A Study on Capital Market Derivatives In

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A STUDY ON CAPITAL MARKET DERIVATIVES IN

INDIA INFOLINE LIMITED,

VISAKHAPATNAM.

A Project report

Submitted to Acharya Nagarjuna University in partial

Fulfillment of the requirements for the degree of

MASTER OF BUSINESS ADMINISTRATION

Submitted By

SUNKARA RAJESH

(Regd No.A09EM016040)

(2009-11)

Under the Guidance of

Mr.P.RAJA BABUM.Com.,M.B.A.,M.Phil.,B.L.,(P.hd)

Asst Professor(Dept of MBA)

Nimra College of Business Management, Ibrahimpatnam,Vijayawada-524 456


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INTRODUCTION TO DERIVATIVES

The Derivatives Market is meant as the market where exchange of

derivatives takes place. Derivatives are one type of securities whose

price is derived from the underlying assets. And value of these

derivatives is determined by the fluctuations in the underlying assets.

These underlying assets are most commonly stocks, bonds,

currencies, interest rates, commodities and market indices. As

Derivatives are merely contracts between two or more parties,

anything like weather data or amount of rain can be used as

underlying assets. The Derivatives can be classified as Future

Contracts, Forward Contracts, Options, Swaps and Credit

Derivatives.

Derivatives

Swaps Options Futures Forwards

Int Rt Put Call Security

Currency ` Commodity


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DEFINITION OF DERIVATIVES

A security whose price is dependent upon or derived from one or more

underlying assets. The derivative itself is merely a contract between two

or more parties. Its value is determined by fluctuations in the underlying

asset. The most common underlying assets include stocks,

bonds, commodities, currencies, interest rates and market indexes.

Most derivatives are characterized by high leverage.

Futures contracts, forward contracts,

options and swaps are the most common types of derivatives.

Derivatives are contracts and can be used as an underlying asset.

There are even derivatives based on weather data, such as the amount

of rain or the number of sunny days in a particular region.

Derivatives are generally used as an instrument to hedge risk, but canalso be used for speculative purposes. For example, a European

investor purchasing shares of an American company off of an American

exchange (using U.S. dollars to do so) would be exposed to exchange-

rate risk while holding that stock. To hedge this risk, the investor could

purchase currency futures to lock in a specified exchange rate for the

future stock sale and currency conversion back into Euros

HISTORY OF DERIVATIVES


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Derivatives trading began in 1865 when the Chicago board of

trade(CBOT) listed the first exchange traded derivatives contract in

USA. These contracts were called futures contracts. In 1919, The

Chicago Butter and Egg Board, a spin off of CBOT, was recognized to

allow futures trading. Its name was changed to Chicago Mercantile

Exchange (CME).

The first stock index futures contract was traded at Kansas city Board of

trade. Currently the most popular stock index futures contract in the

world is based on the Standard & poors 500 Index, traded on the

CME. In April 1973, the Chicago board of Options Exchange was setup

specifically for the purpose of trading in options. The market for options

developed so rapidly that by early 80s the number of shares underlying

the contracts sold each day exceeded the daily volume of shares traded

on the New York Stock Exchange. And there has been no looking

back ever since.

Derivatives in India

The Securities and Exchange Board of India

(SEBI) allowed trading in Equities based derivatives on stock

exchanges in june 2000. Accordingly The national Stock Exchange(NSE) and The Bombay Stock Exchange(BSE) introduced trading in

futures on june 9, 2000 and june 12, 2000 respectively. Currently

futures and options turnover on the NSE is Rs 7000 to 8000 cr


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approximately. In india stock index options were introduced from July 2,

2001.

Derivatives in India:Chronology

December 14, 1995 The NSE sought sebis permission

to trade index futures.

November 18, 1996 The LC Gupta committee set up to

draft a policy frame work for index

futures.

May 11, 1998 The LC Gupta committee submitted

a report on the policy frame work

for index futures

July 7, 1999 d rate agreements and intrest rate

ps

May 24, 2000 SIMEX choose Nifty for trading

futures and options on an Indian

index.

May 25, 2000 SEBI allowed the NSE & BSE to trade

on index futures.June 9

th&12

th, 2000 BSE & NSE Commenced the futures

trade respectively.

September 25th

, 2000 Nifty futures trading commenced on

the SGX

What are derivative

Derivatives is a generic term for a variety of financial

instruments. Unlike financial instruments such as stocks and

bonds, a derivative is usually a contract rather than an asset.

Essentially, this means you buy a promise to convey


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ownership of the asset, rather than the asset itself. The legal

terms of a contract are much more varied and flexible than the

terms of property ownership. In fact, it's this flexibility that

appeals to investors. "A good toolbox of derivatives allows the

modern investor the full range of investment strategy" and "the

sophisticated management of risk.

Whatare the ForwardContracts

In finance, a forward contract or simply a forward is a non-

standardized contract between two parties to buy or sell an asset at a

specified future time at a price agreed today. This is in contrast to a

spot contract, which is an agreement to buy or sell an asset today. It

costs nothing to enter a forward contract. The party agreeing to buy

the underlying asset in the future assumes a long position, and theparty agreeing to sell the asset in the future assumes a short position.

The price agreed upon is called the delivery price, which is equal to

the forward price at the time the contract is entered into.

The price of the underlying instrument, in whatever form, is paid

before control of the instrument changes. This is one of the manyforms of buy/sell orders where the time of trade is not the time where

the securities themselves are exchanged.


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The forward price of such a contract is commonly contrasted with

the spot price, which is the price at which the asset changes hands on

the spot date. The difference between the spot and the forward price

is the forward premium or forward discount, generally considered in

the form of a profit, or loss, by the purchasing party.

Forwards, like other derivative securities, can be used to hedge risk

(typically currency or exchange rate risk), as a means of speculation,

or to allow a party to take advantage of a quality of the underlying

instrument which is time-sensitive.

A closely related contract is a futures contract; they differ in certain

respects. Forward contracts are very similar to futures contracts,

except they are not exchange-traded, or defined on standardized

assets. Forwards also typically have no interim partial settlements or

"true-ups" in margin requirements like futures - such that the parties

do not exchange additional property securing the party at gain and

the entire unrealized gain or loss builds up while the contract is open.

However, being traded OTC, forward contracts specification can be

customized and may include mark-to-market and daily margining.

Hence, a forward contract arrangement might call for the loss partyto pledge collateral or additional collateral to better secure the party

at gain.


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Commodity Derivatives: Derivatives as a tool for managing risk first

originated in the commodities markets. They were then found useful as a

hedging tool in financial markets as well. In India, trading in commodity futures

has been in existence from the nineteenth century with organized trading in

cotton through the establishment of Cotton Trade Association in 1875. Over a

period of time, other commodities were permitted to be traded in futures

exchanges. Regulatory constraints in1960s resulted in virtual dismantling

of the commodity futures market. It is only in the last decade that commodity

futures exchanges have been actively encouraged. In the commodity futuresmarket, the set up of national level exchanges witnessed exponential

growth in trading with the turnover increasing from 5.71 lakh crores in 2004-05

to52.48 lakh crores in 2008-09. However, the markets have not grown to

significant levels as compared to developed countries.

Evolution OfCommodity Exchanges

Most of the commodity exchanges, which exist today, have their origin in the

late 19th and earlier 20th century. The first central exchange was established in

1848 in Chicago under the name Chicago Board of Trade. The emergence of the

derivatives markets as the effective risk management tools in 1970s and 1980s

has resulted in the rapid creation of new commodity exchanges and expansion of the

existing ones. At present, there are major commodity exchanges all over the world dealing

in different types of commodities.

2.1.1 Commodity Exchange


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Commodity exchanges are defined as centers where futures trade is organized in

a wider sense; it is taken to include any organized market place where trade is

routed through one mechanism, allowing effective competition among buyers

and among sellers. This would include auction-type exchanges, but not

wholesale markets, where trade is localized, but effectively takes place through

many non-related individual transactions between different permutations of

buyers and sellers.

2.1.2 Role of Commodity Exchanges

Commodity exchanges provide platforms to suit the varied requirements ofcustomers. Firstly ,they help in price discovery as players get to set future prices

which are also made available to all participants. Hence, a farmer in the southern

part of India would be able to know the best price prevailing in the country which

would enable him to take informed decisions. For this to happen, the concept of

commodity exchanges must percolate down to the villages. Today the farmers

base their choice for next year's crop on current year's price. Ideally this decision

17ought to be based on next year's expected price. Futures prices on the

platforms of commodity exchanges will hopefully move farmers of our country

from the current 'cobweb' effect where additional acreage comes under

cultivation in the year subsequent to one when a commodity had good prices;consequently the next year the commodity price actually falls due to oversupply .Secondly,

these exchanges enable actual users (farmers, agro processors, industry where the

predominant cost is commodity input/output cost) to hedge their price risk given the un certainty


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of the future - especially in agriculture where there is uncertainty regarding the

monsoon and hence prices. This holds good also for non-agro products like

metals or energy products as well where global forces could exert considerable

influence. Purchasers are also assured of a fixed price which is determined in

advance, thereby avoiding surprises to them. It must be borne in mind that

commodity prices in India have always been woven firmly

into the international fabric. Today, price fluctuations in all major

commodities in the country mirror both national and international factors and not

merely national factors. Thirdly, by involving the group of investors andspeculators, commodity exchanges provide liquidity and buoyancy to the system

.Lastly, the arbitrageurs play an important role in balancing the market as

arbitrage conditions, where they exist, are ironed out as arbitrageurs trade with

opposite positions on different platforms and hence generate opposing demand

and supply forces which ultimately narrows down the gaps in prices .It must be

pointed out that while the monsoon conditions affect the prices of agro-based

commodities, the phenomenon of globalization has made prices of other

products such as metals, energy products, etc., vulnerable to

changes in global politics, policies, growth paradigms, etc. This

would be strengthened as the world moves closer to the resolution of the WTO

impasse, which would become a reality shortly. Commodity exchanges wouldprovide a valuable hedge through the price discovery process while catering to

the different kind of players in the market.

2.1.3 Commodity Derivative Markets in India


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Commodity futures markets have a long history in India. Cotton was the first

commodity to attract futures trading in the country leading to the setting up of the

Bombay Cotton Trade Association Ltd in 1875. The Bombay Cotton Exchange

Ltd. was established in 1893 following the widespread discontent

amongst leading cotton mill owners and merchants over the

functioning of Bombay Cotton Trade Association. Subsequently, many

exchanges came up in different parts of the country for futures trading in various

commodities. Futures trading in oilseeds started in 1900 with the establishment

of the Gujarati Vyapari Mandali, which carried on futures trade in groundnut,castor seed and cotton. Before the Second World War broke out in 1939,

several futures markets in oilseeds were functioning in Gujarat and Punjab

.Futures trading in wheat existed at several places in Punjab and Uttar Pradesh,

the most notable of which was the Chamber of Commerce at Hapur, which

began futures trading in wheat in 1913 and served as the price setter in that

commodity till the outbreak of the Second World War in 1939.Futures trading in

bullion began in Mumbai in 1920 and subsequently markets came up in other

centers like Rajkot, Jaipur, Jamnagar, Kanpur, Delhi and Kolkata.Calcutta Hessian

Exchange Ltd. was established in 1919 for futures trading in raw jute and jute

goods. But organized futures trading in raw jute began only in 1927 with the

establishment of East Indian Jute Association Ltd. These two associationsamalgamated in 1945 to form the East India Jute & Hessian Ltd. to conduct

organized trading in both raw jute and jute goods. Induce course several other

exchanges were also created in the country to trade in such diverse commodities


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as pepper, turmeric, potato, sugar and gur (jaggery).After independence, with the

subject of Stock Exchanges and futures markets' being brought under the Union

list, responsibility for regulation of commodity futures markets devolved on

Govt. of India. A Bill on forward contracts was referred to an expert committee

headed by Prof.A. D. Shroff and select committees of two successive

Parliaments and finally inDecember1952

Forward Contracts (Regulation) Act, 1952,

was enacted. The Act provided for 3-tier regulatory system:(a) An

association recognized by the Government of India on therecommendation of Forward Markets Commission,(b) The Forward

Markets Commission (it was set up in September 1953) and( c )

T h e C e n t r a l G o v e r n m e n t . Forward Contracts (Regulation) Rules

were notified by the Central Government in July, 1954. India was in an era of

physical controls since independence and the pursuance of a mixed economy set

up with socialist proclivities had ramifications on the operations of commodity

markets and commodity exchanges. Government intervention was in the form of

buffer stock operations, administered prices, regulation on trade and input prices,

restrictions on movement of goods, etc. Agricultural commodities were

associated with the poor and were governed by policy such as Minimum Price

Support and Government Procurement. Further, as production levels were lowand had not stabilized, there was the constant fear of misuse of these platforms

which could be manipulated to fix prices by creating artificial scarcities. This was

also a period which was associated with wars, natural calamites and disasters


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which invariably led to shortage sand price distortions. Hence, in an era of

uncertainty with potential volatility, the government banned futures trading in

commodities in the 1960s.The Khusro Committee which was constituted in June

1980 had recommended reintroduction of futures trading in most of the major

commodities, including cotton, kapas, raw jute and ju te goods and

sugges ted tha t s t eps may be t aken fo r in t roduc ing

fu tu res t rading in commodities, like potatoes, onions, etc. at appropriate

time. The government, accordingly initiated futures trading in Potato during the

latter half of 1980 in quite a few markets in Punjab and Uttar Pradesh .With thegradual trade and industry liberalization of the Indian economy

pursuant to the adoption of the economic reform package in 1991, GOI

constituted another committee on Forward Markets under the chairmanship of

Prof. K.N. Kabra. The Committee which submitted its report in September 1994

recommended that futures trading be introduced in the following commodities

: B a s m a t i R i c e

C o t t o n , K a p a s , R a w J u t e a n d J u t e G o o d s

Groundnut, rapeseed/mustard seed, cottonseed, sesame seed,

sunflower seed, safflower seed, copra and soybean and oils and oilcakes

R i c e b r a n o i l

C a s t o r o i l a n d i t s o i l c a k e L i n s e e d

S i l v e r

O n i o n s


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The committee also recommended that some of the existing commodity

exchanges particularly t h e o n e s i n p e p p e r a n d c a s t o r

s e e d , m a y b e u p g r a d e d t o t h e l e v e l o f

i n t e r n a t i o n a l futures markets.

Difference Between Commodity And Financial Derivatives:

The basic concept of a derivative contract remains the same whether

the underlying happens to be a commodity or a financial asset.

However, there are some features which are very peculiar to commodityderivative markets. In the case of financial derivatives, most of these

contracts are cash settled. Since financial assets are not bulky, they do

not need special facility for storage even in case of physical settlement.

On the other hand, due to the bulky nature of the underlying assets,

physical settlement in commodity derivatives creates the need

for warehousing. Similarly, the concept of varying quality of asset does

not really exist as far as financial under lying concerned. However, in

the case of commodities, the quality of the asset underlying a contract

can vary largely. This becomes an important issue to be managed. We

have a brief look at these issues.

Physical SettlementPhysical settlement involves the physical delivery of the underlying

commodity, typically at an accredited warehouse. The seller intending to

make delivery would have to take the commodities to the designated


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warehouse and the buyer intending to take delivery would have to go to

the designated warehouse and pick up the commodity. This may sound

simple, but the physical settlement of commodities is a complex

process. The issues faced in physical settlement are enormous. There

are limits on storage facilities in different states. There are restrictions on

interstate movement of commodities. Besides state level octroi and

duties have an impact on the cost of movement of goods across

locations. The process of taking physical delivery incommodities is quite

different from the process of taking physical delivery in financial assets.Delivery

The procedure for buyer and seller regarding the physical settlement for

different types of contracts is clearly specified by the Exchange.

The period available for the buyer to take physical delivery is

stipulated by the Exchange. Buyer or his authorized representative

in the presence of seller or his representative takes the physical stocks

against the delivery order .Proof of physical delivery having been

effected is forwarded by the seller to the clearing house and the invoice

amount is credited to the seller's account .The clearing house decides

on the delivery order rate at which delivery will be settled. Delivery rate

depends on the spot rate of the underlying adjusted for discount/premium for quality and freight costs. The discount/ premium for quality

and freight costs are published by the clearinghouse before introduction


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of the contract. The most active spot market is normally taken as the

benchmark for deciding spot prices.

Warehous ing

One of the main differences between financial and commodity

derivative is the need for warehousing. In case of most exchange-

traded financial derivatives, all the positions are cash settled. Cash

settlement involves paying up the difference in prices between the timethe contract was entered into and the time the contract was closed. For

instance, if a trader buy futures on a stock at Rs.100 and on the day of

expiration, the futures on that stock close atRs.120, he does not really

have to buy the underlying stock. All he does is take the difference of

Rs.20 in cash. Similarly, the person who sold this futures contract at

Rs.100 does not have to deliver the underlying stock. All he has to do is

pay up the loss of Rs.20 in cash .In case of commodity derivatives

however; there is a possibility of physical settlement. It means that if the

seller chooses to hand over the commodity instead of the difference in

cash, the buyer must take physical delivery of the underlying asset. This

requires the Exchange to make an arrangement withwarehouses to handle the settlements. The efficacy of

the commodities settlements depends on the warehousing system

available. Such warehouses have to perform the following functions:


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Earmark separate storage areas as specified by the

Exchange for storing commodities; Ensure proper

grading of commodities before they are stored; Store

commodities according to their grade specifications

and validity period; and Ensure that necessary steps

and precautions are taken to ensure that the quantity

and grade of commodity, as certified in the warehouse receipt, are

maintained during the storage period. This receipt can also be used as

collateral for financing .In India, NCDEX has accredited over 775delivery centers which meet the requirements for the physical holding of

goods that are to be delivered on the platform. As future trading is

delivery based, it is necessary to create the logistics support for the

same.

What are Futures

A contractual agreement, generally made on the trading floor

of a futures exchange, to buy or sell a particular commodity or

financial instrument at a pre-determined price in the future.

Futures contracts detail the quality and quantity of theunderlying asset; they are standardized to facilitate trading on

a futures exchange. Some futures contracts may call for

physical delivery of the asset, while others are settled in cash.


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Whatare Options

An option is a contract that gives the buyer the right, but not

the obligation, to buy or sell an underlying asset at a specificprice on or before a certain date. An option, just like a stock or

bond, is a security. It is also a binding contract with strictly

defined terms and properties.

Futures Vs Options

Derivatives are created form the underlying asset like stocks, bonds

and commodities. They are known to be the most complicated

instruments in the entire financial market. Some of the investors find

them right instruments for risk management, which increases

liquidity. However, they are extremely important and have hugeeffects on financial markets and the economy Derivatives are mainly

of two kinds, which are futures and options. There is a marked

difference between futures and options.

The meaning of futures is summarized as the contract made by two

different parties either to purchase or sell products at a future periodwhere the prices are pre-determined. The meaning of options is the

right without the obligation to purchase and sell underlining assets.

Call option stands for the right without obligation to only buy the


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underlining asset and the purchaser may refuse the contract prior to

its maturity. Put option means the opposite of call option.

The main fundamental difference between options and futureslies in the obligations they put on their buyers and sellers. An

option gives the buyer the right, but not the obligation to buy

(or sell) a certain asset at a specific price at any time during

the life of the contract. A futures contract gives the buyer

the obligation to purchase a specific asset, and the seller to

sell and deliver that asset at a specific future date, unless the

holder's position is closed prior to expiration.

Aside from commissions, an investor can enter into a futures

contract with no upfront cost whereas buying an options

position does require the payment of a premium. Compared tothe absence of upfont costs of futures, the option premium can

be seen as the fee paid for the privilege of not being obligated

to buy the underlying in the event of an adverse shift in prices.

The premium is the maximum that a purchaser of an option

can lose.

Another key difference between options and futures is the size

of the underlying position. Generally, the underlying position is

much larger for futures contracts, and the obligation to buy or


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sell this certain amount at a given price makes futures more

risky for the inexperienced investor.

The final major difference between these two financial

instruments is the way the gains are received by the parties.

The gain on a option can be realized in the following three

ways: exercising the option when it is deep in the money,

going to the market and taking the opposite position,

or waiting until expiry and collecting the difference between the

asset price and the strike price. In contrast, gains on futurespositions are automatically 'marked to market' daily, meaning

the change in the value of the positions is attributed to the

futures accounts of the parties at the end of every trading day -

but a futures contract holder can realize gains also by going to

the market and taking the opposite position.

The basic difference of futures and options is evident in the

obligation present between buyers and sellers. In the future contract,

both the parties are engaged in a contract with obligation to purchase

or sell the asset at a particular price on the day of settlement. This is

a risky proposition for both the parties. In case of the option contract,

the buyer has the right without any obligation to purchase or sell the

underlying asset. This is the peculiarity of the term option and the

price is paid at a premium. With this kind of trading, the purchasers


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risk becomes limited to the payment of premium but the prospective

profit is unlimited.

Swaps: In finance, a swap is a derivative in which counterpartiesexchange certain benefits of one party's financial instrument for

those of the other party's financial instrument. The benefits in

question depend on the type of financial instruments involved. For

example, in the case of a swap involving two bonds, the benefits in

question can be the periodic interest (or coupon) payments associated

with the bonds. Specifically, the two counterparties agree to

exchange one stream of cash flows against another stream. These

streams are called the legs of the swap. The swap agreement defines

the dates when the cash flows are to be paid and the way they are

calculated. Usually at the time when the contract is initiated at least

one of these series of cash flows is determined by a random oruncertain variable such as an interest rate, foreign exchange rate,

equity price or commodity price.

The first swaps were negotiated in the early 1980s.]David Swensen,

a Yale Ph.D. at Salomon Brothers, engineered the first swap

transaction according to "When Genius Failed: The Rise and Fall ofLong-Term Capital Management" by Roger Lowenstein. Today,

swaps are among the most heavily traded financial contracts in the

world: the total amount of interest rates and currency swaps


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outstanding is more thn $426.7 trillion in 2009, according to

International Swaps and Derivatives Association (ISDA).

Participants inderivatives

There are three types of traders in the Derivative market

namely:-

Hedgers: They are in the position where they face risk

associated with the price of an asset. They use derivatives to

reduce or eliminate risk. For example, a farmer may use

futures or options to establish the price for his crop long before

he harvests it. Various factors affect the supply and demand

for that crop, causing prices to rise and fall over the growing

season. The farmer can watch the prices discovered in tradingat the CBOT and, when they reflect the price he wants, will sell

futures contracts to assure him of a fixed price for his crop.

Speculators: Speculators wish to bet on the future movement

in the price of an asset. They use derivatives to get extra

leverage physical commodity take advantage.

Arbitrators: They are in the business to take advantage of a

discrepancy between prices in two different markets. If, for

example, they see the future prices of an asset getting out of line


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with the cash price, they will take offsetting positions in the two

markets to lock in a profit.

Speculators: Speculators wish to bet on the future movement in the

price of an asset. They use derivatives to get extra leverage. A

speculator will buy and sell in anticipation of future price

movements, but has no desire to actually own the physical

commodity.

Types ofOptions

There are two types of options; namely:

y Calloptions

y Putoptions

We shall discuss both these types of options. We are advised

to follow the thought, to understand the concept. The names

and the prices in the illustrations below are not in real time and

have only been used to help explain these options.

Call Options: The call options give the taker (or buyer) the

right, but not the obligation, to buy the underlying stocks (or

shares) at a predetermined price, on or before a determined

date.


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Illustration 1: Let's say Raj purchases 1lot Satyam Computer

(SATCOM) AUG 150 Call at a Premium of 8.

This contract allows Raj to buy 100 shares of SATCOM at INR150.00 per share at any time between the current date and the

end of August. For this privilege, Raj pays a fee of INR 800.00;

that is INR 8.00 a share for 100 shares.

The buyer of a "call" has purchased the right to buy and for

that he pays a premium.

Put Options: A Put Option gives the holder the right to sell a

specified number of shares of an underlying security at a fixed

price for a period of time.

Illustration : Let's say Raj purchases 1lot Infosys Technology

Aug 3500 Put - Premium 200.

This contract allows Raj to sell 100 shares of Infosys

Technology at INR 3,500.00 per share at any time between

the current date and the end of August. To have this privilege,

Raj pays a premium of INR 20,000.00 (that is INR 200.00 per

share for 100 shares). The buyer of a put has purchased a

right to sell.

Uses ofoptions contracts


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The advantage of using options, and for that matter all

derivatives, is due to the leverage that they provide. Leverage

provides the potential to make a higher return from a smaller

initial outlay than investing directly in the underlying asset.

1.Risk management

Options can be used very much like insurance to protect a

portfolio or to guard against extreme movement in a particular

stock. This is also referred to as hedging.

2.Buytime

If a market participant wants or needs to defer an investment,

they can buy the equivalent market exposure for a short period

of time.

3.Diversification

A portfolio can be diversified by different option strategies. If a

portfolio is overweight or underweight in a specific sector of

the market, a strategy may be considered to shift the risk

exposure of the portfolio.

Leaps: As with traditional short term options, LEAPS are available

in two forms, calls and puts.

Options were originally created with expiry cycles of 3, 6, and 9

months, with no option term lasting more than a year. Options of this


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form, for such terms, still constitute the vast majority of options

activity. LEAPS were created relatively recently and typically extend

for terms of 2 years out. Equity LEAPS always expire in January.

For example, if today were November 2005, one could buy a

Microsoft January call option that would expire in 2006, 2007, or

2008. (The further out the expiration date, the more expensive the

option.) The latter two are LEAPS.

When LEAPS were first introduced in 1990, they were derivative

instruments solely for equities; however, more recently, equivalent

instruments for indices have become available. These are also

referred to as LEAPS.

Economic Function ofDerivative Market

1. Prices in an organized derivatives market reflect the perception ofmarket

participants about the future and lead the prices of underlying to the

perceived future level. The prices of derivatives converge with the

prices often underlying at the expiration of the derivative contract.

Thus derivatives help in discovery of future as well as current prices.

2. The derivatives market helps to transfer risks from those who have

them but may not like them to those who have an appetite for them.


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3. Derivatives, due to their inherent nature, are linked to the

underlying cash markets. With the introduction of derivatives, the

underlying market witnesses higher trading volumes because of

participation by more players who would not otherwise participate

for lack of arrangement to transfer risk.

4. Speculative trades shift to a more controlled environment of

derivatives market. In the absence of an organized derivatives

market, speculators trade in the underlying cash markets. Margining,

monitoring and surveillance of the activities of various participants

become extremely difficult in these kind of mixed markets.

5. An important incidental benefit that flows from derivatives trading

is that it acts as a catalyst for new entrepreneurial activity. The

derivatives have a

history of attracting many bright, creative, well-educated people with

an entrepreneurial attitude. They often energize others to create new

businesses, new products and new employment opportunities, the

benefit of which are immense.

Derivatives Impact on countries EconomyAccording to survey

conducted in India regarding the sub brokers opinion on the

impact of derivatives market on financial market, the result

obtained is given as under.


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Derivative securities have penetrated the Indian stock market and it

emerged that investors are using these securities for different

purposes, namely, risk management, profit enhancement, speculation

and arbitrage. High net worth individuals and proprietary traders

account for a large proportion of broker turnover. Interestingly, some

retail participation was also witnessed despite the fact that these

securities are considered largely beyond the reach of retail investors

(because of complexity and relatively high initial investment). Based

on the survey results, the authors identified some important policyissues such as the need to bring in more institutional participation to

make the derivative market in India more efficient and to bring it in

line with the best practices. Further, there is a need to popularize

option instruments because they may prove to be a useful medium

for enhancing retail participation in the derivative market.

Indian & International Derivatives

1.Indian

In the decade of 1990s revolutionary changes took place in the

institutional infrastructure in Indias equity market. It has led to

wholly new ideas in market design that has come to dominate the

market. These new institutional arrangements, coupled with the

widespread knowledge and orientation towards equity investment

and speculation, have combined to provide an environment where the


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equity spot market is now Indias most sophisticated financial

market. One aspect of the sophistication of the equity market is seen

in the levels of market liquidity that are now visible. The market

impact cost of doing program trades of Rs.5 million at the NIFTY

index is around 0.2%. This state of liquidity on the equity spot

market does well for the market efficiency, which will be observed if

the index futures market when trading commences. Indias equity

spot market is dominated by a new practice called Futures Style

settlement or account period settlement. In its present scene, tradeson the largest stock exchange (NSE) are netted from Wednesday

morning till Tuesday evening, and only the net open position as of

Tuesday evening is settled. The future style settlement has proved to

be an ideal launching pad for the skills that are required for futures

trading.

Stock trading is widely prevalent in India; hence it seems easy to

think that derivatives based on individual securities could be very

important. The index is the counter piece of portfolio analysis in

modern financial economies. Index fluctuations affect all portfolios.

The index is much harder to manipulate. This is particularly

important given the weaknesses of Law Enforcement in India, which

have made numerous manipulative episodes possible. The market

capitalization of the NSE-50 index is Rs.2.6 trillion. This is six times

larger than the market capitalization of the largest stock and 500


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times larger than stocks such as Sterlite, BPL and Videocon. If

market manipulation is used to artificially obtain 10% move in the

price of a stock with a 10% weight in the NIFTY, this yields a 1% in

the NIFTY. Cash settlements, which are universally used with

index derivatives, also helps in terms of reducing the vulnerability to

market manipulation, in so far as the short-squeeze is not a

problem. Thus, index derivatives are inherently less vulnerable to

market manipulation.

A good index is a sound trade of between diversification and

liquidity. In India the traditional index- the BSE sensitive index

was created by a committee of stockbrokers in 1986. It predates a

modern understanding of issues in index construction and

recognition of the pivotal role of the market index in modern finance.

The flows of this index and the importance of the market index inmodern finance motivated the development of the NSE-50 index in

late 1995. Many mutual funds have now adopted the NIFTY as the

benchmark for their performance evaluation efforts. If the stock

derivatives have to come about, the restricted to the most liquid

stocks. Membership in the NSE-50 index appeared to be a fair test of

liquidity. The 50 stocks in the NIFTY are assuredly the most liquid

stocks in India.


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The choice of Futures vs. Options is often debated. The difference

between these instruments is smaller than, commonly imagined, for a

futures position is identical to an appropriately chosen long call and

short put position. Hence, futures position can always be created

once options exist. Individuals or firms can choose to employ

positions where their downside and exposure is capped by using

options. Risk management of the futures clearing is more complex

when options are in the picture. When portfolios contain options, the

calculation of initial price requires greater skill and more powerfulcomputers. The skills required for pricing options are greater than

those required in pricing futures.

Scope ofDerivatives in India

In India, all attempts are being made to introduce derivative

instruments in the capital market. The National Stock Exchange has

been planning to introduce index-based futures. A stiff net worth

criteria of Rs.7 to 10 corers cover is proposed for members who wish

to enroll for such trading. But, it has not yet received the necessary

permission from the securities and Exchange Board of India.

In the forex market, there are brighter chances of introducing

derivatives on a large scale. In fact, the necessary groundwork for the

introduction of derivatives in forex market was prepared by a high-

level expert committee appointed by the RBI. It was headed by Mr.


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O.P. Sodhani. Committees report was already submitted to the

Government in 1995. As it is, a few derivative products such as

interest rate swaps, coupon swaps, currency swaps and fixed rate

agreements are available on a limited scale. It is easier to introduce

derivatives in forex market because most of these products are OTC

products (Over-the-counter) and they are highly flexible. These are

always between two parties and one among them is always a

financial intermediary.

However, there should be proper legislations for the effective

implementation of derivative contracts. The utility of derivatives

through Hedging can be derived, only when, there is transparency

with honest dealings. The players in the derivative market should

have a sound financial base for dealing in derivative transactions.

What is more important for the success of derivatives is theprescription of proper capital adequacy norms, training of financial

intermediaries and the provision of well-established indices. Brokers

must also be trained in the intricacies of the derivative-transactions.

Now, derivatives have been introduced in the Indian Market in the

form of index options and index futures. Index options and indexfutures are basically derivate tools based on stock index. They are

really the risk management tools. Since derivates are permitted


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legally, one can use them to insulate his equity portfolio against the

vagaries of the market.

Every investor in the financial area is affected by index fluctuations.Hence, risk management using index derivatives is of far more

importance than risk management using individual security options.

Moreover, Portfolio risk is dominated by the market risk, regardless

of the composition of the portfolio. Hence, investors would be more

interested in using index-based derivative products rather than

security based derivative products.

There are no derivatives based on interest rates in India today.

However, Indian users of hedging services are allowed to buy

derivatives involving other currencies on foreign markets. India has a

strong dollar- rupee forward market with contracts being traded for

one to six month expiration.Daily trading volume on this forward

market is around $500 million a day. Hence, derivatives available in

India in foreign exchange area are also highly beneficial to the users.

International Derivatives

Futures exchanges, such as Euronext.liffe and the ChicagoMercantile Exchange, trade in standardized derivative contracts.

These are options contracts and futures contracts on a whole range

of underlying products. The members of the exchange hold


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positions in these contracts with the exchange, who acts as central

counterparty. When one party goes long (buys a futures contract),

another goes short (sells). When a new contract is introduced, the

total position in the contract is zero. Therefore, the sum of all the

long positions must be equal to the sum of all the short positions. In

other words, risk is transferred from one party to another. The total

notional amount of all the outstanding positions at the end of June

2004 stood at $53 trillion. (Source: Bank for International

Settlements That figure grew to $81 trillion by the end of March

2008

Netting

Global: OTC Derivatives Markets The notional outstanding value

of OTC derivatives contracts rose by 40% from $298 trillion at end-

2005 to $415 trillion at end-2006. Average daily global turnover rose

by two-thirds, from $1,508bn to $2,544bn between April 2004 and

April 2007. The UK remains the leading derivatives centre

worldwide, with its share of turnover stable at 43% in 2007. The US

is the only other major location with 24% of trading. Interest rate

instruments remain the key driver of trading, accounting for 88% of

UK turnover and 70% of global notional value. Derivatives based on

foreign-exchange contracts account for a further 10% of notional

value, with credit, equity-linked and commodity contracts also


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important. Energy, metal and freight derivatives have grown rapidly

in recent years. The euros share of interest rate derivatives turnover

worldwide has risen to 39% while the US dollar has fallen to 32%:

Pound sterling and yen also increased their market share over the

past three years. Trading is becoming more concentrated among the

largest banks, while other financial institutions such as hedge funds,

mutual funds, insurance companies and smaller banks have become

much bigger users of derivatives.

END OF CHAPTER NO.1


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CHAPTER NUMBER II


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OBJECTIVES AND METHODOLOGY

OBJECTIVES

To study the nature and structure of the derivatives market in

india.

To know the functionality of derivatives in IIFL(India Infoline

Limited).

To Study abou the derivatives.

To know about the Forwards and Futures.

To know about the Options.

To Evaluate the Trading of futures and options.

The main objective of this study on futures and options and their

pricing methodologies is to explain an investor about the derivatives

market and in details about and their pricing. Futures further consist

of stock futures and index futures, intrest rate futures and so on.

Options consist of stock options, index options etc.,

The pricing methodology explains each of the futures and options

through cost of carry model and black Scholars model strictly

speaking, the price discovery process respectively. An investor idea

whether to buy those instruments or sell those instruments.


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Derivatives have gained an increasing attention by academics and

practitioners in recent years. However, there is relatively little

evidence on the patterns of use and the property funds attitudes with

respect to derivatives. Therefore, this study seeks to address this

shortfall and aims to examine the usage of derivatives by property

funds in Australia. A survey of Australian property fund managers

was undertaken. The results show that different types of property

funds have dissimilar patterns of derivatives use. Besides, the results

also reveal that large property funds are more likely to usederivatives. The motivation factors and risk factors for using

derivatives are also identified. In addition, significant differences are

found between the perceptions of derivative users and non-users. The

findings have offered some insights into the knowledge base of

property investors towards derivatives.

COLLECTION OF DATA

The required data for analysis and study of derivatives is collected

from the primary sources and secondary sources. The primary data

is collected from the employees of IIFL. The primary data which is

collected from the employees is from their past experiences,especially the data which is collected from the employees who are in

the R&D . The Secondary data is collected from various books on


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Futures and Options, the data collected from internet, from various

journals published by stock exchanges in India and abroad.

SIGNIFICANCE

The topic is selected to analyze the depth of the capital market, in

derivatives segment. On which norms the stock exchanges list out

the companies in F&O segment by studying the fundamentals of the

company. Generally the stock exchanges will select the companies in

the list of F & O are fundamentally very strong companies only. Themain objective is to serve the investor to decide whether to invest in

the company to gain good returns.

Period ofStudy

The main aim of the study is to examine the changes in the trading

and dematerialization of securities in IIFL. The study of this project

is confined to two months. In first segment the data is collected from

primary and secondary sources then in the second phase the data is

analyzed and interpreted.

LIMITATIONS OF THE STUDY

The following are the identical limitations of the study. The time

period spend on the project is not sufficient to obtain the total


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information about the topic. The accuracy and transparency have

found at low degree in the working operations of the exchange.

Scope of the study:It includes

A brief study on F&O attempted.

A part of the derivatives has dealed in detailed

manner.

Index and stock options have been dealt in

focused way.

The other pricing models are analysed in brief

manner.

An attempt is made to dealt in all aspects in

detailed manner.

Chapterisation:The present study has been classified in to Six

chapters.

Chapter 1: Introduction

Chapter 2:Objectives and Methodology

Chapter 3: Stock broking (Industry)


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Chapter 4: Company Profile

Chapter 5: Analysis & Interpretation

Chapter 6: Findings and suggestions


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CHAPTER - 3


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INDUSTRY PROFILE

CAPITAL MARKETS

A capital market is a market for securities (debt or equity), where

business enterprises (companies) and governments can raise long-

term funds. It is defined as a market in which money is provided for

periods longer than a year, as the raising of short-term funds takes

place on other markets (e.g., the money market). The capital market

includes the stock market (equity securities) and the bond market

(debt). Financial regulators, such as the UK's Financial Services

Authority (FSA) or the U.S. Securities and Exchange Commission

(SEC), oversee the capital markets in their designated jurisdictions to

ensure that investors are protected against fraud, among other duties.

Capital markets may be classified as primary markets and secondary

markets. In primary markets, new stock or bond issues are sold to

investors via a mechanism known as underwriting. In the secondary

markets, existing securities are sold and bought among investors or

traders, usually on a securities exchange, over-the-counter, or

elsewhere.

I. PRIMARY MARKET


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The primary market is that part of the capital markets that deals

with the issuance of new securities. Companies, governments or

public sector institutions can obtain funding through the sale of a

new stock or bond issue. This is typically done through a syndicate

of securities dealers. The process of selling new issues to investors is

called underwriting. In the case of a new stock issue, this sale is an

initial public offering (IPO). Dealers earn a commission that is built

into the price of the security offering, though it can be found in the

prospectus. Primary markets creates long term instruments throughwhich corporate entities borrow from capital market.

Features of primary markets are:

y This is the market for new long term equity capital. The

primary market is the market where the securities are sold for

the first time. Therefore it is also called the new issue market

(NIM).

y In a primary issue, the securities are issued by the company

directly to investors.

y The company receives the money and issues new security

certificates to the investors.

y Primary issues are used by companies for the purpose of

setting up new business or for expanding or modernizing the

existing business.


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y The primary market performs the crucial function of

facilitating capital formation in the economy.

y The new issue market does not include certain other sources

of new long term external finance, such as loans from financial

institutions. Borrowers in the new issue market may be raising

capital for converting private capital into public capital; this is

known as "going public."

y The financial assets sold can only be redeemed by the original

holder.

Methods of issuing securities in the primary market are:

y Initial public offering;

y Rights issue (for existing companies);

y Preferential issue.

METHODS INPRIMARY MARKET

Any company before initial public offer, the respective company will

issue The PROSPECTUS. The prospectus is a document which

explains about the company. In finance, a prospectus is a legal

document that institutions and businesses use to describe the

securities they are offering for participants and buyers. A prospectus

commonly provides investors with material information about

mutual funds, stocks, bonds and other investments, such as a


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description of the company's business, financial statements,

biographies of officers and directors, detailed information about their

compensation, any litigation that is taking place, a list of material

properties and any other material information. In the context of an

individual securities offering, such as an initial public offering, a

prospectus is distributed by underwriters or brokerages to potential

investors.

A . Initial Public Offer means

1.An initial public offering (IPO), referred to simply as an"offering" or "flotation", is when a company (called the issuer)issues common stock or shares to the public for the first time.They are often issued by smaller, younger companies seekingcapital to expand, but can also be done by large privately ownedcompanies looking to become publicly traded.

2.In an IPO the issuer obtains the assistance of an underwriting

firm, which helps determine what type of security to issue(common or preferred), best offering price and time to bring itto market.

B. Rights Issue

A rights issue is an option that a company opts for to raise capital

under a seasoned equity offering of shares to raise money. The rights

issue is a special form of shelf offering or shelf registration. With the

issued rights, existing shareholders have the privilege to buy a

specified number of new shares from the firm at a specified price

within a specified time. A rights issue is in contrast to an initial


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public offering, where shares are issued to the general public through

market exchanges. Closed-end companies cannot retain earnings,

because they distribute essentially all of their realized income, and

capital gains each year. They raise additional capital by rights

offerings. Companies usually opt for a rights issue either when

having problems raising capital through traditional means or to avoid

interest charges on loans.

A rights issue is directly offered to all shareholders of record or

through broker dealers of record and may be exercised in full or

partially. Subscription rights may either be transferable, allowing the

subscription-rights holder to sell them privately, on the open market

or not at all. A right issuance to shareholders is generally issued as a

tax-free dividend on a ratio basis (e.g. a dividend of one subscription

right for one share of Common stock issued and outstanding).Because the company receives shareholders' money in exchange for

shares, a rights issue is a source of capital.

Considerations Before issue of Rights

Issue rights the financial manager has to consider:

y Engaging a Dealer-Manager or Broker Dealer to manage the

Offering processes

y Selling Group and broker dealer participation

y Subscription price per new share

y Number of new shares to be sold


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y The value of rights vs. trading price of the subscription rights

y The effect of rights on the value of the current share

y The effect of rights to shareholders of record and new

shareholders and rights holders

UNDERWRITING

Underwriting refers to the process that a large financial service

provider (bank, insurer, investment house) uses to assess the

eligibility of a customer to receive their products (equity capital,

insurance, mortgage, or credit). The name derives from the Lloyd's

ofLondon insurance market. Financial bankers, who would accept

some of the risk on a given venture (historically a sea voyage with

associated risks of shipwreck) in exchange for a premium, would

literally write their names under the risk information that was

written on a Lloyd's slip created for this purpose.

Mortgage

A mortgage loan is a loan secured by real property through the use

of a mortgage note which evidences the existence of the loan and the

encumbrance of that realty through the granting of a mortgage which

secures the loan. However, the word mortgage alone, in everyday

usage, is most often used to mean mortgage loan.

A home buyer or builder can obtain financing (a loan) either to

purchase or secure against the property from a financial institution,


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such as a bank, either directly or indirectly through intermediaries.

Features of mortgage loans such as the size of the loan, maturity of

the loan, interest rate, method of paying off the loan, and other

characteristics can vary considerably.

In many jurisdictions, though not all, it is normal for home

purchases to be funded by a mortgage loan. Few individuals have

enough savings or liquid funds to enable them to purchase property

outright. In countries where the demand for home ownership is

highest, strong domestic markets have developed.

II. SECONDARY MARKET

The secondary market, also called aftermarket, is the financial

market where previously issued securities and financial instruments

such as stock, bonds, options, and futures are bought and sold.Another frequent usage of "secondary market" is to refer to loans

which are sold by a mortgage bank to investors .

The term "secondary market" is also used to refer to the market for

any used goods or assets, or an alternative use for an existing product

or asset where the customer base is the second market (for example,corn has been traditionally used primarily for food production and

feedstock, but a "second" or "third" market has developed for use in

ethanol production).


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With primary issuances of securities or financial instruments, or the

primary market, investors purchase these securities directly from

issuers such as corporations issuing shares in an IPO or private

placement, or directly from the federal government in the case of

treasuries. After the initial issuance, investors can purchase from

other investors in the secondary market.

The secondary market for a variety of assets can vary from loans to

stocks, from fragmented to centralized, and from illiquid to very

liquid. The major stock exchanges are the most visible example of

liquid secondary markets - in this case, for stocks of publicly traded

companies. Exchanges such as the New York Stock Exchange,

Nasdaq and the American Stock Exchange provide a centralized,

liquid secondary market for the investors who own stocks that trade

on those exchanges. Most bonds and structured products trade overthe counter, or by phoning the bond desk of ones broker-dealer.

Loans sometimes trade online using a Loan Exchange.

WHAT IS A STOCKEXCHANGE

A stock exchange is an entity that provides services for stock

brokers and traders to trade stocks, bonds, and other securities. Stock

exchanges also provide facilities for issue and redemption of

securities and other financial instruments, and capital events

including the payment of income and dividends. Securities traded on


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a stock exchange include shares issued by companies, unit trusts,

derivatives, pooled investment products and bonds.

To be able to trade a security on a certain stock exchange, it must belisted there. Usually, there is a central location at least for record

keeping, but trade is increasingly less linked to such a physical place,

as modern markets are electronic networks, which gives them

advantages of increased speed and reduced cost of transactions.

Trade on an exchange is by members only.

The initial offering of stocks and bonds to investors is by definition

done in the primary market and subsequent trading is done in the

secondary market. A stock exchange is often the most important

component of a stock market. Supply and demand in stock markets is

driven by various factors that, as in all free markets, affect the price

of stocks.

There is usually no compulsion to issue stock via the stock exchange

itself, nor must stock be subsequently traded on the exchange. Such

trading is said to be offexchange or over-the-counter. This is the

usual way that derivatives andbonds are traded. Increasingly, stock

exchanges are part of a global market for securities.

What is meant by OTC or OffExchange


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Over-the-counter (OTC) or off-exchange trading is to trade

financial instruments such as stocks, bonds, commodities or

derivatives directly between two parties. It is contrasted with

exchange trading, which occurs via facilities constructed for the

purpose of trading (i.e., exchanges), such as futures exchanges or

stock exchanges.

The Stock Exchanges in INDIA

1. Bombay Stock Exchange(BSE)

2. National Stock Exchange(NSE)

The BSE

Bombay Stock Exchange is the oldest stock exchange in Asia

What is now popularly known as the BSE was established as"The Native Share & Stock Brokers' Association" in 1875.

Over the past 135 years, BSE has facilitated the growth of the

Indian corporate sector by providing it with an efficient capital

raising platform.

Today, BSE is the world's number 1 exchange in the world in

terms of the number of listed companies (over 4900). It is the

world's 5th most active in terms of number of transactions


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handled through its electronic trading system. And it is in the

top ten of global exchanges in terms of the market

capitalization of its listed companies (as of December 31,

2009). The companies listed on BSE command a total market

capitalization of USD Trillion 1.28 as of Feb, 2010.

BSE is the first exchange in India and the second in the world

to obtain an ISO 9001:2000 certification. It is also the first

Exchange in the country and second in the world to receiveInformation Security Management System Standard BS 7799-

2-2002 certification for its BSE On-Line trading System

(BOLT). Presently, we are ISO 27001:2005 certified, which is

a ISO version of BS 7799 for Information Security.

The BSE Index, SENSEX, is India's first and most popular

Stock Market benchmark index. Exchange traded funds (ETF)

on SENSEX, are listed on BSE and in Hong Kong. Futures

and options on the index are also traded at BSE.

BSE continues toinnovate:

y Became the first national exchange to launch its

website in Gujarati and Hindi and now Marathi


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y Purchased of Marketplace Technologies in 2009 to

enhance the in-house technology development

capabilities of the BSE and allow faster time-to-market

for new products

y Launched a reporting platform for corporate bonds

christened the ICDM or Indian Corporate Debt Market

y Acquired a 15% stake in United Stock Exchange (USE)

to drive the development and growth of the currency

and interest rate derivatives marketsy Launched 'BSE StAR MF' Mutual fund trading platform,

which enables exchange members to use its existing

infrastructure for transaction in MF schemes.

y BSE now offers AMFI Certification for Mutual Fund

Advisors through BSE Training Institute (BTI)

y Co-location facilities for Algorithmic trading

y BSE also successfully launched the BSE IPO index and

PSU website

y BSE revamped its website with wide range of new

features like 'Live streaming quotes for SENSEX

companies', 'Advanced Stock Reach', 'SENSEX View','Market Galaxy', and 'Members'

y Launched 'BSE SENSEX MOBILE STREAMER'


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The NSE

The National Stock Exchange of India Limited has

genesis in the report of the High Powered Study Groupon Establishment of New Stock Exchanges. It

recommended promotion of a National Stock Exchange

by financial institutions (FIs) to provide access to

investors from all across the country on an equal

footing. Based on the recommendations, NSE was

promoted by leading Financial Institutions at the

behest of the Government of India and wasincorporated in November 1992 as a tax-paying

company unlike other stock exchanges in the country.

The National Stock Exchange (NSE) operates a nation-

wide, electronic market, offering trading in Capital

Market, Derivatives Market and Currency Derivatives

segments including equities, equities basedderivatives, Currency futures and options, equity

based ETFs, Gold ETF and Retail Government

Securities. Today NSE network stretches to more than

1,500 locations in the country and supports more than

2, 30,000 terminals.

With more than 10 asset classes in offering, NSE has

taken many initiatives to strengthen the securities

industry and provides several new products like Mini

Nifty, Long Dated Options and Mutual Fund Service

System. Responding to market needs, NSE has


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introduced services like DMA, FIX capabilities, co-

location facility and mobile trading to cater to the

evolving need of the market and various categories of

market participants.

NSE has made its global presence felt with cross-

listing arrangements, including license agreements

covering benchmark indexes for U.S. and Indian

equities with CME Group and has also signed a

Memorandum of Understanding (MOU) with Singapore

Exchange (SGX) to cooperate in the development of amarket for India-linked products and services to be

listed on SGX. The two exchanges also will look into a

bilateral securities trading link to enable investors in

one country to seamlessly trade on the other countrys

exchange.

NSE is committed to operate a market ecosystem

which is transparent and at the same time offers high

levels of safety, integrity and corporate governance,

providing ever growing trading & investment

opportunities for investors.

Mission ofNSE

NSE's mission is setting the agenda for change in thesecurities markets in India. The NSE was set-up withthe main objectives of:


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y establishing a nation-wide trading facility forequities, debt instruments and hybrids,

y ensuring equal access to investors all over thecountry through an appropriate communicationnetwork,

y providing a fair, efficient and transparentsecurities market to investors using electronictrading systems,

y enabling shorter settlement cycles and book entrysettlements systems, and

y meeting the current international standards ofsecurities markets.

The standards set by NSE in terms of market practicesand technology have become industry benchmarksand are being emulated by other market participants.NSE is more than a mere market facilitator. It's thatforce which is guiding the industry towards newhorizons and greater opportunities.

Promoters

NSE has been promoted by leading financial

institutions, banks, insurance companies and other

financial intermediaries:

y Industrial Development Bank of India Limited

y Industrial Finance Corporation of India Limited

y Life Insurance Corporation of India

y State Bank of India

y ICICI Bank Limited

y IL & FS Trust Company Limited

y Stock Holding Corporation of India Limited


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y SBI Capital Markets Limited

y Bank of Baroda

y Canara Bank

y General Insurance Corporation of Indiay National Insurance Company Limited

y The New India Assurance Company Limited

y The Oriental Insurance Company Limited

y United India Insurance Company Limited

y Punjab National Bank

y Oriental Bank of Commerce

y Indian Banky Union Bank of India

y Infrastructure Development Finance Company Ltd.

Regulatory Authorities in Capital Markets

Securities Exchange Board of India(SEBI)

The Securities and Exchange Board of India Act, 1992 is

having retrospective effect and is deemed to have come into

force on January 30, 1992. Relatively a brief act containing 35

sections, the SEBI Act governs all the Stock Exchanges and

the Securities Transactions in India.

A Board by the name of the Securities and Exchange Board of

India (SEBI) was constituted under the SEBI Act to administer

its provisions. It consists of one Chairman and five members.


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One each from the department of Finance and Law of the

Central Government, one from the Reserve Bank of India and

two other persons and having its head office in Bombay and

regional offices in Delhi, Calcutta and Madras.

The Central Government reserves the right to terminate the

services of the Chairman or any member of the Board. The

Board decides questions in the meeting by majority vote withthe Chairman having a second or casting vote.

Section 11 of the SEBI Act provides that to protect the interest

of investors in securities and to promote the development of

and to regulate the securities market by such measures, it is

the duty of the Board. It has given power to the Board to

regulate the business in Stock Exchanges, register and

regulate the working of stock brokers, sub-brokers, share

transfer agents, bankers to an issue, trustees of trust deeds,

registrars to an issue, merchant bankers, underwriters,

portfolio managers, investment advisers, etc., also to registerand regulate the working of collective investment schemes

including mutual funds, to prohibit fraudulent and unfair trade

practices and insider trading, to regulate takeovers, to conduct


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enquiries and audits of the stock exchanges, etc.

All the stock brokers, sub-brokers, share transfer agents,

bankers to an issue, trustees of trust deed, registrars to an

issue, merchant bankers, underwriters, portfolio managers,

investment advisers and such other intermediary who may be

associated with the Securities Markets are to register with the

Board under the provisions of the Act, under Section 12 of the

Sebi Act. The Board has the power to suspend or cancel suchregistration. The Board is bound by the directions vested by

the Central Government from time to time on questions of

policy and the Central Government reserves the right to

supersede the Board. The Board is also obliged to submit a

report to the Central Government each year, giving true and

full account of its activities, policies and programmers. Any

one of the aggrieved by the Board's decision is entitled to

appeal to the Central Government.


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CHAPTER - 4


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COMPANY PROFILE

The IIFL (India Infoline) group, comprising the holding

company, India Infoline Ltd (NSE: INDIAINFO, BSE: 532636)

and its subsidiaries, is one of the leading players in the Indian

financial services space. IIFL offers advice and execution

platform for the entire range of financial services covering

products ranging from Equities and derivatives, Commodities,

Wealth management, Asset management, Insurance, Fixed

deposits, Loans, Investment Banking, GoI bonds and other

small savings instruments. IIFL recently received an in-principle

approval for Securities Trading and Clearing memberships fromSingapore Exchange (SGX) paving the way for IIFL to become

the first Indian brokerage to get a membership of the SGX. IIFL

also received membership of the Colombo Stock Exchange

becoming the first foreign broker to enter Sri Lanka. IIFL owns

and manages the website, www.indiainfoline.com, which is one

of Indias leading online destinations for personal finance, stock

markets, economy and business.IIFL has been awarded the Best Broker, India by Finance Asia

and the Most improved brokerage, India in the Asia Money

polls. India Infoline was also adjudged as Fastest Growing

Equity Broking House - Large firms by Dun & Bradstreet. A

forerunner in the field of equity research, IIFLs research is

acknowledged by none other than Forbes as Best of the Web

and a must read for investors in Asia. Our research isavailable not just over the Internet but also on international wire

services like Bloomberg, Thomson First Call and Internet

Securities where it is amongst one of the most read Indian

brokers.


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A network of over 2,500 business locations spread over more

than 500 cities and towns across India facilitates the smooth

acquisition and servicing of a large customer base. All our

offices are connected with the corporate office in Mumbai withcutting edge networking technology. The group caters to a

customer base of about a million customers, over a variety of

mediums viz. online, over the phone and at our branches.

Achievements

1995

y Commenced operations as an Equity Research firm

1997

y Launched research products of leading Indian companies,key sectors and the economy

y Client included leading FIIs, banks and companies

1999

y Launched www.indiainfoline.com

2000

y Launched online trading through www.5paisa.comy Started distribution of life insurance and mutual fund

2003

y Launched proprietary trading platform Trader Terminal forretail customers

2004


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y Acquired commodities broking licensey Launched Portfolio Management Service

2005

y Maiden IPO and listed on NSE, BSE

2006

y Acquired membership of DGCXy Commenced the lending business

2007

y Commenced institutional equities business under IIFLy Formed Singapore subsidiary, IIFL (Asia) Pte Ltd

2008

y Launched IIFL Wealthy Transitioned to insurance broking model

2009

y Acquired registration for Housing Financey SEBI in-principle approval for Mutual Fundy Obtained Venture Capital license

2010

y Received in-principle approval for membership of theSingapore Stock Exchange

y Received membership of the Colombo Stock Exchange

Services

y Broking in Equities and derivatives in NSE & BSE

y Depository services


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y Commodities trading on MCX & NCDEX

y IPO Services

y Portfolio management services

Competitors

The following listed companies are the competetors of IIFL

ICICI Web trade

Share Khan

India Bulls

Stock Holding Corporation of India

UTI Securities

Karvy Brokerage Limited

HDFC Securities

Fortis., etc


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CHAPTER- 5


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DATA ANALYSIS AND INTERPRETATION

In derivatives market the contracts are begun in the first day of

the month and ends on the last Thursday of the month. Now we

are going to study and analyze the key companies in four

segments( i.e .Oil, Banking, Auto, IT) The companies come

under the category of the above segments respectively

1)Reliance Industries

2)State Bank of India

3)Tata Motors

4)Infosys Technologies

The Following are the graphs of last five years price movement

of the respective shares and the volume of trades in derivative

segment for the last five years is as under

The analysis ofSBI is as under

The Lot size ofSBI is :125 shares/lot


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Weightin sensex : 5.30 points

Before we are going to study the banking sector, the following

factors which will make a big impact on the movement of share

prices of banking and financial sector.

1. Policies of RBI

2. Interest rates of small and medium term loans

3. Agricultural Loans

4. CRR Ratios5. Timely rules and regulations imposed by FERA

& FEMA on banking and financial sector.

6. Central govt rules and regulations on banking

and financial sector.

The following is the last five years share price movement of

SBI is as under


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From the above graph it is understood that the share price is

increased 1.5 times than the price in 2006-07, now the market

is grown abnormally in 2009-10 financial year, the market is

collapsed in the year 2007-08 in this year internationally the

stock markets are in declining trend, because of the LAYMAN

BROTHERS of AMERICA puts the insolvency petitionto the

House of Lords it causes the instability in the international

market, at that movement, the put option contracts and call

option contracts are under taken in case of SBI volumes of puts

and calls are shown graphically as under.

0

500

1000

1500

2000

2500

3000

3500

4000

puts(Lakhs)

calls(In Lakhs)

Column1


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From the above it is clear that the put options are going steadily

From the financial year 2006-2009 because of market in

stabilityThe market is under gone bullish rally the puts and calls

in the finanancial year 2009-10 almost equally, but the calls willbe very high because of rally, at this moment the contracted of

puts will have to charge high premium simultaneously the call

option holder will get good profits in by paying less premium.

2.Reliance Industries

Lot Size is : 250 shares/lot

Weightage in sensex :12.05 points

0

5

10

15

20

25

30

2005-06 2006-07 2007-08 2008-09 2009-10 2010-11

share price

Calls(Lakhs)

Column1


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The table which shows the prices of the reliance industries for

the last five years is as under

.

Financial year Yearly high Yearly low

2005-06 680.13 418.5

2006-07 1548.45 668.26

2007-08 1337.00 622.9

2008-09 1149.85 831.08

2009-10 1100 961.3

2010-11 989 968.00


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From the above it is clear that the movement of share price of

reliance is industries is not bullish or bearish, it is in average

trend. Generally the volume of trades are under taken in

sensex/nifty scripts and almost in A group selective scripts.

The rating is very high in case of reliance industries because of

its strong fundamentals and volume in trading . in derivatives

segment the scripts fundamentals are very strong. From the

0

200

400

600

800

1000

1200

1400

1600

1800

share price

Column1

Column2


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above graph it is clear that it is very good script for derivatives,

both for puts and call options. The risk factor in reliance

industries is very low, it is a very good script for both the parties

in options and futures segment.

The following graph which shows the movement of volume of

contracts in reliance industries in puts and calls in options

segment.


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From the above graph it is clear that we understood that the

puts and calls are almost equal in case of reliance industries

according to the price movement of the script. In case of State

bank of India the call options volume is very high at the time of

rally in the market, in case of market correction the volume of

contracts in puts is very high. However the volume is even in

case if reliance industries even in case of rally and correction in

0

10

20

30

40

50

60

70

80

90

2005-06 2006-07 2007-08 2008-09 2009-10 2010-11

Call(Lakhs)

Puts(Lakhs)

Column1

A Study on Capital Market Derivatives In

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