scrips in the .Infosys Tech.26 2.

83 9.9 27.655.88 3.64 1. ‘000 cr.4 36.694.7 66 .5 Table-7: Data for Mini Nifty derivative contracts Time (Quarter) Period No contract (lakh) of Turnover (Rs.97 3.87 12.8 29.) July-September 2008-09 Apr-Jun 09 200843.307.99 4.194.11 2.July-September 2008-09 Apr-Jun 09 20081.

Maximum and Average Daily Volatility of the F&O segment at NSE for S&P CNX Nifty since April 2008 Average volatility Month April-08 May-08 June-08 July-08 August-08 September08 (%) 2.08 2.47 1.418 8.27 2.61 2.09 Maximum Volatility (%) Minimum Volatility (%) Table-9: SGX volume as a percentage of NSE volume for Nifty Future in terms of no.10 2. of contracts for the period April – September.28 3.034 8.56 1.85 2.98 1.28 2.80 2.61 2.775 4.Table-8: Minimum.977.764.05 1.38 2.104.55 Volume SGX Future (Nifty volume) Volume SGX volume as Future % of NSE Volume 67 .71 1.51 2. 2008-09 NSE Month (Nifty volume) JulySeptember 2008-09 Apr-Jun 200809 37.58 47.99 2.241.776 3.

world-exchanges.Table-10: Standing of India in World Derivatives Market (in terms of volume) Products Stock Future Index Future Stock Option Index Option July 2008 1 2 9 4 August 2008 1 2 15 4 September 2008 2 2 16 4 Source: www. under the present scenario the fall in the market has been accompanied by high volumes. of contracts) and open interest in the derivatives market has increased even when the underlying market is witnessing a downward trend.08%) during July-September 2008-09 over April-June 2008-09. as observed from the data. Generally in such conditions. Falling or rising markets on the back of low volumes may be a cause of concern from the point of market integrity. This indicates that there are sufficient long position holders who anticipate value proposition in a falling market. many people believe that options act as "insurance" against adverse price movements while offering the flexibility to 68 .org (as on November 10. Possible reasons for increase in options trading activity can be attributed to increase in volatility.95%) and volume (117.  In Index Option. However. there is a sharp increase in turnover (97. 2008) Salient points for the 2nd quarter 2008-09  The volume (no. Market observers believe that conditions across markets and asset classes have become more volatile and uncertain in the recent past.

39%) in Longer Dated derivative contracts in second quarter of 2008-09 as compared to the first quarter of 2008-09. the market share of all other products has decreased (both in terms of volume and turnover) in second quarter of 200809 as compared to the first quarter of 2008-09.September 2008-09 as compared to April-June 2008-09.52% whereas volume increased by 4.17%) and volume (30. but the volumes have not picked up consequently. Mini Nifty volumes increased by 49.  In Index Future. turnover increased by 24.53%) have increased during July-September 2008-09 as compared to April-June 2008-09. Another reason which can be attributed to the increase in activity is the new directive as per the Budget 2008-09 which states that STT would now be levied on the Option premium instead of the strike price.  During 2008-09. 69 .81% in second quarter of 2008-09 as compared to the first quarter of 2008-09.04%) and volume (17.  Except Index Option.15% and turnover increased by 33.43% during July-September 2008-09 over April-June 2008-09.  There is a decrease in turnover (21.  There is a decrease in turnover (4.92%) in Single Stock Futures during July.  For shorter dated derivative contracts.benefit from possible favourable price movements at the same time. both turnover (15.  Longer dated derivatives were launched in March 2008.

of contracts 4116649 156598579 81487424 58537886 21635449 17191668 2126763 1025588 FIGURE 11A Number of contracts per year 70 .18. Business Growth in Derivatives segment (NSE) TABLE 11A Index futures Year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 No.

the number of contracts in Index Future were 1025588 where as a significant increase of 4116679 is observed in the year 2008-09. Cr.96 3820667. Table 11B No of turnovers Year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 Turnover (Rs. Crores 71 .) 925679. there is high business growth in the derivative segment in India. In the year 2001-02.27 2539574 1513755 772147 554446 43952 21483 FIGURE 11B Turnover in Rs.160000000 140000000 120000000 100000000 80000000 60000000 40000000 20000000 0 year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 INTERPRETATION: From the data and the bar diagram above.

72 .4000000 3500000 3000000 2500000 2000000 1500000 1000000 500000 0 year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 INTERPRETATION: From the data and above bar chart. there is high turn over in the derivative segment in India. In the year 2001-02 the turnover of index future was 21483 where as a huge increase of 92567996 in the year 2008-09 are observed.

of contracts 51449737 203587952 104955401 80905493 47043066 32368842 10676843 1957856 - FIGURE 12A Number of contracts per year in stock future 250000000 200000000 150000000 100000000 50000000 0 year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 INTERPRETATION: From the data and bar diagram above there were no stock futures available but in the year 2001-02.952 in the year 2007-08 but there was a steady decline to 51449737 in the year 2008-09.TABLE 12A STOCK FUTURES Year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 2000-01 No. it predominently increased to 1957856. 35. TABLE 12B NO OF TURNOVERS 73 . and 87. Then there was a huge increase of 20.

26 7548563. There was a steady increase of stock future 51515 in the year 2001-02.23 3830967 2791697 1484056 1305939 286533 51515 - 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 2000-01 INTERPRETATION: From the data and bar chart above.Year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 2000-01 FIGURE 12B Turnover in Rs.26 in the year 2008-09. but in the year there was a huge increae of 7548563. there were no stock futures available in the year 2000-01.23 in the year 2007-08 with a considerable decline of 1093048. Crores 8000000 7000000 6000000 5000000 4000000 3000000 2000000 1000000 0 year Turnover (Rs. TABLE 13A INDEX OPTIONS Year 2008-09 2007-08 2006-07 2005-06 No. Crores) 1093048. of contracts 24008627 55366038 25157438 12935116 74 .

2004-05 2003-04 2002-03 2001-02 2000-01 3293558 1732414 442241 175900 - FIGURE 13A Number of contracts per year 60000000 50000000 40000000 30000000 20000000 10000000 0 year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 Interpretation: From the data and bar chart above.900 in the year 2001-2002. Crores Year 2008-09 2007-08 2006-07 Turnover (Rs.88 791906 75 . Crores) 71340. TABLE 13B Turnover per year in Rs. the no of contracts of index option was nil in the year 2000-2001. In the year 2007-2008 there was a huge increase in the index option contracts to 55366038 and a decline of 24008627 in the year 2008-2009. But there was a predominant increase of 1.02 1362110.75.

088 and a sudden decline to 71340. It slowly started increasing in the year 2000-2001 to 3765.02 observed in 2008-2009. TABLE 14A STOCK OPTIONS Year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 No. Crores 1400000 1200000 1000000 800000 600000 400000 200000 0 year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 Interpretation: From the data and bar chart above.But in the year 2007-2008 there was a huge increase of 1362110.2005-06 2004-05 2003-04 2002-03 2001-02 2000-01 338469 121943 52816 9246 3765 - FIGURE 13B Turnover per year in Rs. of contracts 2546175 9460631 5283310 5240776 5045112 5583071 76 . there was no turnover in the year 2000-2001 for Index option.

But there was a huge increase of 1037529 observed in the year 2001-2002. 77 . It was 9460631 which was the the highest in the year 20072008.55 193795 180253 168836 turnover (Rs. Crores per year Year 2008-09 2007-08 2006-07 2005-06 2004-05 Notional crores) 58335. TABLE 14B National turnover in Rs.03 359136. But a gradual decline of 2546175 in the year 2008-2009.2002-03 2001-02 2000-01 3523062 1037529 - FIGURE 14A Number of contracts traded per year in stock option 10000000 9000000 8000000 7000000 6000000 5000000 4000000 3000000 2000000 1000000 0 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 year INTERPRETATION: From the data and bar chart above the no of contracts of stock option in the year 2000-2001 was nil.

TABLE 15A OVERALL TRADING Year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 No. cr.2003-04 2002-03 2001-02 2000-01 217207 100131 25163 - FIGURE 14B National turnover in Rs.30 13090477. There was a slow increase of 25163 in the year 2001-2002.75 7356242 4824174 2546982 2130610 78 . Crores per year 400000 350000 300000 250000 200000 150000 100000 50000 0 year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 Interpretation: From the chart and the bar diagram above the stock option turnover in the year 2000-2001 was nil.) 2648403. of contracts 119171008 425013200 216883573 157619271 77017185 56886776 Turnover (Rs. and a decline of 58355.55 in the year 2007-2008. But a phenomenal increase of 359136.03 in the year 2008-2009.

of contract s Turnove r (Rs.30 observed in the year 2008-2009. TABLE 16 Overall trade description under NSE Index Futures Y No.) Total No. cr. of contrac ts Notional Turnove r (Rs. From the data and bar chart above the overall trading turnover in the year 20002001 was as low as 2365 but a predominant increase of 2648403.2002-03 2001-02 2000-01 16768909 4196873 90580 439862 101926 2365 FIGURE 15A Average daily turnovers in Rs. Crores 60000 50000 40000 30000 20000 10000 0 year 2000-2001 2001-2002 2002-2003 2003-2004 2004-2005 2005-2006 2006-2007 2007-2008 2008-2009 Interpretation: From the data and bar chart above. of contracts T u r n o v e r 79 . the overall trading contracts in the year 2000-2001 was 90580 and huge increase of 119171008 in the year 2008-2009. of contract s Notional Turnove r (Rs.) Stock Options No. e of a contr r acts Turnove r (Rs.) Stock Futures No.) Index Options No. cr. cr. Tu of rno cont ver ract (Rs s .) Interest Rate Futures No. cr. cr.

03 0 0. 27 2035879 52 7548563. 26 240086 27 571340.0 0 11917100 8 2 0 0 1565985 7 79 0 8 2 0 0 6 0 7 2 0 0 5 0 6 2 0 0 4 0 5 2 0 0 3 3820667. c r . ) 2 6 4 8 4 0 3 . 23 553660 38 1362110.5 5 0 0.0 0 42501320 0 8148742 4 2539574 1049554 01 3830967 251574 38 791906 5283310 193795 0 0 21688357 3 5853788 6 1513755 8090549 3 2791697 129351 16 338469 5240776 180253 0 0 15761927 1 2163544 9 772147 4704306 6 1484056 329355 8 121943 5045112 168836 0 0 77017185 1719166 8 554446 3236884 2 1305939 173241 4 52816 5583071 217207 1078 1 202 56886776 80 . 88 9460631 359136. 3 0 1 3 0 9 0 4 7 7 .( R s .0 2 2546175 58335.9 2 0 0 4116646 8 9 0 9 6 5144973 7 1093048. 7 5 7 3 5 6 2 4 2 4 8 2 4 1 7 4 2 5 4 6 9 8 2 2 1 3 0 925679.

0 4 2 0 0 2 2126763 0 3 2 0 0 1 1025588 0 2 2 0 0 0 90580 0 1 6 1 0 4 3 9 8 6 2 1 0 1 9 2 6 2 3 6 5 43952 1067684 3 286533 442241 9246 3523062 100131 - - 16768909 21483 1957856 51515 175900 3765 1037529 25163 - - 4196873 2365 - - - - - - - 90580 TABLE 17 AVERAGE DAILY TURNOVERS 81 .

Year 2008-09 2007-08 2006-07 2005-06 2004-05 2003-04 2002-03 2001-02 2000-01

Av. daily turnover (Rs. Crores) 45390.21 52153.30 29543 19220 10167 8388 1752 410 11

Note: Notional Turnover = (Strike Price + Premium) * Quantity Index Futures, Index Options, Stock Options and Stock Futures were introduced in June 2000, June 2001, July 2001 and November 2001 respectively.


From the above analysis it can be concluded that: 1. Derivative market is growing very fast in the Indian Economy. The turnover of Derivative Market is increasing year by year in the 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. 2. 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. 3. 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. 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. RELIANCE is the most active future contracts on individual securities traded with 90090 contracts and RNRL is the next most active futures contracts with 63522 contracts being traded.

 RBI should play a greater role in supporting derivatives. Derivatives market should be developed in order to keep it at par with other derivative markets in the world. Speculation should be discouraged. There must be more derivative instruments aimed at individual investors. SEBI should conduct seminars 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.


Books referred:  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  Regulatory Framework for Financial Derivatives in India by Dr.L.C.GUPTA Websites visited:  www.nse-india.com  www.bseindia.com  www.sebi.gov.in  www.ncdex.com  www.google.com  www.derivativesindia.com


Crisil Nse 50 Index CPE .Central Warehousing Corporation D DTSS.Chicago Board of Trade CEBB .Chicago Egg and Butter Board CME .Gujarat State Agricultural Marketing Board I IMM .International Monetary Market IPSTA.Foreign Institutional Investors F & O – Future and Options FMC.Chicago Board options Exchange CBOT .America Stock Exchange B BSE.Forward Markets Commission FRAs.Chicago Mercantile Exchange CNX.Chicago Produce Exchange CWC.British Standard Institute C CBOE .Forward Rate Agreements G GAICL-Gujarat Agro Industries Corporation Limited GSAMB.ABBREVATIONS A AMEX.Bombay Stock Exchange BSI.India Pepper & Spice Trade Association M MCX – Multi Commodity Exchange 86 .Derivative Trading Settlement System F FIIs.

Philadelphia Stock Exchange PNB.Reserve Bank Of India S SC(R) A .National Securities Clearing Corporation NSDL.Virtual Private Network 87 .Over The Counter P PHLX .N NAFED-National Agricultural Co-Operative Marketing Federation Of India NCDEX – National Commodities and Derivatives Exchange NIAM.Punjab National Bank R RBI.National Stock Exchange O OTC.Securities Exchange Board Of India SGX.Singapore International Monetary Exchange V VPN.Neptune Overseas Limited NSCCL.Securities Contracts (Regulation) Act.National Institute Of Agricultural Marketing NMSE. 1956 SEBI.National Multi Commodity Exchange NOL.National Securities Depositories Limited NSE .Singapore Stock Exchange SIMEX .

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