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“FINANCIAL DERIVATIVE”<br />A STUDY WITH SPECIAL REFERENCE TO<br />INDIA INFOLINE<br />                                <br />                                        <br />VISAKHAPATNAM<br />A Project report submitted in partial fulfillment of the requirement for the award of Post Graduation Diploma in Business Management (PGDBM)<br />By<br />LATHA SETHY<br />Enrollment No.23081<br />Under the esteemed guidance of<br />                                              RAVI ADITYA <br />Assistant Professor<br />192659094615<br />INTEGRAL INSTITUTE OF ADVANCED MANAGEMENT<br />Recognized by AICTE, Ministry of HRD New Delhi<br />M.V.P COLONY, VISAKHAPATANAM-530017<br />2009-2011<br />                         <br />                            CERTIFICATE<br />This is to certify that Miss LATHA SETHY student of PGDBM of IIAM Visakhapatnam, during the academic year 2009-11has undergone a study on “DERIVATIVES” with reference to India Infoline, Visakhapatnam, AP, under my guidance and supervision and had fulfilled the requirement concerning the project work.<br />PLACE: VISAKHAPATNAM                                   RAVI ADITYA<br />DATE:<br />              PROJECT GUIDE                                    <br />                                      DECLARATION<br />I Latha Sethy hereby declare that the Project title “a study on DERIVATIVES” with reference to IndiaInfoline, Visakhapatnam, AP, has been prepared by me during the period May-June, 2010 and submitted to IIAM Visakhapatnam in partial fulfillment for the award of degree of post graduation diploma in business management.<br />I also declare that this project work is the result of my sincere work and that it has not been submitted to any other university or institute earlier. <br />              LATHA SETHY<br />                              ACKNOWLEDGEMENT<br />I hereby express my sincere thanks to the Prof. B.Parvatiswar Rao MBA, PhD. Director, IIAM College who had provided direct and indirect support and helping the execution of the study and preparation of the report.<br />I express my profound gratitude to the project guide Assistant Professor RAVI ADITYA for his constant encouragement and guidance for successful completion of the project work.<br />I am very grateful to Mr. Suresh branch manager in India Infoline Visakhapatnam, AP who has given his valuable suggestions in completion of this project and helped me throughout my project work. <br />  LATHA SETHY<br />,[object Object],CHAPTER- I<br />    INTRODUCTION<br />                     Research methodology<br />                     Need of study<br />                     Objectives of study<br />                     Limitation<br /> <br />RESERCH METHODOLOGY                                                                                                                                                              <br />According to Clifford woody research comprises defining and redefining problems, Formulating hypothesis or suggested solutions; collecting, organizing, and evaluating data; making deducting and reaching conclusions; and at last carefully testing the conclusions to determine whether they fit the formulating hypothesis. Research is an academic activity and as such the term should the term should be used in a technical sense.<br />METHOD OF STUDY<br />In dealing with any real life problem it is often found that data at hand are inadequate and hence it becomes necessary to collect data that are appropriate.   There are several ways of collecting the appropriate data which Considerably in context of money costs, time and other resources at the disposal of the researcher <br /> The main methods used to study for the primary data are,<br />           ●Survey method<br />           ● Observational method<br />Survey  method: involving of personal,  telephonic  and  mail  interviews  are Very  effective to   explain the  present  working  of  the  bank.  I got different   types of data   from each and every individual. My research report is been formed on the basis of the information from the bank as well as from the outside.<br />Observational method involving of direct, restrictive, mystery shopping etc… is very much useful for a researcher to do a real study of the picture. Here I used direct as well as mystery shopping to know about the performance of the Bank.  For the reference and base I need to refer some secondary data’s. for that I made the use of , <br />                                ● Bank report                                 <br />                                ● Journals<br />                                ● Magazines<br />                                ● Website<br />                                ● Annual reports<br />The various techniques used for the study are <br />                                ● Attitude test  <br />                                ●Projective techniques<br />                                ● Linker scale                                <br />SOURCES OF DATA <br />    In dealing with any real life problem it is often found that data at hand are hand inadequate, and hence it becomes necessary to collect data are appropriate. There are several ways of collecting the appropriate data which considerable in context of many costs, time and other resources at the disposal of the research<br />There are two source of collecting data a) internal source and b) external source. Internal source of collecting data is a collecting of data from the concerned company. External source of data is collecting from the market. This can be again divided into Primary data and secondary data. <br />The researcher has selected both the internal and external source of data for the study. Data for any research can be obtained through primary and secondary sources. But for the conducted study the researcher fully depend on secondary data.    <br />Secondary data sources <br />                                    ● Direct observation<br />                                     ● Personal interviews<br />                                     ● Bank publications<br />                                     ● Journals<br />                                     ● Magazines<br />                                     ● Website<br />,[object Object],  <br />Interview <br /> Interview is a direct method of collecting of data. It is a verbal method of securing data in the field of study. The researcher conducted formal and informal interview and discussions with different managers and officials. <br />  Observation <br />This method implies the collection of information by way of researcher’s own observation. The information obtained relates to what is currently happening in the share market.<br /> Published sources<br />Data is also collected from published sources like company profile, company journal, leaflet, internet, etc.<br />NEED OF THE STUDY<br />The Study is limited to “Derivatives” with special reference to futures and Option in the Indian context and the Inter-Connected Stock Exchange have been Taken as a representative sample for the study.  The study can’t be said as totally perfect.  Any alteration may come.  The study has only made a humble Attempt at evaluation derivatives market only in India context.  The study is not based on the international perspective of derivatives markets, which exists in NASDAQ, CBOT etc.<br />OBJECTIVES OF THE STUDY<br />,[object Object]
To know different types of Financial Derivatives.
To know the role of derivatives trading in India.
To analyze the performance of Derivatives Trading since 2001with special reference to Futures & Options.
To know the investors perception towards investment in derivative market.LIMITATION<br />,[object Object]
The constraint of global derivatives data
The study has been conducted within a limited period of time
The study has been conducted from a particular location        CHAPTER II<br />INDUSRY PROFILE <br />               AND<br />COMPANY PROFILE<br />INTRODUCTIONIn general, the financial market divided into two parts, Money market and capital market. Securities market is an important, organized capital market where transaction of capital is facilitated by means of direct financing using securities as a commodity. Securities market can be divided into a primary market and secondary market. PRIMARY MARKET The primary market is an intermittent and discrete market where the initially listed shares are traded first time, changing hands from the listed company to the investors. It refers to the process through which the companies, the issuers of stocks, acquire capital by offering their stocks to investors who supply the capital. In other words 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 called 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.SECONDARY MARKET  The secondary market is an on-going market, which is equipped and organized with a place, facilities and other resources required for trading securities after their initial offering. It refers to a specific place where securities transaction among many and unspecified persons is carried out through intermediation of the securities firms, i.e., a licensed broker, and the exchanges, a specialized trading organization, in accordance with the rules and regulations established by the exchanges. A bit about history of stock exchange they say it was under a tree that it all started in 1875.Bombay Stock Exchange (BSE) was the major exchange in India till 1994.National Stock Exchange (NSE) started operations in 1994. NSE was floated by major banks and financial institutions. It came as a result of Harshad Mehta scam of 1992. Contrary to popular belief the scam was more of a banking scam than a stock market scam. The old methods of trading in BSE were people assembling on what as called a ring in the BSE building. They had a unique sign language to communicate apart from all the shouting. Investors weren't allowed access and the system was opaque and misused by brokers. The shares were in physical form and prone to duplication and fraud. NSE was the first to introduce electronic screen based trading. BSE was forced to follow suit. The present day trading platform is transparent and gives investors prices on a real time basis. With the introduction of depository and mandatory dematerialization of shares chances of fraud reduced further. The trading screen gives you top 5 buy and sell quotes on every scrip. A typical trading day starts at 10 ending at 3.30. Monday to Friday. BSE has 30 stocks which make up the Sensex .NSE has 50 stocks in its index called Nifty. FII s Banks, financial institutions mutual funds are biggest players in the market. Then there are the retail investors and speculators. The last ones are the ones who follow the market morning to evening; Market can be very addictive like blogging though stakes are higher in the former. ORIGIN OF INDIAN STOCK MARKET The origin of the stock market in India goes back to the end of the eighteenth century when long-term negotiable securities were first issued. However, for all practical purposes, the real beginning occurred in the middle of the nineteenth century after the enactment of the companies Act in 1850, which introduced the features of limited liability and generated investor interest in corporate securities. An important early event in the development of the stock market in India was the formation of the native share and stock brokers 'Association at Bombay in 1875, the precursor of the present day Bombay Stock Exchange. This was followed by the formation of associations/exchanges in Ahmadabad (1894), Calcutta (1908), and Madras (1937). In addition, a large number of ephemeral exchanges emerged mainly in buoyant periods to recede into oblivion during depressing times subsequently. Stock exchanges are intricacy inter-woven in the fabric of a nation's economic life. Without a stock exchange, the saving of the community- the sinews of economic progress and productive efficiency- would remain underutilized. The task of mobilization and allocation of savings could be attempted in the old days by a much less specialized institution than the stock exchanges. But as business and industry expanded and the economy assumed more complex nature, the need for 'permanent finance' arose. Entrepreneurs needed money for long term whereas investors demanded liquidity – the facility to convert their investment into cash at any given time. The answer was a ready market for investments and this was how the stock exchange came into being. Stock exchange means anybody of individuals, whether incorporated or not, constituted for the purpose of regulating or controlling the business of buying, selling or dealing in securities. These securities include:(i) Shares, scrip, stocks, bonds, debentures stock or other marketable securities of a like nature in or of any incorporated company or other body corporate;(ii) Government securities; and(iii) Rights or interest in securities. The Bombay Stock Exchange (BSE) and the National Stock Exchange of India Ltd (NSE) are the two primary exchanges in India. In addition, there are 22 Regional Stock Exchanges. However, the BSE and NSE have established themselves as the two leading exchanges and account for about 80 per cent of the equity volume traded in India. The NSE and BSE are equal in size in terms of daily traded volume. The average daily turnover at the exchanges has increased from Rs 851 crore in 1997-98 to Rs 1,284 crore in 1998-99 and further to Rs 2,273 crore in 1999-2000 (April - August 1999). NSE has around 1500 shares listed with a total market capitalization of around Rs 9, 21,500 crore. The BSE has over 6000 stocks listed and has a market capitalization of around Rs 9, 68,000 crore. Most key stocks are traded on both the exchanges and hence the investor could buy them on either exchange. Both exchanges have a different settlement cycle, which allows investors to shift their positions on the bourses. The primary index of BSE is BSE Sensex comprising 30 stocks. NSE has the S&P NSE 50 Index (Nifty) which consists of fifty stocks. The BSE Sensex is the older and more widely followed index. Both these indices are calculated on the basis of market capitalization and contain the heavily traded shares from key sectors. The markets are closed on Saturdays and Sundays. Both the exchanges have switched over from the open outcry trading system to a fully automated computerized mode of trading known as BOLT (BSE on Line Trading) and NEAT (National Exchange Automated Trading) System. It facilitates more efficient processing, automatic order matching, faster execution of trades and transparency; the scrip's traded on the BSE have been classified into 'A', 'B1', 'B2', 'C', 'F' and 'Z' groups. The 'A' group shares represent those, which are in the carry forward system (Badla). The 'F' group represents the debt market (fixed income securities) segment. The 'Z' group scrip's are the blacklisted companies. The 'C' group covers the odd lot securities in 'A', 'B1' & 'B2' groups and Rights renunciations. The key regulator governing Stock Exchanges, Brokers, Depositories, Depository participants, Mutual Funds, FIIs and other participants in Indian secondary and primary market is the Securities and Exchange Board of India (SEBI) Ltd. Brief History of Stock Exchanges               Do you know that the world's foremost marketplace New York Stock Exchange (NYSE), started its trading under a tree (now known as 68 Wall Street) over 200 years ago? Similarly, India's premier stock exchange Bombay Stock Exchange (BSE) can also trace back its origin to as far as 125 years when it started as a voluntary non-profit making association. News on the stock market appears in different media every day. You hear about it any time it reaches a new high or a new low, and you also hear about it daily in statements like 'The BSE Sensitive Index rose 5% today'. Obviously, stocks and stock markets are important. Stocks of public limited companies are bought and sold at a stock exchange. But what really are stock exchanges? Known also as the stock market or bourse, a stock exchange is an organized marketplace for securities (like stocks, bonds, options) featured by the centralization of supply and demand for the transaction of orders by member brokers, for institutional and individual investors.The exchange makes buying and selling easy. For example, you don't have to actually go to a stock exchange, say, BSE - you can contact a broker, who does business with the BSE, and he or she will buy or sell your stock on your behalf. Market Basics Electronic trading Electronic trading eliminates the need for physical trading floors. Brokers can trade from their offices, using fully automated screen-based processes. Their workstations are connected to a Stock Exchange's central computer via satellite using Very Small Aperture Terminus (VSATs). The orders placed by brokers reach the Exchange's central computer and are matched electronically. Exchanges in India The Stock Exchange, Mumbai (BSE) and the National Stock Exchange (NSE) are the country's two leading Exchanges. There are 20 other regional Exchanges, connected via the Inter-Connected Stock Exchange (ICSE). The BSE and NSE allow nationwide trading via their VSAT systems. Index An Index is a comprehensive measure of market trends, intended for investors who are concerned with general stock market price movements. An Index comprises stocks that have large liquidity and market capitalization. Each stock is given a weight age in the Index equivalent to its market capitalization. At the NSE, the capitalization of NIFTY (fifty selected stocks) is taken as a base capitalization, with the value set at 1000. Similarly, BSE Sensitive Index or Sensex comprises 30 selected stocks. The Index value compares the day's market capitalization vis-à-vis base capitalization and indicates how prices in general have moved over a period of time. Execute an order Select a broker of your choice and enter into a broker-client agreement and fill in the client registration form. Place your order with your broker preferably in writing. Get a trade confirmation slip on the day the trade is executed and ask for the contract note at the end of the trade date. Need a broker As per SEBI (Securities and Exchange Board of India.) regulations, only registered members can operate in the stock market. One can trade by executing a deal only through a registered broker of a recognized Stock Exchange or through a SEBI-registered sub-broker. Contract note A contract note describes the rate, date, time at which the trade was transacted and the brokerage rate. A contract note issued in the prescribed format establishes a legally enforceable relationship between the client and the member in respect of trades stated in the contract note. These are made in duplicate and the member and the client both keep a copy each. A client should receive the contract note within 24 hours of the executed trade. Corporate Benefits/Action. Split A Split is book entry wherein the face value of the share is altered to create a greater number of shares outstanding without calling for fresh capital or altering the share capital account. For example, if a company announces a two-way split, it means that a share of the face value of Rs 10 is split into two shares of face value of Rs 5 each and a person holding one share now holds two shares. Buy Back As the name suggests, it is a process by which a company can buy back its shares from shareholders. A company may buy back its shares in various ways: from existing shareholders on a proportionate basis; through a tender offer from open market; through a book-building process; from the Stock Exchange; or from odd lot holders. A company cannot buy back through negotiated deals on or off the Stock Exchange, through spot transactions or through any private arrangement. Settlement cycle The accounting period for the securities traded on the Exchange. On the NSE, the cycle begins on Wednesday and ends on the following Tuesday, and on the BSE the cycle commences on Monday and ends on Friday. At the end of this period, the obligations of each broker are calculated and the brokers settle their respective obligations as per the rules, bye-laws and regulations of the Clearing Corporation. If a transaction is entered on the first day of the settlement, the same will be settled on the eighth working day excluding the day of transaction. However, if the same is done on the last day of the settlement, it will be settled on the fourth working day excluding the day of transaction. Rolling settlement            The rolling settlement ensures that each day's trade is settled by keeping a fixed gap of a specified number of working days between a trade and its settlement. At present, this gap is five working days after the trading day. The waiting period is uniform for all trades. In a Rolling Settlement, all trades outstanding at end of the day have to be settled, which means that the buyer has to make payments for securities purchased and seller has to deliver the securities sold. In India, we have adopted the T+5 settlement cycle, which means that a transaction entered into on Day 1 has to be settled on the Day 1 + 5 working days, when funds pay in or securities pay out takes place.  The Advantages Of Rolling Settlements        As mentioned earlier, this is the system practiced in developed countries. Pay outs are quicker than in weekly settlements, and investors will benefit from increased liquidity. The other benefit of the modified system is that it keeps cash and forward markets separate. In the current system, the trader has five days to square off his transaction which leads to a high level of speculation as people even without funds tend to quot;
playquot;
 the market. During volatile markets, especially in a bearish market, this often leads to a payment problem which has dogged the Indian stock exchanges for a long time. It provides for a higher degree of safety, and once mechanisms such as futures and stock-lending become popular, it would result in quality speculation and genuine investor interest. When does one deliver the shares and pay the money to broker As a seller, in order to ensure smooth settlement you should deliver the shares to your broker immediately after getting the contract note for sale but in any case before the pay-in day. Similarly, as a buyer, one should pay immediately on the receipt of the contract note for purchase but in any case before the pay-in day. Short selling Short selling is a legitimate trading strategy. It is a sale of a security that the seller does not own, or any sale that is completed by the delivery of a security borrowed by the seller. Short sellers take the risk that they will be able to buy the stock at a more favorable price than the price at which they quot;
sold short.quot;
 The selling of a security that the seller does not own, or any sale that is completed by the delivery of a security borrowed by the seller, Short sellers assume that they will be able to buy the stock at a lower amount than the price at which they sold short. Auction An auction is conducted for those securities that members fail to deliver/short deliver during pay-in. Three factors primarily give rise to an auction: short deliveries, un-rectified bad deliveries, and un-rectified company objections Separate market for auctions The buy/sell auction for a capital market security is managed through the auction market. As opposed to the normal market where trade matching is an on-going process, the trade matching process for auction starts after the auction period is over. If the shares are not bought in the auction If the shares are not bought at the auction i.e. if the shares are not offered for sale, the Exchange squares up the transaction as per SEBI guidelines. The transaction is squared up at the highest price from the relevant trading period till the auction day or at 20 per cent above the last available Closing price whichever is higher. The pay-in and pay-out of funds for auction square up is held along with the pay-out for the relevant auction. Bad Delivery SEBI has formulated uniform guidelines for good and bad delivery of documents. Bad delivery may pertain to a transfer deed being torn, mutilated, overwritten, defaced, or if there are spelling mistakes in the name of the company or the transfer. Bad delivery exists only when shares are transferred physically. In quot;
Dematquot;
 bad delivery does not exist. STOCK AND EXCHANGE BOARD OF INDIA Regulation of business in the stock exchangeUnder the SEBI Act, 1992, the SEBI has been empowered to conduct inspection of stock exchanges. The SEBI has been inspecting the stock exchanges once every year since 1995-96. During these inspections, a review of the market operations, organizational structure and administrative control of the exchange is made to ascertain whether: the exchange provides a fair, equitable and growing market to investors the exchange's organization, systems and practices are in accordance with the Securities Contracts (Regulation) Act (SC(R) Act), 1956 and rules framed there under the exchange has implemented the directions, guidelines and instructions issued by the SEBI from time to time The exchange has complied with the conditions, if any, imposed on it at the time of renewal/ grant of its recognition under section 4 of the SC(R) Act, 1956. During the year 1997-98, inspection of stock exchanges was carried out with a special focus on the measures taken by the stock exchanges for investor's protection. Stock exchanges were, through inspection reports, advised to effectively follow-up and redress the investors' complaints against members/listed companies. The stock exchanges were also advised to expedite the disposal of arbitration cases within four months from the date of filing. During the earlier years' inspections, common deficiencies observed in the functioning of the exchanges were delays in post trading settlement, frequent clubbing of settlements, delay in conducting auctions, inadequate monitoring of payment of margins by brokers, non-adherence to Capital Adequacy Norms etc. It was observed during the inspections conducted in 1997-98 that there has been considerable improvement in most of the areas, especially in trading, settlement, collection of margins etc. Dematerialization Dematerialization in short called as 'Demat' is the process by which an investor can get physical certificates converted into electronic form maintained in an account with the Depository Participant. The investors can dematerialize only those share certificates that are already registered in their name and belong to the list of securities admitted for dematerialization at the depositories. Depository: The organization responsible to maintain investor's securities in the electronic form is called the depository. In other words, a depository can therefore be conceived of as a quot;
Bankquot;
 for securities. In India there are two such organizations viz. NSDL and CDSL. The depository concept is similar to the Banking system with the exception that banks handle funds whereas a depository handles securities of the investors. An investor wishing to utilize the services offered by a depository has to open an account with the depository through Depository Participant. Depository Participant: The market intermediary through whom the depository services can be availed by the investors is called a Depository Participant (DP). As per SEBI regulations, DP could be organizations involved in the business of providing financial services like banks, brokers, custodians and financial institutions. This system of using the existing distribution channel (mainly constituting DPs) helps the depository to reach a wide cross section of investors spread across a large geographical area at a minimum cost. The admission of the DPs involves a detailed evaluation by the depository of their capability to meet with the strict service standards and a further evaluation and approval from SEBI. Realizing the potential, all the custodians in India and a number of banks, financial institutions and major brokers have already joined as DPs to provide services in a number of cities. Advantages of a depository services:          Trading in Demat segment completely eliminates the risk of bad deliveries. In case of transfer of electronic shares, you save 0.5% in stamp duty. Avoids the cost of courier/ notarization/ the need for further follow-up with your broker for shares returned for company objection No loss of certificates in transit and saves substantial expenses involved in obtaining duplicate certificates, when the original share certificates become mutilated or misplaced. Lower interest charges for loans taken against Demat shares as compared to the interest for loan against physical shares. RBI has increased the limit of loans availed against dematerialized securities as collateral to Rs 20 lakh per borrower as against Rs 10 lakh per borrower in case of loans against physical securities. RBI has also reduced the minimum margin to 25% for loans against dematerialized securities, as against 50% for loans against physical securities. Fill up the account opening form, which is available with the DP. Sign the DP-client agreement, which defines the rights and duties of the DP and the person wishing to open the account. Receive your client account number (client ID). This client id along with your DP id gives you a unique identification in the depository system. Fill up a dematerialization request form, which is available with your DP, Submit your share certificates along with the form; write quot;
surrendered for Dematquot;
 on the face of the certificate before submitting it for Demat) Receive credit for the dematerialized shares into your account within 15 days. DerivativesThe term derivative instrument is generally accepted to mean a financial instrument with a payoff structure determined by the value of an underlying security, commodity, interest rate, or index. According to some notable surveys, over 80% of private sector corporations consider derivatives to be important in implementing their financial policies. Derivatives have also gained wide acceptance among national and local governments, government – sponsored entities, such as the Student Loan Marketing Association and the Federal Home Loan Mortgage Corporation, and supranational, such as the World Bank.           Derivatives are used to lower funding costs by borrowers, to efficiently alter the proportions of fixed to floating rate debt, to enhance the yield on assets, to quickly modify the assets payoff structure to correspond to the firm's market view, to avoid taxes and skirt regulations, and perhaps most importantly, to transfer market risk (hedge)- where the term market risk is used to connote the possibility of losses sustained due to an unforeseen price or volatility change. A firm may execute a derivative transaction to alter its market risk profile by transferring to the trade's counter party a particular type of risk. The price that the firm must pay for this risk transfer is the acceptance of another type of risk and/or a cash payment to the counter party.                          The term quot;
derivativequot;
 indicates that it has no independent value, i.e. its value is entirely quot;
derivedquot;
 from the value of the cash asset. A derivative contract or product, or simply “derivativequot;
, is to be sharply distinguished from the underlying cash asset, i.e. the asset brought / sold in the cash market on normal delivery terms. A general definition of quot;
derivativequot;
 may be suggested here as follows: quot;
Derivativequot;
 means forward, future or option contract of pre-determined fixed duration, linked for the purpose of contract fulfillment to the value of specified real or financial asset or to index of securities. Derivatives offer organizations the opportunity to break financial risks into smaller components and then to buy and sell those components to best meet specific risk management objectives.                           As both forward contracts and futures contracts are used for hedging, it is important to understand the distinction between the two and their relative merits. Forward contracts are private bilateral contracts and have well established commercial usage. They are exposed to default risk by counter-party. Each forward contract is unique in term of contract size, expiration date and the asset type/ quality. The contract price is not transparent, as it is not publicly disclosed. Since the forward contract is not typically tradable, it has to be settled by delivery of the asset on the expiration date. In contrast, futures contracts are standardized tradable contracts. They are standardized in terms of size, expiration date and all other features. They are traded on specially designed exchanges in a highly sophisticated environment of stringent financial safeguards. They are liquid and transparent. Their market prices and trading volumes are regularly reported. The futures trading system has effective safeguards against defaults in the form of Clearing Corporation guarantees for trades and the daily cash adjustment (mark to market) to the accounts of trading members based on daily price change. Futures are far more cost-efficient than forward contracts for hedging.EVOLUTION OF DERIVATIVEFORWARD TRADING         It is not clearly established when and where the first forward market came into existence. there are reports that forward trade exited in India as for back as 2000 BC and in Roman times forward training is believed to have been existence in the 12 th century in Japan.The first organized forward market came into existence in late 19th and early 20th century in Kolkata(jute & jute goods)and in Mumbai (cotton)FUTURES TRADING                The Dojima rice market can be considered as the first future market in the sense of an organized exchange. The first futures in the western hemisphere were developed in united states in Chicago. first they were started as spot markets and gradually evolved into futures trading. First stage was starting of agreements to buy grain in future a predetermined price with the intention of actual delivery. Gradually these contracts become transferable and during. American civil war, it become commonplace to sell and resell agreements instead of taking delivery of physical produce. Traders found that the agreements were easier to but and sell. This is how modern futures contract came into being.OPTION TRADINGOptions trading are of more recent origin. It is estimated that they existing in Greece and Rome as early as 400 BC. Option trading in agriculture products and shares came in us from the 1860s.chicago started the first option market board of trade (CBOT)in 1973.standard maturities , standard strike price, standard delivery arrangement were evolved. The risk of default laws removed by introducing a clearing house and margin system. The introduction of trade option opened the way for the evaluations of more complex derivative.  SWAP TRADING     The first swap transaction took place between world bank and IBM (international business machine) they were currency swaps. interest rates swap also commenced 1981         OTHER DERIVATIVE        Other derivative like forward rate agreement (FRA).range forward contract and they like evolved in second half of 1980s.COMPANY PROFILEIndia Infoline was originally incorporated on October 18, 1995 as Probity Research and Services Private Limited at Mumbai under the Companies Act, 1956 with Registration No. 11 93797. It commenced our operations as an independent provider of information, analysis and research covering Indian businesses, financial markets and economy, to institutional Customers. It  became a public limited company on April 28, 2000 and the name of the Company was changed to Probity Research and Services Limited. The name of the Company was changed to India Infoline.com Limited on May 23, 2000 and later to India Infoline Limited on March23, 2001.In 1999, it identified the potential of the Internet to cater to a mass retail segment and transformed our business model from providing information services to institutional customers to retail customers. Hence we launched our Internet portal, www.indiainfoline.com in May 1999 and started providing news and market information, independent research, interviews with business leaders and other specialized features.          In May 2000, the name of our Company was changed to India Infoline.com Limited to reflect the transformation of our business. Over a period of time, we have emerged as one of the leading business and financial information services provider in India.          In the year 2000, we leveraged our position as a provider of Financial information and analysis by diversifying into transactional services, primarily for online trading in shares and securities and online as well as offline distribution of personal financial products, like Mutual funds and RBI Bonds. These activities were carried on by our wholly owned subsidiaries.         Our broking services was launched under the brand name of 5paisa.com through our subsidiary, India Infoline Securities Private Limited and www.5paisa.com, the e-broking portal, was launched for online trading in July 2000. It combined competitive brokerage rates and research, supported by Internet technology Besides investment advice from an experienced team of research analysts, we also offer real time stock quotes, market news and price charts with multiple tools for technical analysis.Acquisition of Agri Marketing Services Limited (Agri):      In March 2000, they acquired 100% of the equity shares of Agri Marketing Services Limited, from those owners in exchange for the issuance of 508,482 of the equity shares. Agri was a direct selling agent of personal financial products including mutual funds, fixed deposits, corporate bonds and post-office instruments. At the time of our acquisition, Agri operated 32 branches in South and West India Serving more than 30,000 customers with a staff of, approximately 180 employees. After the acquisition, it changed the company name to India Infoline.com Distribution Company Limited.Facilities:      Its main offices are located in approximately 4,000 square feet of office space located in Mumbai, India. The India Infoline Branches collectively occupy an additional 10,000 square feet of office space located throughout India, As on March 31, 2005, we have 73 branches across 36 locations in India.Milestones1995-Incorporated as an equity research and consulting firm with a client base that included leading FIIs, banks, consulting firms andCorporate.1999-Restructured the business model to embrace the internet; launched archives.indiainfoline.com mobilized capital from reputed private equity investors.2000-Commenced the distribution of personal financial products; launched online equity trading; entered life insurance distribution as a corporate agent. Acknowledged by Forbes as ‘Best of the Web’ and‘...must read for investors’.2004-Acquired commodities broking license; launched Portfolio ManagementService.2005- Listed on the Indian stock markets- India Infoline fixes a price band between Rs 70 and Rs 80 for its forthcoming public issue. The company is coming out with public issue of 1.18 crore shares with a face value of Rs 10 through the book building route. The issue is slated to open on April 21 and close on April 27.  Enam Financial Consultants Private Ltd would be the sole book running lead manager to the issue while Intimae Spectrum RegistryLtd is the registrar to the issue.-India Infoline public issue gets 6.6 times oversubscription-IIL appoints R Mohan as VP-India Infoline Ltd has informed that the Company has entered into a advertising agreement with Times Group where in the Company and other group companies would spend about Rupees Thirty Crores over the next 5 years in print as well as non print media of The Times Group.-India Infoline to buy 75-pc stake in Money tree2006-India Infoline launches exclusive SMS Value Added Service-India Infoline enters into strategic agreement with Saraswat Bank-India Infoline to launch stock trading on cell phones-India Infoline to roll out MCX, NCDEX, DGCX software-Acquired membership of DGCX; launched investment banking services2007-Launched a proprietary trading platform; inducted an institutional equities team; formed a Singapore subsidiary; raised over USD 300 mn in the group; launched consumer finance business under the ‘Money line’ brand.2008-Launched wealth management services under the ‘IIFL Wealth’ brand; set up India Infoline Private Equity fund; received the Insurance broking license from IRDA; received the venture capital license; received in principle approval to sponsor a mutual fund; received ‘Best broker- India’ award from Finance Asia; ‘Most Improved Brokerage- India’ award from Asia money.- India Infoline Ltd has informed that the Board of Directors of the Company have vide circular resolution passed on March 10, 2008 approved the appointment of Mr. A K Purwar, ex-Chairman of the State Bank of India, as an independent director on the Board of the Company.-  India Infoline Ltd has informed that pursuant to the resignation of Mr. Nimish Mehta, Company Secretary and Compliance Officer of the Company. Ms. FalguniSanghvi has been appointed as the Company Secretary with effect from October 07, 2008.- The Company has splits its face value from Rs10/- to Rs2/-.2009-Received registration for a housing finance company from the National Housing Bank; received ‘Fastest growing Equity Broking House- Large firms’ in India by Dun & Bradstreet.<br />          <br />          <br />          CHAPTER III <br />THEORETICAL FRAMEWORK<br />Futures <br /> Options<br />INTRODUCTION OF DERIVATIVES<br />The emergence of the market for derivative products, most notably forwards, futures and options, can be traced back to the willingness of risk-averse economic agents to guard themselves against uncertainties arising out of fluctuations in asset prices.  By their very nature, the financial markets are marked by a very high degree of volatility.  Through the use of derivative products, it is possible to partially or fully transfer price risks by locking-in assetPrices. As instruments of risk management, these generally do not influence the Fluctuations in the underlying asset prices. However, by locking-in asset prices, Derivative products minimize the impact of fluctuations in asset prices on the Profitability and cash flow situation of risk-averse investors.<br />Derivatives are risk management instruments, which derive their value from an underlying asset. The underlying asset can be bullion, index, share, bonds, Currency, interest, etc., Banks, Securities firms, companies and investors to hedge risks, to gain access to cheaper money and to make profit, use derivatives.  Derivatives are likely to grow even at a faster rate in future.<br />DEFINITION OF DERIVATIVES<br />“Derivative is a product whose value is derived from the value of an underlying asset in a contractual manner.  The underlying asset can be equity, Forex, commodity or any other asset.” <br />Securities Contract ( regulation) Act, 1956 (SC(R) A)defines “debt instrument, share, loan whether secured or unsecured, risk instrument or contract for differences or any other form of security”<br />A contract which derives its value from the prices, or index of prices, of underlying securities.<br />HISTORY OF DERIVATIVES MARKETS<br />     Early forward contracts in the US addressed merchants concerns about ensuring that there were buyers and sellers for commodities.  However “credit risk” remained a serious problem.  To deal with this problem, a group of Chicago; businessmen formed the Chicago Board of Trade (CBOT) in 1848. The primary intention of the CBOT was to provide a centralized location known In advance for buyers and sellers to negotiate forward contracts.  In 1865, the CBOT went one step further and listed the first   “exchange traded” derivatives Contract in the US; these contracts were called “futures contracts”.  In 1919, Chicago Butter and Egg Board, a spin-off CBOT was reorganized to allow futures trading. Its name was changed to Chicago Mercantile Exchange (CME).  The CBOT and the CME remain the two largest organized futures exchanges, indeed the two largest “financial” exchanges of any kind in the world today.<br />     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 S&P 500 indexes, traded on Chicago Mercantile Exchange.  During the Mid eighties, financial futures became the most active derivative instruments Generating volumes many times more than the commodity futures.  Index futures, futures on T-bills and Euro-Dollar futures are the three most popular Futures contracts traded today.  Other popular international exchanges that trade derivatives are LIFFE in England, DTB in Germany, SGX in Singapore, TIFFE in Japan, MATIF in France,Eurex etc.,<br />THE GROWTH OF DERIVATIVES MARKET<br />Over the last three decades, the derivatives markets have seen a phenomenal growth.  A large variety of derivative contracts have been launched at exchanges across the world.  Some of the factors driving the growth of financial derivatives are:<br />Increased volatility in asset prices in financial markets,<br />Increased integration of national financial markets with the international markets,<br />Marked improvement in communication facilities and sharp decline in their costs,<br />Development of more sophisticated risk management tools, providing economic agents a wider choice of risk management strategies, and<br />Innovations in the derivatives markets, which optimally combine the risks and returns over a large number of financial assets leading to higher returns, reduced risk as well as transactions costs as compared to individual financial assets.<br />DERIVATIVE PRODUCTS (TYPES)<br />The following are the various types of derivatives.  They are:<br />Forwards:<br />A forward contract is a customized contract between two entities, where settlement takes place on a specific date in the future at today’s pre-agreed price.<br />Futures:<br />A futures contract is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price.  Futures contracts are special types of forward contracts in the sense that the former are standardized exchange-traded contracts.<br />Options:<br />Options are of two types-calls and puts.  Calls give the buyer the right but not the obligation to buy a given quantity of the underlying asset, at a given price on or before a given future date.  Puts give the buyer the right, but not the obligation to sell a given quantity of the underlying asset at a given price on or before a given date.<br />Warrants:<br />Options generally have lives of up to one year; the majority of options traded on options exchanges having a maximum maturity of nine months.  Longer-dated options are called warrants and are generally traded Over-the-counter.<br />Leaps:<br />The acronym LEAPS means Long-Term Equity Anticipation Securities. These are options having a maturity of upto three years.<br />Baskets:<br />Basket options are options on portfolio of underlying assets.  The underlying asset is usually a moving average of a basket of assets.  Equity index options are a form of basket options.<br />Swaps:<br />Swaps are private agreement between two parties to exchange cash flows in the future according to a prearranged formula.  They can be regarded as portfolios of forward contracts.  <br />PARTICIPANTS IN THE DERIVATIVES MARKETS<br />The following three broad categories of participants:          <br />HEDGERS: <br />Hedgers face risk associated with the price of an asset. They use futures or options markets to reduce or eliminate this risk.  <br />SPECULATORS:<br />Speculators wish to bet on future movements in the price of an asset.  Futures and options contracts can give them an extra leverage; that is, they can increase both the potential gains and potential losses in a speculative venture.<br />ARBITRAGEURS:<br />Arbitrageurs are in business to take advantage of a discrepancy between prices in two different markets.  If, for example they see the futures prices of an asset getting out of line with the cash price, they will take offsetting positions in the two markets to lock in a profit. <br />FUNCTIONS OF THE DERIVATIVES MARKET<br />In spite of the fear and criticism with which the derivative markets are commonly looked at, these markets perform a number of economic functions.       <br />Price in an organized derivative markets reflect the perception of market participants about the future and lead the prices of underlying to the perceived future level.  The prices of derivatives converge with the prices of the underlying at the <br />expiration of the derivative contract.  Thus derivatives help in discovery of future as well as current prices.<br />The derivative markets helps to transfer risks from those who have them but may not like them to those who have an appetite for them.<br />Derivative due to their inherent nature, are linked to the underlying cash markets.  With the introduction of derivatives, the underlying market witness higher trading volumes because of participation by more players who would not otherwise participate for lack of an arrangement to transfer risk.<br />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 kinds of mixed markets.<br />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.  <br />NATURE OF THE PROBLEM<br />     The turnover of the stock exchange has been tremendously increasing fromlast 10 years. The number of trades and the number of investors, who are participating, have increased. The investors are willing to reduce their risk, so they are seeking for the risk management tools.<br />     Prior to SEBI abolishing the BADLA system, the investors had this system as a source of reducing the risk, as it has many problems like no strong margining System, unclear expiration date and generating counter party risk. In view of this problem SEBI abolished the BADLA system.<br />     After the abolition of the BADLA system, the investors are seeking for a Hedging system, which could reduce their portfolio risk.  SEBI thought the Introduction of the derivatives trading, as a first step it has set up a24 member Committee under the chairmanship of Dr.L.C.Gupta to develop the appropriate Framework for derivatives trading in India, SEBI accepted the recommendation of the committee on May 11, 1998 and approved the phase introduction of the Derivatives trading beginning with stock index futures.<br />     There are many investors who are willing to trade in the derivatives segment, Because of its advantages like limited loss unlimited profit by paying the small Premiums.    <br />THE DEVLOPMENT OF DERIVATIVES MARKET<br />Holding portfolios of Securities is associated with the risk of the possibility that the investor may realize his returns, which would be much lesser than what he expected to get.  There are various factors, which affect the returns:<br />Price or dividend (interest)<br />Some are internal to the firm like<br />Industrial policy<br />Management capabilities<br />Consumer’s preference<br />Labor strike, etc.,<br />These forces are to a large extent controllable and are termed as non systematic risks.  An investor can easily manage such non-systematic by having a Well-diversified portfolio spread across the companies, industries and groups so that a loss in one may easily be compensated with a gain in other.<br />          There are yet other of influence which are external to the firm, cannot be controlled and affect large number of securities.  They are termed as systematic Risk.  They are:                                           <br />Economic <br />political <br />Sociological changes are sources of systematic risk<br />for instance, inflation, interest rate, etc.  Their effect is to cause prices if nearly All-individual stocks to move together in the same manner.  We therefore quite often find stock prices falling from time to time in spite of company’s earnings rising and vice versa.<br />     Rational Behind the development of derivatives market is to manage this systematic risk, liquidity in the sense of being able to buy and sell relatively large amounts quickly without substantial price concession.<br />     In debt market, a large position of the total risk of securities is systematic. Debt instruments are also finite life securities with limited marketability due to their small size relative to many common sticks.  Those factors favor for the purpose of both portfolio hedging and speculation, the introduction of a derivatives securities that is on some broader market rather than an individual security. <br />GLOBAL DERIVATIVES MARKET<br />The global financial centers such as Chicago, New York, Tokyo and London dominate the trading in derivatives.  Some of the world’s leading exchanges for the exchange-traded derivatives are:<br />Chicago Mercantile exchange (CME) and London International Financial Futures Exchange (LIFFE)             ( for currency & Interest rate futures)<br />Philadelphia Stock Exchange(PSE), London Stock Exchange (LSE) & Chicago Board Options Exchange  (CBOE)  ( for currency options)<br />New York Stock Exchange (NYSE) and London Stock Exchange (LSE) (for equity derivatives)<br />Chicago Mercantile Exchange(CME) and London Metal Exchange (LME) ( for Commodities)<br />These exchanges account for a large portion of the trading volume in the respective derivatives segment.<br />NSE’s DERIVATIVES MARKET<br />     The derivatives trading on the NSE commenced with S&P CNX Nifty index Futures on June 12, 2000. The trading in index options commenced on June 4, 2001and trading in options on individual securities commenced on July 2, 2001Single stock futures were launched on November 9, 2001.  Today, both in terms of volume and turnover, NSE is the largest derivatives exchange in India.  Currently, the derivatives contracts have a maximum of 3-month expiration cycles.  Three contracts are available for trading, with 1 month, 2 month and 3 month expiry.  A new contract is introduced on the next trading day following of the near month contract. <br />REGULATORY FRAMEWORK<br />The trading of derivatives is governed by the provisions contained in the SC(R) A, the SEBI Act, the rules and regulations framed there under and the rules and bye-laws of stock exchanges.  <br />      In this chapter we look at the broad regulatory framework for derivatives trading and the requirement to become a member and an authorized dealer of the F&O segment and the position limits as they apply to various participants.<br />Regulation for derivatives trading:<br />        SEBI set up a 24-members committee under the Chairmanship of Dr. L.C.GUPTA to develop the appropriate regulatory framework for derivatives trading in India.  On May 11, 1998 SEBI accepted the recommendations of the committee and approved the phased introduction of derivatives trading in India beginning with stock index futures.        <br />         The provision in the SC(R) A and the regulatory framework developed there under govern trading in securities.  The amendment of the SC(R) A to include derivatives within the ambit of “securities” in the SC(R) A made trading in derivatives possible within the framework of that Act.<br />Any Exchange fulfilling the eligibility criteria as prescribed in the L.C.Gupta committee report can apply to SEBI for grant of recognition under Section 4 of the SC(R) A, 1956 to start trading derivatives.  The derivatives exchange/segment should have a separate governing council and representation of trading/clearing members shall be limited to maximum of 40% of the total members of the governing council.  The exchange would have to regulate the sales practices of its members and would have to obtain prior approval of SEBI before start of trading in any derivative contract.<br />The Exchange should have minimum 50 members.<br />The members of an existing segment of the exchange would not automatically become the members of derivative segment. The members of the derivative segment would need to fulfill the eligibility conditions as laid down by the L.C.Gupta committee.<br />The clearing and settlement of derivatives trades would be through a SEBI approved clearing corporation/house. Clearing corporations/houses complying with the eligibility as laid down by the committee have to apply to SEBI for grant of approval.<br />Derivatives brokers/dealers and clearing members are required to seek registration from SEBI. This is in addition to their registration as brokers of existing stock exchanges. The minimum net worth for clearing members of the derivatives clearing corporation/house shall be Rs.300 Lakhs. The net worth of the member shall be computed  as follows : <br />Capital + Free reserves<br />Less non-allowable assets viz.,<br />Fixed assets<br />Pledged securities <br />Member’s card<br />Non-allowable securities ( unlisted securities)<br />Bad deliveries<br />Doubtful debts and advances<br />Prepaid expenses<br />Intangible assets<br />30 % marketable securities                  <br />The minimum contact value shall not be less than Rs.2 Lakhs. Exchanges have to submit details of the futures contract they propose to introduce.<br />,[object Object],The L.C.Gupta committee report requires strict enforcement of “Know your customer “rule and requires that every client shall be registered with the derivatives broker. The members of the derivatives segment are also required to make their clients aware of the risks involved in derivatives trading by issuing to the clients the Risk Disclosure and obtain a copy of the same duly signed by the clients.<br />The trading members are required to have qualified approved user and sales person who have passed a certification programmed approved by SEBI.<br />ELIGIBILITY OF ANY STOCK TO ENTER IN DERIVATIVES MARKET<br />Non Promoter holding ( free float capitalization ) not less than Rs. 750 Crores from last 6 months<br />Daily Average Trading value not less than 5 Crores in last 6 Months<br />At  least 90% of Trading days in last 6 months<br />Non Promoter Holding at least30%<br />BETA not more than 4 ( previous last 6 months )<br />FUTURES<br />IMPORTANCE OF DERIVATIVES:<br />Derivatives are becoming increasingly important in world markets as a tool for risk management. Derivatives instruments can be used to minimize risk. Derivatives are used to separate risks and transfer them to parties willing to bear these risks. The kind of hedging that can be obtained by using derivatives is cheaper and more convenient than what could be obtained by using cash instruments. It is so because, when we use derivatives for hedging, actual delivery of the underlying asset is not at all essential for settlement purposes.<br />  Moreover, derivatives would not create any risk. They simply manipulate the risks and transfer to those who are willing to bear these risks. For example, Mr. A owns a bike. If does not take insurance, he runs a big risk. Suppose he buys insurance [a derivative instrument on the bike] he reduces his risk. Thus, having an insurance policy reduces the risk of owing a bike. Similarly, hedging through derivatives reduces the risk of owing a specified asset, which may be a share, currency, etc.<br />INTRODUCTION OF FUTURES<br />     Futures markets were designed to solve the problems that exist in forward markets.  A futures contract is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price.  But unlike forward contract, the futures contracts are standardized and exchange traded.  To facilitate liquidity in the futures contract, the exchange specifies certain standard features of the contract.  It is standardized contract with standard underlying instrument, a standard quantity and quality of the underlying instrument that can be delivered, <br />(Or which can be used for reference purpose in settlement) and a standard timing of such settlement.  A futures contract may be offset prior to maturity by entering into an equal and opposite transaction.  More than 90% of futures transactions are offset this way.<br />The standardized items in a futures contract are:<br />Quantity of the underlying<br />Quality of the underlying <br />The  date and the month of delivery <br />The units of price quotation and minimum price change<br />Location of settlement<br />DEFINITION<br />             A Futures contract is an agreement between two parties to buy or sell an asset at a certain time in the future at a certain price.  Futures contracts are special types of forward contracts in the sense that the former are standardized exchange-traded contracts. <br />HISTORY OF FUTURES<br /> Merton Miller, the 1990 Nobel Laureate had said that “financial futures represent the most significant financial innovation of the last twenty years.” The first exchange that traded financial derivatives was launched in Chicago in the year 1972.  A division of the Chicago Mercantile Exchange, it was called the international monetary market (IMM) and traded currency futures.  The brain behind this was a man called Leo Melamed, acknowledged as the “father of financial futures” who was then the Chairman of the Chicago Mercantile Exchange.  Before IMM opened in 1972, the Chicago Mercantile Exchange sold contracts whose value was counted in millions.  By 1990, the underlying value of all contracts traded at the Chicago Mercantile Exchange totaled 50 trillion dollars. <br />     These currency futures paved the way for the successful marketing of a dizzying array of similar products at the Chicago Mercantile Exchange, the Chicago Board of Trade and the Chicago Board Options Exchange.  By the 1990s, these exchanges were trading futures and options on everything from Asian and American stock indexes to interest-rate swaps, and their success transformed Chicago almost overnight into the risk-transfer capital of the world. <br />DISTINCTION BETWEEN FUTURES AND FORWARDS CONTRACTS<br /> Forward contracts are often confused with futures contracts. The confusion is primarily because both serve essentially the same economic functions of allocating risk in the presence of futures price uncertainty.  However futures are a significant improvement over the forward contracts as they eliminate counterparty risk and offer more liquidity. Comparison between two as follows:<br />FUTURESFORWARDS1.Trade on an Organized  Exchange2.Standardized       contract    terms 3. hence more liquid 4. Requires margin   payment5. Follows daily Settlement1. OTC in nature2.Customized contract     terms3. hence less liquid4. No margin payment5. Settlement  happens at end of period<br />Table 3.1<br />FEATURES OF FUTURES<br />Futures are highly standardized.<br />The contracting parties need not pay any down payment.<br />Hedging of price risks.<br />They have secondary markets to.<br />TYPES OF FUTURES<br />On the basis of the underlying asset they derive, the futures are divided into two types:<br />Stock Futures<br />Index Futures<br />PARTIES IN THE FUTURES CONTRACT<br />     There are two parties in a futures contract, the buyers and the seller.  The buyer of the futures contract is one who is LONG on the futures contract and the seller of the futures contract is who is SHORT on the futures contract.<br />The pay-off for the buyers and the seller of the futures of the contracts are as follows:<br />PAY-OFF FOR A BUYER OF FUTURES<br />LOSSPROFITFLPE1E2<br />Figure 3.2<br />CASE 1:- The buyers bought the futures contract at (F); if the futures <br />Price Goes to E1 then the buyer gets the profit of (FP).<br />CASE 2:-The buyers gets loss when the futures price less then (F); if <br />The Futures price goes to E2 then the buyer the loss of (FL).<br />PAY-OFF FOR A SELLER OF FUTURES<br />FLOSSPROFITE1PE2L<br />Figure 3.3<br />F = FUTURES PRICE<br />                                          E1, E2 = SATTLEMENT PRICE<br />CASE 1:-The seller sold the future contract at (F); if the future goes to <br />E1Then the seller gets the profit of (FP).<br />CASE 2:-The seller gets loss when the future price goes greater than (F);<br />If the future price goes to E2 then the seller get the loss of (FL).<br />MARGINS<br />Margins are the deposits which reduce counter party risk, arise in a futures contract.  These margins are collect in order to eliminate the counter party risk. There are three types of margins:<br />Initial Margins:-<br />Whenever a future contract is signed, both buyer and seller are required to post initial margins.  Both buyers and seller are required to make security deposits that are intended to guarantee that they will infect be able to fulfill their obligation.  These deposits are initial margins and they are often referred as purchase price of futures contract.<br />Mark to market margins:-<br />The process of adjusting the equity in an investor’s account in order to reflect the change in the settlement price of futures contract is known as MTM margin.<br />Maintenance margin:-<br />The investor must keep the futures account equity equal to or grater than certain percentage of the amount deposited as initial margin.  If the equity goes less than that percentage of initial margin, then the investor receives a call for an additional deposit of cash known as maintenance margin to bring the equity up to the initial margin.<br />ROLE OF MARGINS<br />The role of margins in the futures contract is explained in the following example: Siva Rama Krishna sold an ONGC July futures contract to Nagesh at Rs.600; the following table shows the effect of margins on the Contract.  The contract size of ONGC is 1800.  The initial margin amount is say Rs. 30,000 the maintenance margin is 65% of initial margin.<br />PRICING FUTURES<br />    Pricing of futures contract is very simple. Using the cost-of-carry logic, we calculate the fair value of a future contract.  Every time the observed price deviates from the fair value, arbitragers would enter into trades to captures the arbitrage profit.  This in turn would push the futures price back to its fair value.  The cost of carry model used for pricing futures is given below.                                           <br />F = SerT<br />Where:<br />                  F     =        Futures price<br />                  S     =       Spot Price of the Underlying               <br />                  r  =   Cost of financing (using continuously compounded <br />   Interest rate)<br /> T     =        Time till expiration in years      <br />                  e     =          2.71828<br />                                                          (OR)<br />                                                  F = S (1+r- q) t<br />Where:<br />                 F      =           Futures price <br />                 S      =          Spot price of the underlying<br />                 r       =          Cost of financing (or) interest Rate<br />                 q      =           Expected dividend yield<br />                 t       =           Holding Period<br />FUTURES TERMINOLOGY<br />Spot price:  <br />The price at which an asset trades in the spot market.<br />Futures Price:<br />The price at which the futures contract trades in the futures market.<br />Contract cycle:<br />The period over which a contract trades.  The index futures contracts on the NSE have one-month and three-month expiry cycles which expire on the last Thursday of the month. Thus a January expiration contract expires on the last Thursday of January and a February expiration contract ceases trading on the last Thursday of February.  On the Friday following the last Thursday, a new contract having a three-month expiry is introduced for trading.<br />Expiry date:<br />It is the date specified in the futures contract.  This is the last day on which the contract will be traded, at the end of which it will cease to exist.<br />Contract size:<br />The amount of asset that has to be delivered less than one contract.  For instance, the contract size on NSE’s futures markets is 200 Nifties.<br />Basis: <br />In the context of financial futures, basis can be defined as the futures price minus the spot price. These will be a different basis for each delivery month for each contract.  In a normal market, basis will be positive. This reflects that futures prices normally exceed spot prices.<br />Cost of carry:<br />The relationship between futures prices and spot prices can be summarized in terms of what is known as the cost of carry.  This measures the storage cost plus the interest that is paid to finance the asset less the income earned on the asset.<br />Initial margin:<br />The amount that must be deposited in the margin account at the time a futures contract is first entered into is known as initial margin.<br />Marking-to-market:<br />In the futures market, at the end of each trading day, the margin account is adjusted to reflect the investor’s gain or loss depending upon the futures closing price.  This is called marking-to-market.<br />Maintenance margin:<br />This is somewhat lower than the initial margin.  This is set to ensure that the balance in the margin account never becomes negative.  If the balance in the margin account falls below the maintenance margin, the investor receives a margin call and is expected to top up the margin account to the initial margin level before trading commences on the next day.<br />OPTIONS<br />INTRODUCTION <br />     In this section, we look at the next derivative product to be traded on the NSE, namely options.  Options are fundamentally different from forward and futures contracts.  An option gives the holder of the option the right to do something.  The holder does not have to exercise this right.  In contrast, in a forward or futures contract, the two parties have committed themselves to doing something. Whereas it costs nothing (except margin requirement) to enter into a futures contracts, the purchase of an option requires as up-front payment.<br />DEFINITION<br />     Options are of two types- calls and puts.  Calls give the buyer the right but not the obligation to buy a given quantity of the underlying asset, at a given price on or before a given future date.  Puts give the buyers the right, but not the obligation to sell a given quantity of the underlying asset at a given price on or before a given date.<br />HISTORY OF OPTIONS<br />     Although options have existed for a long time, they wee traded OTC, without much knowledge of valuation.  The first tradingin options began in Europe and the USas early as the seventeenth century.  It was only in the early 1900s that a group of firms set up what was known as the put and call Brokers and Dealers Association with the aim of providing a mechanism for bringing buyers and sellers together.  If someone wanted to buy an option, he or she would contact one of the member firms. The firms would then attempt to find a seller or writer of the option either from its own clients of those of other member firms.  If no seller could be found, the firm would undertake to write the option itself in return for a price.<br />     This market however suffered form two deficiencies. First, there was no secondary market and second, there was no mechanism to guarantee that the writer of the option would honor the contract. In 1973, Black, MertonandScholes invented the famed Black-Scholes formula.  In April 1973, CBOE was set up specifically for the purpose of trading options.  The market for option developed so rapidly that by early’ 80s, the number of shares underlying the option contract sold each day exceeded the daily volume of shares traded on the NYSE. Since then, there has been no looking back.<br />     Option made their first major mark in financial history during the tulip-bulb mania in seventeenth-century Holland.  It was one of the most spectacular get rich quick binges in history.  The first tulip was brought Into Holland by a botany professor from Vienna.  Over a decade, the tulip became the most popular and expensive item in Dutch gardens.  The more popular they became, the more Tulip bulb prices began rising.  That was when options came into the picture.  They were initially used for hedging.  By purchasing a call option on tulip bulbs, a dealer who was committed to a sales contract could be assured of obtaining a fixed number of bulbs for a set price.  Similarly, tulip-bulb growers could assure themselves of selling their bulbs at a set price by purchasing put options.  Later, however, options were increasingly used by speculators who found that call options were an effective vehicle for obtaining maximum possible gains on investment.  As long as tulip prices continued to skyrocket, a call buyer would realize returns far in excess of those that could be obtained by purchasing tulip bulbs themselves.  The writers of the put options also prospered as bulb prices spiraled since writers were able to keep the premiums and the options were never exercised.  The tulip-bulb market collapsed in 1636 and a lot of speculators lost huge sums of money.  Hardest hit were put writers who were unable to meet their commitments to purchase Tulip bulbs. <br />PROPERTIES OF OPTION<br />     Options have several unique properties that set them apart from other securities.  The following are the properties of option:<br />Limited Loss<br />High leverages potential <br />Limited Life<br />PARTIES IN AN OPTION CONTRACT<br />There are two participants in Option Contract.<br />Buyer/Holder/Owner of an Option:<br />The Buyer of an Option is the one who by paying the option premium buys the right but not the obligation to exercise his option on the seller/writer.<br />Seller/writer of an Option:<br />The writer of a call/put option is the one who receives the option premium and is thereby obliged to sell/buy the asset if the buyer exercises on him.<br />TYPES OF OPTIONS<br />The Options are classified into various types on the basis of various variables.  The following are the various types of options.<br />On the basis of the underlying asset:<br />On the basis of the underlying asset the option are divided in to two types:<br />Index options:<br />These options have the index as the underlying.  Some options are European while others are American.  Like index futures contracts, index options contracts are also cash settled.<br />Stock options:<br />Stock Options are options on individual stocks.  Options currently trade on over 500 stocks in the United States.  A contract gives the holder the right to buy or sell shares at the specified price.<br />On the basis of the market movements :<br />On the basis of the market movements the option are divided into two types. They are:<br />Call Option:<br />A call Option gives the holder the right but not the obligation to buy an   asset by a certain date for a certain price.  It is brought by an investor when he seems that the stock price moves upwards.<br />Put Option:<br />A put option gives the holder the right but not the obligation to sell an asset by a certain date for a certain price. It is bought by an investor when he seems that the stock price moves downwards.<br />3.On the basis of exercise of option:<br />On the basis of the exercise of the Option, the options are classified into two Categories.<br />American Option:<br />American options are options that can be exercised at any time up to the expiration date. Most exchange –traded options are American.<br />European Option:<br />European options are options that can be exercised only on the expiration date itself.  European options are easier to analyze than American options, and properties of an American option are frequently deduced from those of its European counterpart.<br />PAY-OFF PROFILE FOR BUYER OF A CALL OPTION<br />The Pay-off of a buyer options depends on a spot price of an underlying asset.  The following graph shows the pay-off of buyers of a call option.<br />OTMLOSSSPE2RPROFITITM ATME1<br />Figure 3.4<br />                              S =     Strike price                  ITM =   In the Money<br />Sp =     premium/loss              ATM =   At the Money<br />                       E1 =     Spot price 1                 OTM =   Out of the Money<br />                       E2 =     Spot price 2<br />                       SR =    Profit at spot price E1<br />CASE 1:(Spot Price > Strike price)<br />As the Spot price (E1) of the underlying asset is more than strike price (S).<br />The buyer gets profit of (SR), if price increases more than E1 then profit also increase more than (SR)<br />CASE 2:(Spot Price < Strike Price)<br />As a spot price (E2) of the underlying asset is less than strike price (S)<br />The buyer gets loss of (SP); if price goes down less than E2 then also his loss is limited to his premium (SP)<br />PAY-OFF PROFILE FOR SELLER OF A CALL OPTION<br />The pay-off of seller of the call option depends on the spot price of the underlying asset.  The following graph shows the pay-off of seller of a call option:<br />ITMPROFITE1PSATME2OTMRLOSS<br />Figure 3.5<br />S =      Strike price                     ITM = Inthe Money<br />                 SP =     Premium / profit             ATM = At The money<br />E1 =      Spot Price 1                    OTM = Out of the Money<br />E2 =     Spot Price 2<br />                 SR =     loss at spot price E2<br />CASE 1:(Spot price < Strike price)<br />As the spot price (E1) of the underlying is less than strike price (S). The seller gets the profit of (SP), if the price decreases less than E1 then also profit of the seller does not exceed (SP).<br />CASE 2:(Spot price > Strike price)<br />As the spot price (E2) of the underlying asset is more than strike price (S) theSeller gets loss of (SR), if price goes more than E2 then the loss of the seller also increase more than (SR).<br />PAY-OFF PROFILE FOR BUYER OF A PUT OPTION<br />The Pay-off of the buyer of the option depends on the spot price of the underlying asset.  The following graph shows the pay-off of the buyer of a call option.<br />PROFITITM RE1ATMPLOSSOTME2S<br />Figure 3.6<br />S =   Strike price                     ITM = Inthe Money<br />                       SP=    Premium / loss              ATM = At the Money<br />                       E1 =   Spot price 1                    OTM = Out of the Money<br />                       E2 =   Spot price 2<br />SR =   Profit at spot price E1<br />CASE 1:(Spot price < Strike price)<br />As the spot price (E1) of the underlying asset is less than strike price (S). The buyer gets the profit (SR), if price decreases less than E1 then profit also increases more than (SR).<br />CASE 2:(Spot price > Strike price)<br />As the spot price (E2) of the underlying asset is more than strike price (S),<br />The buyer gets loss of (SP), if price goes more than E2 than the loss of the buyer is limited to his premium (SP).<br />PAY-OFF PROFILE FOR SELLER OF A PUT OPTION<br />The pay-off of a seller of the option depends on the spot price of the underlying asset. The following graph shows the pay-off of seller of a put option.<br />LOSSOTMRSE1PPROFITITMATME2<br />Figure 3.7<br />    S   =   Strike price                        ITM = Inthe Money<br />SP =    Premium/profit                 ATM = Atthe Money<br />E1 =    Spot price 1                       OTM = Out of the Money<br />E2 =    Spot price 2<br />SR =   Loss at spot price E1<br />CASE 1:(Spot price < Strike price)<br />As the spot price (E1) of the underlying asset is less than strike price (S), the seller gets the loss of (SR), if price decreases less than E1 than the loss also increases more than (SR).<br />CASE 2:(Spot price > Strike price)<br />As the spot price (E2) of the underlying asset is more than strike price (S), the seller gets profit of (SP), of price goes more than E2 than the profit of seller is limited to his premium (SP).<br />FACTORS AFFECTING THE PRICE OF AN OPTION<br />      The following are the various factors that affect the price of an option they are:<br />Stock Price:      <br />The pay-off from a call option is an amount by which the stock price exceeds the strike price.  Call options therefore become more valuable as the stock price increases and vice versa.  The pay-off from a put option is the amount; by which the strike price exceeds the stock price.  Put options therefore become more valuable as the stock price increases and vice versa. <br />Strike price:<br />In case of a call, as a strike price increases, the stock price has to make a larger upward move for the option to go in-the –money.  Therefore, for a call, as the strike price increases option becomes less valuable and as strike price decreases, option become more valuable.<br />Time to expiration:<br />Both put and call American options become more valuable as a time to expiration increases.<br />Volatility:<br />The volatility of a stock price is measured of uncertain about future stock price movements. As volatility increases, the chance that the stock will do very well or very poor increases. The value of both calls and puts therefore increases as volatility increase.<br />Risk- free interest rate:<br />The put option prices decline as the risk-free rate increases where as the price of call always increases as the risk-free interest rate increases.<br />Dividends: Dividends have the effect of reducing the stock price on the X- dividend rate. This has a negative effect on the value of call options and a positive effect on the value of put options.<br />PRICING OPTIONS<br />     An option buyer has the right but not the obligation to exercise on the seller.  The worst that can happen to a buyer is the loss of the premium paid by him.  His downside is limited to this premium, but his upside is potentially unlimited.  This optionality is precious and has a value, which is expressed in terms of the option price.  Just like in other free markets, it is the supply and demand in the secondary market that drives the price of an option.<br />     There are various models which help us get close to the true price of an option.  Most of these are variants of the celebrated Black-Scholes model for pricing European options.  Today most calculators and spread-sheets come with a built-in Black- Scholes options pricing formula so to price options we don’t really need to memorize the formula.  All we need to know is the variables that go into the model.<br />     The Black-Scholes formulas for the price of European calls and puts on a non-dividend paying stock are:<br />Call optionCA = SN (d1) – Xe- rT N (d2)Put Option      PA = Xe- rT N (- d2) – SN (- d1)Where d1 = ln (S/X) + (r + v2/2) Tv√TAnd d2 =  d1 - v√TWhereCA = VALUE OF CALL OPTIONPA = VALUE OF PUT OPTIONS = SPOT PRICE OF STOCKN = NORMAL DISTRIBUTIONVARIANCE (V) = VOLATILITYX = STRIKE PRICEr = ANNUAL RISK FREE RETURNT = CONTRACT CYCLEe = 2.71828r = ln (1 + r)<br />Table 3.8<br />OPTIONS TERMINOLOGY<br />Option price/premium:<br />Option price is the price which the option buyer pays to the option seller.  It is also referred to as the option premium.<br />Expiration date:<br />The date specified in the options contract is known as the expiration date, the exercise date, the strike date or the maturity.<br />Strike price:<br />The price specified in the option contract is known as the strike price or the exercise price.<br />DISTINCTION BETWEEN FUTURES AND OPTIONS<br />FUTURESOPTIONSExchange traded, with  Innovation 2.  Exchange defines the         product 3.  Price is zero, strike      price moves 4.   Price is Zero    5.   Linear payoff     6.   Both long and short      at risk Same as futuresSame as futuresStrike price is fixed, price  movesPrice is always positiveNonlinear payoffOnly short at risk<br />Table 3.9<br />CALL OPTION<br />STRIKE PRICEPREMIUMCONTRACTINTRINSICVALUETIMEVALUETOTALVALUE56054052000025102510OUT OF THEMONEY50001515AT THEMONEY4804604402040601052304562IN THEMONEY<br />Table 3.10<br />PUT OPTION<br />STRIKE PRICEPREMIUMCONTRACTINTRINSICVALUETIMEVALUETOTALVALUE5605405206040202510624530IN THE MONEY50001515AT THEMONEY48046044000010521052OUT OF THEMONEY<br />Table 3.11<br />PREMIUM = INTRINSIC VALUE + TIME VALUE<br />The difference between strike values is called interval<br />TRADING NETWORK<br />NSE MAIN FRAMEHUB ANTENNA SATELLITEBROKER’S PREMISES<br />Figure 3.12<br />Participants in Security Market<br />Stock Exchange (registered in SEBI)-23 Stock Exchanges<br />Depositaries (NSDL,CDSL)-2 Depositaries<br />Listed Securities-9,413<br />Registered Brokers-9,519<br />FIIs-502<br />Highest Investor Population<br />StateTotal No. Investors% of Investors in IndiaMaharastra      9.11 Lakhs28.50Gujarat      5.36 Lakhs16.75Delhi      3.25 Lakhs              10.10%Tamilnadu      2.30 Lakhs              7.205West Bangal      2.14 Lakhs              6.75%Andhra Pradesh      1.94 Lakhs              6.05%<br />Table 3.13<br />          CHAPTER IV<br />FIELD STUDY AND ANAYLSIS<br />LOT SIZES OF SELECTED COMPANIES FOR ANALYSIS<br />CODELOT SIZECOMPANY NAMEACC750Associates Cement Companies Ltd.ARVIND MILLS2150Arvind Mills Ltd.BHEL300Bharat Heavy Electrical Ltd.<br />The following tables explain about the table that took place in futures and options between 25/02/10 to 29/02/10. The table has various columns, which explains various factors involved in derivative trading.<br />Date – the day on which the trading took place.<br />Closing premium – Premium for that day.<br />Open interest- No. of options that did not get exercised.<br />Traded Quantity – No. of futures and options traded on that day.<br />N.O.C – No. of contracts traded on that day.<br />Closing Price–The price of the futures at the end of the trading day.<br />Spot parities relation to dividends.<br />Calculation of rate of return.<br />ANLYSIS AND INTERPRETATION:<br />FUTURES:<br />Futures are legally binding agreement to buy or sell an asset at a certain time in the future at a certain price.<br />FORMULA:<br />Fo = So (1+r-d) T<br />So = closing price of a market on that day.<br />r = Rate of return<br />d = Dividend<br />T = Time period<br />FUTURES OF ACC CEMENTS<br />Table: 1<br />Date dd/mm/yyHigh RsLow RsClose RsOpen Int ('000)TrdQty ('000)N.O.C.FO25 /02/10818.34768.00810.657146986278188582.2326 /02/10812.45712.60755.9573221012348289881.3327 /02/10698.30589.80591.4018001943259189858.5428 /02/10691.00598.50616.858168891227090154.8329 /02/10827.00790.50806.2017851465195390132.04<br />The above table has been given in the following graph.<br />Picture – 1<br />875008800088500890008950090000905001FOFUTURES PRICE OF ACC25 /02/1026 /02/1027 /02/1028 /02/1029 /02/10<br />Source:<br />          The data has been collected BUSINESS STANDARED (paper) and Online Trading of INDIA INFOLINE LTD.<br />INTERPRETATION:<br />It is observed from the above mentioned table that the future price (Fo) has increased tremendously due to increase in closing price, decrease in open interest and reduction in value and volume of futures.<br />FUTURES OF ARVIND MILLS<br />Table – 2<br />Date dd/mm/yyHigh RsLow RsClose RsOpen Int ('000)TrdQty ('000)N.O.C.FO25 /02/10100.4097.4098.0013360533424811515.326 /02/1095.1092.2594.9010636305314201467.427 /02/1096.6594.8596.259129444420671488.328 /02/1096.7095.1095.955609399018561483.629 /02/1096.7094.5095.453038577126841475.9<br />The above table has been given in the following graph<br />Picture – 2 <br />FUTURES PRICE OF ARVIND MILLS14401460148015001520Fo25 /02/1026 /02/1027 /02/1028 /02/1029 /02/10<br />Source: <br />The data has been collected BUSINESS STANDARDS (paper) and Online Trading of INDIA INFOLINE LTD.<br />INTERPRETATION:<br />The above graph shows that the future price (Fo) has been decrease due to decrease in closing price and decrease in open interest and it is observed that increase in volume and value.<br />FUTURES OF BHEL<br />Table – 3<br />Date dd/mm/yyHigh RsLow RsClose RsOpen Int ('000)TrdQty ('000)N.O.C.FO25 /02/102010.001978.002006.402192988329321876826 /02/102057.001995.002024.7515861405468221266527 /02/102260.002038.002221.6012571508502521809628 /02/102335.002210.002223.10871934614722290629 /02/102405.102300.002350.0046214004667219881<br />The above table has been given in the following graph.<br />Picture – 3 <br />205000210000215000220000225000FoFUTURE PRICE OF BHEL25 /02/1026 /02/1027 /02/1028 /02/1029 /02/10<br />Source:<br />The data has been collected BUSINESS STANDARDS (paper) and Online Trading of INDIA INFOLINE LTD.<br />INTERPRETATION:<br />From the above mentioned table it is observed that the future price (Fo) has shown fluctuation due to fluctuation in closing price and volume, value is increase and it is observed that open interest is decrease.<br />OPTIONS:<br /> Options are two types. They are CALL OPTION and PUT OPTION<br />CALL OPTION: A Call option is bought by an investor when he seems that the stock price moves upwards. A call option gives the holder of the option the right but not the obligation to buy an asset by an certain date for a certain price.<br />PUT OPTION:<br />A  Put option is bought by an investor when he seems that the stock price moves downwards. A put option gives the holder of the option the right but not the obligation to sell asset by an certain date for a certain price.<br />Formula:<br />Profit of the holder=(Spot Price – Strike Price) – Premium*<br />(Lot Size) in case of call option.<br />Profit of the holder=Premium* (Lost Size) in case of Put<br />Option.<br />Source:<br />The data has been collected through BUSINESS STANDARDS (Paper) and Online Trading of INDIA INFOLINE LTD<br />The following table of Net pay-off explain the profit/loss of option holder/writer of ACC for the week 25/02/2010 to 29/02/2010.<br />PROFIT/LOSS POSITION OF CALL OPTION BUYER OF ACC<br />Table – 1<br />SPOT PRICESTRIKE PRICEPREMIUMWHETHER EXERCISEDBUYERS GAIN/LOSSWEITER GAIN/LOSS818.3480027.00YES150.00-150.00818.3482010.45YES2737.50-2737.50818.348405.30NO-3975.0013875.00818.348601.90NO-1425.0026325.00<br />Profit and Loss graph of the writer with stock Price of call option-1000001000020000300001234STRIKE PRICEWRITERGAIN/LOSSh<br />PROFIT/LOSS POSITION OF PUT OPTION BUYER/WRITER OF ACC<br />Table – 2 <br />SPOT PRICESTRIKE PRICEPREMIUMWHETHER EXERCISEDBUYERS GAIN/LOSSWEITER GAIN/LOSS818.348000.20NO-150150 818.348202.40NO-18001800 818.348408.90NO-66756675 818.3486012.00YES900-900<br />INTERPERATATION:<br />From the above graph it observed that the buyer get Profit when the Strike Price is less than the spot price and it is also observed that the writer get loss when the strike price is more than the spot price.<br />The following table of Net pay-off explains the profit/loss of option holder/writer of ARAVIND MILL<br />PROFIT/LOSS POSITION OF CALL OPTION BUYER/WRITER OF ARAVINDMILL<br />Table – 3<br />SPOT PRICESTRIKE PRICEPREMIUMWHETHER EXERCISEDBUYERS GAIN/LOSSWRITERS GAIN/LOSS 100.408512.50YES537.5-537.5 100.40908.30YES1182.5-1182.5 100.40954.30YES3332.5-3332.5100.401002.00NO-43009137.5<br />Profit/Loss Graph of the Writer with Strike Price of Call Option-4000-200002000400060001234STRIKE PRICEWRITERS GAIN/LOSS<br />Profit and Loss Graph of the Buyer with Strike Price of Call Option-6000-4000-20000200040001234STRIKE PRICEBUYERS GAIN/LOSS<br />PROFIT/LOSS POSITION OF PUT OPTION BUYER/WRITER OF ARVIND MILL<br />Table – 4 <br />SPOT PRICESTRIKE PRICEPREMIUMWHETHER EXERCISEDBUYERS GAIN/LOSSWRITER’S GAIN/LOSS100.40800.25NO-537.5537.5100.40850.05NO-967.5967.5100.40900.45NO-27952795100.40951.300NO-1053510535100.401004.900YES5697.5-5697.5<br />Profit/Loss graph of the Buyer with Strike Price Of Put Option-15000-10000-500005000100001234STRIKE PRICEBUYERS GAIN/LOSS<br />Profit/Loss Graph of the Writer with Strike Price of Put Option-10000-50000500010000150001234STRIKE PRICEWRITER'SGAIN/LOSS<br />INTERPRETATION:<br />It is observed from the above mentioned tables that the strike price is less than the spot price the buyer will get profit and strike price is more than the spot price the buyer will get loss then obviously in case of writer it is vice-versa.<br />The following table of Net pay-off explains the profit/loss of holder/writer of BHEL.<br />PROFIT/LOSS POSITION OF CALL OPTION BUYER/WRITER OF BHEL<br />Table – 5 <br />SPOT PRICESTRIKE PRICEPREMIUMWHETHER EXERCISEDBUYERS GAIN/LOSSWRITER'S GAIN/LOSS2010.00183025.00YES5700-57002010.00186040.00YES7800-78002010.00189019.00NO-570057002010.00192010.00NO-300030002010.00198020.00NO-60006000<br />PROFIT/LOSS POSITION OF PUT OPTION BUYER/WRITER OF BHEL<br />Table – 6 <br />SPOT PRICESTRIKE PRICEPREMIUMWHETHER EXERCISEDBUYERS GAIN/LOSSWRITER'S GAIN/LOSS1874.00180020.00NO-600060001874.00183028.55NO-856585651874.00186031.00NO-93009300<br />INTERPRETATION:<br />From the above call option and put option tables it is observed that the writer get profit when the strike price is more than the spot price and the writer get loss when the strike price is less than the spot price and it is observed that the buyer it is vice-versa.<br />CALCULATION OF FUTURE PRICE<br />On Feb 25th:<br />If an investor holds the following contract of the Acc<br />Future closing price=R.s.818.34<br />Equity share capital=R.s.179.58<br />Net profit=4446.20<br />Preference dividend=0<br />Dividends=0.07<br />r = Net profit-preference dividend<br />        Equity share capital                         *100<br />r = 4446.20-0/179.58.00*100=2475.88<br />  =818.34(1+2475.88-0.07)3<br />           = 818.34(15194.208)3<br />           =288582.23<br />On Feb 25th:<br />If an investor holds the following contract of the Arvind mills<br />Future closing price=R.s100.40<br />Equity share capital=R.s.195.38<br />Net profit=484.81<br />Preference dividend=0<br />Dividends=0.01<br />r = Net profit-preference dividend<br />               Equity share capital*100<br />R = 484.18-0/195.38*100=248.14<br />   = 100.40 (1+248.14-0.01)3<br />   =100.40 (1+248.13)3<br />   =11515.31<br />On Feb 25th:<br />If an investor holds the following contract of the BHEL<br />Future closing price=R.s.2010.40<br />Equity share capital=R.s.32500.00<br />Net profit=158163.56<br />Preference dividend=0<br />Dividends=0.08<br />r = Net profit – preference dividend<br />Equity share capital*100<br />r = 158163.56-0/195.38*100=486.66<br />  = 2010.40 (1+486.66-0.08)3<br />  = 2010.40487.58)3<br />  = 518768.<br />     CHAPTER-V<br />FINDINGS & SUMMARY<br />FINDINGS<br />The following findings are made on the basis of data analysis from the previous Chapter.<br />,[object Object]
The study reveals the effectiveness of risk reduction using hedging strategies. It has found out that risk cannot be avoided. But can only be minimized.
Through the study has found out that, the hedging provides a safe position on an underlying security. The loss gets shifted to a counter party. Thus the hedging covers the loss and risk. Sometimes, the market performs against the expectation. This will trigger losses. so the hedger should be a strategic and positive thinker.
The anticipation of the hedger regarding the trend of the movement in the prices of the underlying security plays a key role in the result of the strategy applied.
It has been found that, all the strategies applied on historical data of the period of the study were able to reduce the loss that rose from price risk substantially.
If the trader is not sure about the direction of the movement of the profits of the current position, he can counter position in the future contract and reduces the level of risks.
The trader can effectively use the strategy for return enhancement provided he has the correct market anticipation.
In general, the
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Latha sethy project

  • 1.
  • 2. To know different types of Financial Derivatives.
  • 3. To know the role of derivatives trading in India.
  • 4. To analyze the performance of Derivatives Trading since 2001with special reference to Futures & Options.
  • 5.
  • 6. The constraint of global derivatives data
  • 7. The study has been conducted within a limited period of time
  • 8.
  • 9. The study reveals the effectiveness of risk reduction using hedging strategies. It has found out that risk cannot be avoided. But can only be minimized.
  • 10. Through the study has found out that, the hedging provides a safe position on an underlying security. The loss gets shifted to a counter party. Thus the hedging covers the loss and risk. Sometimes, the market performs against the expectation. This will trigger losses. so the hedger should be a strategic and positive thinker.
  • 11. The anticipation of the hedger regarding the trend of the movement in the prices of the underlying security plays a key role in the result of the strategy applied.
  • 12. It has been found that, all the strategies applied on historical data of the period of the study were able to reduce the loss that rose from price risk substantially.
  • 13. If the trader is not sure about the direction of the movement of the profits of the current position, he can counter position in the future contract and reduces the level of risks.
  • 14. The trader can effectively use the strategy for return enhancement provided he has the correct market anticipation.