What are derivatives

Derivative Instruments
What is the use of derivatives:
What are the different types of
derivative contracts:
How to trade in derivatives
market:
What are the pre-requisites
to invest
 Brief history of Derivatives History of derivatives is quite
colorful and surprisingly a lot longer than most people think In
Genesis Chapter 29, believed to be about the year 1700 B.C.,
Jacob purchased an option costing him seven years of labor
that granted him the right to marry Laban's daughter Rachel
Futures contracts can be traced to Ancient Greece, in Aristotle's
writings. Thales, a poor philosopher, predicted that olive
harvest would be exceptionally good.
Introduction to Derivatives: He made agreements with olive-press owners to guarantee him
Derivative Markets and
exclusive use of their olive presses. When the harvest-time
Instruments
came, and many presses were wanted all at once, he let them
out at inflated rates.
Dutch Tulip bulb mania was characterized by forward contracts
on tulip bulbs around 1637
First futures exchange market was the Dōjima Rice Exchange
in Japan in the 1730s, to meet the needs of Samurai who, being
paid in rice and after a series of bad harvests, needed a stable
conversion to coin.Dōjima Rice Exchange

Milestones in the Development of
Indian Derivative Market
• November 18, 1996 L.C. Gupta Committee set up to draft a policy
framework for introducing derivatives
• May 11, 1998 L.C. Gupta committee submits its report on the
policy framework
• May 25, 2000 SEBI allows exchanges to trade in index futures
• June 12, 2000 Trading on Nifty futures commences on the NSE
• June 4, 2001 Trading for Nifty options commences on the NSE
• July 2, 2001 Trading on Stock options commences on the NSE
• November 9, 2001 Trading on Stock futures commences on the
NSE
• August 29, 2008 Currency derivatives trading commences on the
NSE
 Milestones in the development of Indian derivative market
• August 31, 2009 Interest rate derivatives trading commences on the
NSE
• February 2010 Launch of Currency Futures on additional currency
pairs
• October 28, 2010 Introduction of European style Stock Options
• October 29, 2010 Introduction of Currency Options
Indian Derivatives Market
• SEBI set up a 24–member committee under the Chairmanship of
Dr. L. C. Gupta.
• The committee submitted its report on March 17, 1998.
• SEBI set up a group in June 1998 under the Chairmanship of Prof.
J.R.Verma.
• The committee submitted its report in October 1998.
 A derivative is a financial instrument that derives its value from an
underlying asset. The underlying asset can be equity, currency,
commodities, or interest rate. Thus, a change in the underlying asset leads
to an equivalent change in the derivative. Derivative markets are

investment markets where derivative trading takes place .

Derivative is a contract or a product whose value is derived from value of

some other asset known as underlying.
Introduction to Derivatives: Derivatives are based on wide range of underlying assets.

Derivative Markets and These include:

 Metals such as Gold, Silver, Aluminium, Copper, Zinc, Nickel, Tin,
Instruments
Lead etc.
 Energy resources such as Oil (crude oil, products, cracks), Coal,
Electricity, Natural Gas etc.
 Agri commodities such as wheat, Sugar, Coffee, Cotton, Pulses etc, and 
   Financial assets such as Shares, Bonds and Foreign Exchange
 1.Forwards:  
It is a contractual agreement between two parties to buy/sell an
underlying asset at a certain future date for a particular price that is
pre‐decided on the date of contract. Both the contracting parties are
committed and are obliged (pleased) to honour the transaction
irrespective of price of the underlying asset at the time of delivery.
Since forwards are negotiated between two parties, the terms and
conditions of contracts are customized.   These are Over‐the‐counter
(OTC) contracts.

2.Futures:  
A futures contract is similar to a forward, except that the deal is
made through an organized and regulated exchange rather than being
negotiated directly between two parties. Indeed, we may say futures
are exchange traded forward contracts.
Derivative Instruments
3.Options:
An Option is a contract that gives the right, but not an obligation, to
buy or sell the underlying on or before a stated date and at a stated
price. While buyer of option pays the premium and buys the right,
writer/seller of option receives the premium with obligation to sell/
buy the underlying asset, if the buyer exercises his right.

4.Swaps:
A swap is an agreement made between two parties to exchange cash
flows in the future according to a prearranged formula. Swaps are,
broadly speaking, series of forward contracts. Swaps help market
participants manage risk associated with volatile interest rates,
currency exchange rates and commodity prices
 The derivatives market in India consists of the unorganized forward
market and the exchange-traded futures & options market.
Derivatives trading for our purpose basically refer to the exchange
traded derivatives market.
The principal trading products in the derivative market in India are
futures and options.
An example of the forward market in India is the inter-bank forward
dollar market used for currency hedging.
There are some basic problems with forward trading markets.
Structure of Derivative Firstly, they are customized and hence if somebody wants to exit a
Markets forward transaction then it is not possible unless someone with a
similar requirement also comes in.
Secondly, what happens if one of the parties to a forward transaction
defaults? There is no recourse except to go to court and try and
enforce the contract.
In futures market on the stock exchanges, all transactions are
guaranteed by the clearing corporation.
That means; the clearing corporation acts as the counter party for
every transaction so the default risk is almost zero.
 Exchange-traded derivative contracts (ETD): ETDs are derivative
instruments that are traded in a derivatives exchange. This exchange acts as an
intermediary in all related transactions. As a guarantee, an initial margin is
submitted by both the buyer and the seller of the contract.
Exchange‐traded contracts are standardized,
traded on organized exchanges with prices determined by the interaction of
buyers and sellers through anonymous auction platform.
A clearing house/ clearing corporation, guarantees contract performance
(settlement of transactions). 
National Securities Clearing Corporation Limited (NSCCL)
Approved Stock Exchanges in India
1.  Bhvneshwar Stock Exchange, Bhuneshwar.
1.  Calcutta Stock Exchange, Calcutta.
3.   Cochin Stock Exchange, Cochin.
4.   Delhi Stock Exchange, Delhi.
Exchange Traded Markets 5.  Guwahati Stock Exchange, Guwahati.
6.  Hyderabad Stock Exchange, Hyderabad.
1.  Jaipur Stock Exchange, Jaipur.
8.  Canara Stock Exchange, Mangalore.
9.  Ludhiana Stock Exchange, Ludhiana.
10. Chennai Stock Exchange, Chennai.
11. M. P. Stock Exchange, Indore.
12. Magadha Stock Exchange, Patna.
13. Pune Stock Exchange, Pime.
14. U.P. Stock Exchange, Kanpur.
15. Vadodara Stock Exchange, Vadodara.
16. Koyambtour Stock Exchange, Coimbatore.
17. Mer rut Stock Exchange, Meerut.
18. Mumbai Stock Exchange, Mumbai.
19. Over the Counter Exchange of India, Mumbai.
20. National Stock Exchange, Mumbai.
21. Ahmedabad Stock Exchange, Ahmedabad.
22. Bangalore Stock Exchange, Bangalore.
23. Capital Stock Exchange, Kerala Ltd., Thiruvananthapuram, Kerala 
 Over the Counter (OTC): 
The OTC derivative market is the largest market for derivatives. Here, the
derivatives are traded privately without an exchange. Products such as
swaps, exotic options, and forward rate agreements are traded between
highly sophisticated financial entities such as hedge funds and banks in
private.
Contracts are tailor made to fit in the specific requirements of dealing
counterparties.
Over the Counter Markets  The management of counter‐party (credit) risk is decentralized and
OTC located within individual institutions.
 There are no formal centralized limits on individual positions,
leverage, or margining.
 There are no formal rules or mechanisms for risk management to ensure
market stability and integrity, and for safeguarding the collective
interest of market participants.
 Transactions are private with little or no disclosure to the entire market
  Increased fluctuations in underlying asset prices in financial
markets.
 Integration of financial markets globally.  
 Use of latest technology in communications has helped in
reduction of transaction costs.  
 Enhanced understanding of market participants on sophisticated
risk management tools to manage risk.  

Factors Influencing the Growth of  Frequent innovations in derivatives market and newer

Derivative Market Globally applications of products.

Case Study for the Team Presentation
Participants Of Derivatives Market
Participants
 How do differentiate Cash
Market Vs Derivative Market
How do differentiate Forward
Contracts Market Vs Futures
Contracts