Executive Summary

The project is being made to enhance the knowledge and to ascertain the
amount of awareness about derivatives. The derivatives is proven better
as compared to equity. The Stock market industry is being taken this as a
very crucial matter with the contrast of the many other important
characteristics. The derivatives are the means of having a so called
initiative among the investors but it not done fully. The investors should
be conveyed its importance and the necessary things such as call, option ,
put , mutual funds etc. The margin requirements is also being
commendable in the derivatives and are used and being information and
its usage is spreading in the investors. A derivative is a security derived
from a debt instrument, share, loan whether secured or unsecured, risk
instrument or contract for differences or any other form of security. The
derivatives may be regarded as a better option to undertaken as is being
exercised under a authority of by-laws. The derivatives is also new and a
beneficial option regarded as a contract which derives its value from the
prices, or index of prices, of underlying securities.

1
 Scope
The scope of the study will include the analysis of the survey, which is
being conducted to know the awareness of the Derivative Market in the
city & also doing comparison of derivatives with equity . It may include
the analysis regarding the investors who use the derivatives and its
awareness to them. The derivative is being regarded as the important
aspect in this and may include Mutual funds, Put , Option, Depositories,
Call , Futures , forwards etc. The Commodity and metal indexes also
becomes a crucial part of it and may regarded as an important separate
indexes such NCDEX and MCX. The Derivatives may also include the
evolving measures to safeguard the investors and for that Securities and
Exchange Board of India is taking several measures in the day trading and
also take into account all precautions .

2
 Objective
• To know the awareness of the Derivative Market in Delhi City.
• To know which one is beneficial for the investor.
• To find what proportion of the population are investing in such
derivatives along with their investment pattern and product
preferences.
• 4.To gain some knowledge out of it by understanding the main
issues and criteria of financial market.
• 5.To have some experience of trading in the share market and
understanding the relevance of both derivatives and equity.

3
 Limitation
The limitations of the project was that the project made is being
undertaken for only two months so the proper information may
not be got . The second one is that the data taken are the clients
of the company and might they may not be interested in giving
the correct information as it may a disadvantage of human
behaviour. These are limitations must be seen in the project as if
more depth will require more and more analysis on a particular
topic to reach at a final result.

4
 Methodology
Problem Statement:
The topic, which is selected for the study, is “Derivative Market” in the
firm so the problem statement for this study will be, “Study of Dervatives
and its comparison with equity”
Research Source of Data:-
There are two types of sources of data which is being used for the
studies:-
Primary Source of Data:
Preparing a Questionnaire is collecting the primary source of data & it
was collected by interviewing the investors.
Secondary Source of Data:
For having the detailed study about this topic, it is necessary to have some
of the secondary information, which is collected from the following:-
Books. Magazines & Journals. Websites. Newspapers, etc.
Methods of Data Collection:-
The study to be conducted is about the awareness of the Derivative
Market in the Delhi City so the method of data collection used is “Survey
Method”.
Research Design:
The research design specifies the methods and procedures for conducting
a particular study. The type of research design applied here are
“Descriptive” as the objective is to check the position of the Derivative
Market in Delhi city. The objectives of the study have restricted the
choice of research design up to descriptive research design.

5
 Introduction
History of the Stock Broking Industry
Indian Stock Markets are one of the oldest in Asia. Its history dates
back to nearly 200 years ago. In 1887, they formally established in
Bombay, the "Native Share and Stock Brokers' Association" (which is
alternatively known as "The Stock Exchange"). In 1895, the Stock
Exchange acquired a premise in the same street and it was inaugurated in
1899. Thus, the Stock Exchange at Bombay was consolidated.
Thus in the same way, gradually
with the passage of time number of exchanges were increased and at
currently it reached to the figure of 24 stock exchanges. This was
followed by the formation of associations /exchanges in Ahmadabad
(1894), Calcutta (1908), and Madras (1937).
In order to check such aberrations and
promote a more orderly development of the stock market, the central
government introduced a legislation called the Securities Contracts
(Regulation) Act, 1956. Under this legislation, it is mandatory on the part
of stock exchanges to seek government recognition. As of January 2002
there were 23 stock exchanges recognized by the central Government.
They are located at Ahmadabad, Bangalore, Baroda, Bhubaneswar,
Calcutta, Chennai, (the Madras stock Exchanges), Cochin, Coimbatore,
Delhi, Guwahati, Hyderabad, Indore, Jaipur, Kanpur, Ludhiana,
Mangalore, Mumbai (the National Stock Exchange or NSE), Mumbai
(The Stock Exchange), popularly called the Bombay Stock Exchange,
Mumbai (OTC Exchange of India), Mumbai (The Inter-connected Stock
Exchange of India), Patna, Pune, and Rajkot. Of course, the principle

6
bourses are the National Stock Exchange and The Bombay Stock
Exchange, accounting for the bulk of the business done on the Indian
stock market.
Basis of Trading
The NEAT F&O system supports an order driven market, wherein orders
match automatically. Order matching is essentially on the basis of
security, its 73 price, time and quantity. All quantity fields are in units and
price in rupees.The exchange notifies the regular lot size and tick size for
each of the contracts traded on this segment from time to time. When any
order enters the trading system, it is an active order. It tries to find a match
on the other side of the book. If it finds a match, a trade is generated. If it
does not find a match, the order becomes passive and goes and sits in the
respective outstanding order book in the system.
Corporate hierarchy
In the F&O trading software, a trading member has the facility of defining
a hierarchy amongst users of the system. This hierarchy comprises
corporate manager, branch manager and dealer.
• Corporate manager: The term 'Corporate manager' is assigned to a
user placed at the highest level in a trading firm. Such a user can
perform all the functions such as order and trade related activities,
receiving reports for all branches of the trading member firm and
also all dealers of the firm. Additionally, a corporate manager can
define exposure limits for the branches of the firm. This facility is
available only to the corporate manager.

7
 • Branch manager: The branch manager is a term assigned to a user
who is placed under the corporate manager. Such a user can
perform and view order and trade related activities for all deale rs
under that branch.
• Dealer: Dealers are users at the lower most level of the hierarchy.
A Dealer can perform view order and trade related activities only
for oneself and does not have access to information on other dealers
undereither the same branch or other branches.

BSE (Bombay Stock Exchange)

The Stock Exchange, Mumbai, popularly known as" BSE" was
established in 1875 as "The Native Share and Stock Brokers
Association". It is the oldest one in Asia, even older than the Tokyo Stock
Exchange, which was established in 1878. It is the first Stock Exchange in
the Country to have obtained permanent recognition in 1956 from the
Govt. of India under the Securities Contracts (Regulation) Act, 1956.
A Governing Board having 20 directors is the apex body, which decides
the policies and regulates the affairs of the Exchange. The Governing
Board consists of 9 elected directors, who are from the broking comm.
Unity (one third of them retire ever year by rotation), three SEBI
nominees, six public representatives and an Executive Director & Chief
Executive Officer and a Chief Operating Officer.
NSE (National Stock Exchange)
NSE was incorporated in 1992 and was given recognition as a stock
exchange in April 1993. It started operations in June 1994, with trading on
the Wholesale Debt Market Segment. Subsequently it launched the

8
Capital Market Segment in November 1994 as a trading platform for
equities and the Futures and Options Segment in June 2000 for various
derivative instruments.

MCX (Multi Commodity Exchange)

‘Multi Commodity Exchange’ of India limited is a new order exchange
with a mandate for setting up a nationwide, online multi- commodity
market place, offering unlimited growth opportunities to commodities
market participants. As a true neutral market, MCX has taken several
initiatives for users in a new generation commodities futures market in the
process, become the country’s premier exchange. MCX , an independent
and a de-mutualized exchange since inception, is all set up to introduce a
state of the atr, online digital exchange for commodities futures trading in
the country and has accordingly initiated several steps to translate this
vision into reality.

NCDEX (National Commodities and Derivatives Exchange)

NCDEX started working on 15th December ,2003. This exchange provides
facilities to their trading members at different 130 contract. In commodity
market the main participants are speculators, hedgers and arbitrageurs.

Facilities Provided by NCDEX

• NCDEX has developed a facility for checking of commodity and
also provides awarehouse facility.

9
 • By collaborating with industrial companies, industrial partners,
news agencies, banks and developers of kiosk network. NCDEX is
able to provide current rates and contract rates.
• To prepare guidelines related to special products of securitization
NCDEX works with bank.
• To avail farmers from risk of fluctuation in prices of NCDEX
provides special services for agriculture.
• NCDEX is working with tax officer to make a clear different types
of sales and service tax.
• NCDEX is providing attractive products like “weather
Dervatives”.

Stock Market Basic

Companies are started by individuals or may be a small circle of people.
They pool their money or obtain loans, raising funds to launch the
business.
A choice is made to organize the business as a sole proprietorship
where one Person or a married couple owns everything, or as a
partnership
with others who may wish to invest money. Later they may choose
to "incorporate". As a Corporation, the owners are not personally
responsible or liable for any debts of the company if the company doesn't
succeed. Corporations issue official-looking sheets of paper that represent
ownership of the company. These are called stock certificates, and
each certificate represents a set number of shares. The total
number of shares will vary from one company to another, as each

10
makes its own choice about how many pieces of ownership to divide
the corporation into. One corporation may have only 2,500 shares,
while another, such as IBM or the Ford Motor Company, may issue
over a billion Shares. Companies sell stock (pieces of ownership) to
raise money and provide funding for the expansion and growth of
the business. The business founders give up part of their ownership
in exchange for this needed cash. The expectation is that even
though the owners have surrendered a portion of the company to
the Public, their remaining share of stock will become increasingly
valuable as the business grows. Corporations are not allowed to sell
shares of stock on the open Stock market without the approval of
the Securities and Exchange Commission (SEC). This transition from
a privately held corporation to a publicly traded one is called going
public, and this first sale of stock to the public is called an initial
public offering, or IPO.

Why do people invest in the stock market?

When you buy stock in a corporation, you own part of that
company. This gives you a vote at annual shareholder meetings,
and a right to a share of future profits. When a company pays out
profits to the shareholder, the money received is called a
"Dividend". The corporation's board of directors choose when to
declare a dividend and how much to pay. Most older and larger
companies pay a regular dividend; most newer and smaller
to sell. The potential of a small dividend check is of little concern.
What is usually responsible for increased interest in a company's

11
stock is the prospect of the company's sales and profits going up. A
company who is a leader in a hot industry will usually see its share
price rise dramatically. Investors take the risk of the price falling
because they hope to make more money in the market than they
can with safe investments such as bank CD's or government bonds.

What is a stock market index?

In the stock market world, you need a way to compare the
movement of the market, up and down, from day to day, and from
year to year. An index is just a benchmark or yardstick expressed as
a number that makes it possible to do this comparison. For e.g. S&P
CNX Nifty is the index of NSE and SENSEX is the index of BSE. The
price per share, like the market cap, has nothing to do with how big
a company is.
The Securities Market consists of two segments, viz. Primary
market and Secondary market. Primary market is the place where
issuers create and issue equity, debt or hybrid instruments for
subscription by the public; the Secondary market enables the
holders of securities to trade them. Secondary market essentially
comprises of stock exchanges, which provide platform for purchase
and sale of securities by investors. In India, apart from the Regional
StockExchanges established in different centers, there are exchanges like
the National Stock Exchange (NSE) and the Over the Counter Exchange
of India (OTCEI), who provide nation wide trading facilities with
terminals all over the country. The trading platform of stock exchanges is

12
accessible only through brokers and trading of securities is confined only
to stock exchanges.
Corporate Securities:
The no of stock exchanges increased from 11 in 1990 to 23 now. All the
exchanges are fully computerized and offer 100% on- line trading. 9644
companies were available for trading on stock exchanges at the end of
March 2002. The trading platform of the stock exchanges was accessible
to 9687 members from over 400 cities on the same date
Derivatives Market:
Derivatives trading commenced in India in June 2000. The total
exchange traded derivatives witnessed a volume of Rs. 442,343 crore
during 2002-03 as against Rs. 4018 crore during the preceding year.
While NSE accounted for about 99.5% of total turnover, BSE accounted
for about 0.5% in 2002-03. The market witnessed higher volumes from
June 2001 with introduction of index options, and still higher volumes
with introduction of stock options in July 2001. There was a spurt in
volumes in November 2001 when stock futures were introduced. It is
believed that India is the largest market in the world for stock futures.
Supply and Demand
A stock's price movement up and down until the end of the
trading day is strictly a result of supply and demand. The supply is
the number of shares offered for sale at anyone one moment. The
Demand is the number of shares investors wish to buy at exactly
that same time. What a share of a company is worth on anyone day
or at any one minute, is determined by all investors voting with their
money. If investors want a stock and are willing to pay more, the

13
price will go up. If investors are selling a stock and there aren't
enough buyers, the price will go down Period.
Secondary Market Intermediaries
Stock brokers, sub-brokers, portfolio managers, custodians,
share transfer agents constitute the important intermediaries in the
Secondary Market. No stockbrokers or sub-brokers shall buy, sell or
deal in securities unless he holds a certificate of registration granted
by SEBI under the Regulations made by SEBI ion relation to them.
The Central Government has notified SEBI (Stock Brokers & Sub-
Brokers) Rules, 1992 in exercise of the powers conferred by section
29 of SEBI Act, 1992. These rules came into effect on 20th August,
1992
Trading Through Brokers / Traditional Method of Share Trading:-
Trading in the stock exchange can be conducted only through
member broker in securities that are listed on the respective
exchange. Investor intending to buy/sell securities in the exchange
has to do so only through a SEBI registered broker/sub-broker. This
is very popular concept in India for Share Trading before the
facilities like on line trading introduce. Both the exchange have
switched over from the open outcry trading system to fully
automated computerized mode of trading knows as Bolt and Neat.
In this system, the broker trade with each other through the
computer network. Buyers and sellers place their orders specifying
the limits for quality and price. Those that are not matched remain
on the screen and is opened for future matching during the day /
settlement. After the advent of computerized trading the speed of

14
trading has increased multi-fold and a fuller view of the market is
available to the investors. To start dealing with broker you have to
fill a form with the broker. After fill all the formalities the firm gives
you a User Id no like a bank a/c no. through which you can enter in
the transaction with broker. Broker will gives all the which one
investor needed.
What is stock Broker?
“A stock broker is one who invests other people’s money until it’s all
gone.”
-Woody Allen, American Film Maker
• A stock broker is a person or a firm that trades on its clients behalf,
you tell them what you want to invest in and they will issue the buy
or sell order. Some stock brokers also give out financial advice that
you a charged for. It wasn’t too long ago and investing was very
expensive because you had to go through a full service broker
which would give youadvice on what to do and would charge you a
hefty fee for it. There are three different types of stock brokers.
• Full Service Broker - A full-service broker can provide a bunch of
services such as investment research advice, tax planning and
retirement planning.
• Discount Broker – A discount broker let’s you buy and sell stocks
at a low rate but doesn’t provide any investment advice.
• Direct-Access Broker- A direct access broker lets you trade directly
with the electronic communication networks (ECN’s) so you can
trade faster. Active traders such as day traders tend to use Direct
Access Brokers.

15
 No. of stock broker in India
9368 :- Total no of share broker in the country
12687 :- The no. of sub-broker.
46% :- The share of trades accounted for by NSE broker
90%: The share of on line trades clocked by segment’s top five companies
Generally there are two types of trading have been done in India which is
given below:
• On line Trading / E – Broking / Modern Method
• Trading through Brokers / Traditional method of Share trading.

16
 Company’s Profile
About the Company
MSB e_Trade Securities Limited. (MSB e-Trade) was incorporated in the
year of 1993, The company reached their strength in financial market by
the great effort of the Director of the company Mr. Munish Bajaj. MSB e-
Trade looks forward to tougher challenges and newer milestone to
conquer for get nothing less than the best. MSB e-Trade group providing
the trading platform Equities, Derivatives, Currency, IPOs, Mutual Fund,
Depository Services of NSDL(Launching Shortly) and Commodities (By
its group company) to raising the graph of your savings.

Team
MSB e-Trade group managed by a team of young professionals of
Chartered Accountant, Cost Accountants, Company Secretaries, MBAs,
Technicals and the other senior executives in Stock Broking, Future &
Options Trading, Currency Trading, Depository Services (Launching
Shortly), IPOs, Mutual Funds Services and Commodities Trading (by its
group company).

Membership
MSBe_tradeSecurities is Member of National Stock Exchange (NSE) for
Capital Market, Future & Option, Currency Derivative Segment Member
of MCX Stock Exchange (MCX-SX) for Currency Derivative
Segment.Awaiting for the Members of UnitedStockExchange of India
Ltd. (USEIL) for Currency Derivative Segment Member of Association

17
 of Mutual Fund In India (AMFI) Company is also planning for Depository
Participant with NSDL at the earliest.

Membership of Group Company

Kalyani Commodities Pvt. Ltd. (The Group company of MSB e-Trade)
Member of Multi Commodities Exchange (MCX)
Member of National Commodity & Derivative Exchange (NCDEX)
Member of National Multi Commodity Exchange (NMCE) &
Member of Indian Commodity Exchange (ICEX)

Business Associates
Kalyani Commodities Pvt Ltd. (Member of MCX. NCDEX, NMCE &
ICEX)

Swot Analysis
Strength-:
• Understandings of the markets
• All financial needs under one roof
• Scalable and robust infrastructure
• Full fledge research unit comprising of both fundamental &
technical research
• Dedicated, Qualified and Loyal staff
• Flexible Brokerage charges
Weakness:-
• Low Brand Image in the market.
• Low Professionalism

18
 • Low Advertisements
Opportunity:-
• Large potential market for delivery and intra-day transactions.
• Open interest of the people to enter in to stock market for
investing
• Attract the customers who are dissatisfied with other brokers &
DPs.
• Up growing markets in commodity and forex trading
Threats:-
• Decreasing rates of brokerage in the market. A Increasing
competition against other brokers & DPs.
• Poor marketing activities for making the company known
among the customers. A threat of loosing clients for any kind of
weakness of the company. An Indirect threat from instable stock
market, i.e., low/no profit of MSB e_trade's clients would lead them to
go for other broker/DP

Services Provided by MSB e_trade securities

Equity and Derivative
MSB e-Trade provides online & offline trading facilities in Equities,
Equities Derivatives & currency Derivatives to the investors on the basis
of live environment who are looking for the ease and convenience of
trading experience. We also provides the trading applications that would
approved by exchange. You can now trade & access from any destination
at your convenience. Investors may trade through our network or

19
telephonically by the designated representatives in the branch where you
are registered as a client.

Offline & Online Trading Features

• Live trading in a fraction of a second.

• Support by the executive.
• Quick order punching.
• Quick trade confirmation.
• Live streaming quoted. Price watch on any number of scripts.
• Online trading.
• Online access of accounts and DP.
• Set any number of price alerts on any number of scripts.
• Flexibility to customize screen layout and setting.
• Facility to customize any number of portfolios & watch lists.
• Facility to cancel all pending orders at one click.
• Facility to square off all transactions at one click.
• Top Gainers, Top losers, Most Active, updated live.
• Index information; index chart, index stock information live.
• Market depth, i.e. Best 5 bids and offers, updated live for all scripts
• Facility to place orders on the phone in all major cities.

Commodities
Kalyani Commodities Pvt. Ltd. (the group company of MSB e-Trade) is a
member Multi Commodity Exchange (MCX), National Commodity and

20
Derivative Exchange (NCDEX), National Multi Commodity Exchange
(NMCE) & Indian Commodity Exchange (ICEX). We are providing the
trading platform in commodities derivative.

Online Trading
MSB e-Trade providing the online trading facilities to the investors
through the platform approved by the exchange on free of cost

Mutual Fund and IPO

Distribution of Mutual fund & IPO MSB e-Trade registered with
Association of Mutual Fund in India (AMFI) for providing the Mutual
Fund services in India. We are also providing the online mutual fund
activities through National Stock Exchange (NSE). We also providing the
IPOs services through leading distributors of IPOs.
Depository
We are launching shortly the Depository Services to the investor.

Back Office
MSB e-Trade Providing the Bank office facility to the client registered
with us. Client can check the financial & securities details held in their
name. You can access or print the financial statement, Holding statement
etc. by the login id and password issue by the authority to the client at the
time opening of their trading account.

Products

21
• Equities & Derivative
• Currency Derivative
• Commodities Derivative
• Mutual Fund
• IPO

Offline

• Offline A/C is the A/C for the investors who are not familiar with the
use of computer.
• The A/C opening Charges applied (One time).
• For 1st Year Demat A/c is free , On 2nd year AMC charge is
applicable.

Online Account Requirements for online trading

• Linked Bank account

• Broking Account
• Linked Depository Account

Benefits of online trading

• Freedom from paperwork

• Instant credit and transfer
• Trade Anywhere
• Timely Advice and access to research
• Real-time portfolio tracking

22
• After hour orders
• Market Alerts
• Instant Quotes

Other services

• Dial-n-trade
• Mutual fund
• Commodity
• Derivative
• Depository Participants
• Distribution of Financial Services
• Research Based Advices
• Portfolio Management System
• Portofolia management System

DnT (Dial-n-Trade)

Dial n Trade is the name of the phone-trading facility offered by MSB

e_trade securities.
A call center wholly dedicated to order placement / confirmation
Easy 2-step process for order placement.
Step1. Enter your Phone ID
Step2. Enter your Client Code
On successful dial, call gets transferred to call center executives. MSB
e_trade Securities Private Limited, one of the cornerstones of the MSB
edifice, flows freely towards attaining diverse goals of the customer

23
through varied services. Creating a plethora of opportunities for the
customer by opening up investment vistas is backed by research-based
advisory services. Here, growth knows no limits and success recognizes
no boundaries. Helping the customer create waves in his portfolio and
empowering the investor completely is the ultimate goal.
Stock Broking Services
We offer trading on a vast platform; National Stock Exchange, Bombay
Stock Exchange, MCX & NCDEX. More importantly, we make trading
safe to the maximum possible extent, by accounting for several risk
factors and planning accordingly. We are assisted in this task by our in-
depth research, constant feedback and sound advisory facilities. Our
highly skilled research team, comprising of technical analysts as well as
fundamental specialists, secure result- oriented information on market
trends, market analysis and market predictions.
To empower the investor further we have made serious efforts to ensure
that our research calls are disseminated systematically to all our stock
broking clients through various delivery channels like email, chat, SMS,
phone calls etc.

Mutual Funds
Introduction:
Everybody talks about mutual funds, but what exactly are they? Are they
like shares in a company, or are they like bonds and fixed deposits? Will I
lose all my money in funds or will I become an overnight millionaire? Big
questions that get answer in just five minutes.
Meaning:

24
A mutual fund is a pool of money that is invested according to a common
investment objective by an asset management company (AMC). The
AMC offers to invest the money of hundreds of investors according to a
certain objective – to keep money liquid or give a regular income or grow
the money long term. Investors buy a scheme if it fits in with their
investment goals, like getting a regular income now or letting the money
accumulate over the long term. Investors pay a small fraction of their total
funds to the AMC each year as investment management fees.
Commodity
Organized futures market evolved in India by the setting up of "Bombay
Cotton Trade Association Ltd." in 1875. In 1893, following widespread
discontent amongst leading cotton mill owners and merchants over the
functioning of the Bombay Cotton Trade Association, a separate
association by the name "Bombay Cotton Exchange Ltd." Was
constituted. A future trading in oilseeds was organized in India for the
first time with the setting up of Gujarati Vyapari Mandali in 1900, which
carried on futures trading in groundnut, castor seed and cotton. Before the
Second World War broke out in 1939 several futures markets in oilseeds
were functioning in Gujarat and Punjab. There were booming activities in
this market and at one time as many as 110 exchanges were conducting
forward trade in various commodities in the country.
The securities market was a poor cousin of this market as there were not
many papers to be traded at that time. The era of widespread shortages in
many essential commodities resulting in nflationary pressures and the tilt
towards socialist policy, in which the role of market forces for resource

25
allocation got diminished, saw the decline of this market since the mid-
1960s.
This coupled with the regulatory constraints in 1960s, resulted in virtual
dismantling of the commodities future markets. It is only in the last
decade that commodity future exchanges have been actively encouraged.
However, the markets have been thin with poor liquidity and have not
grown to any significant level.
Conceptual Discussion
Derivative
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 asset prices. 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.

Depository Participants
The onset of the technology revolution in financial services Industry saw
the emergence of MSB as an electronic custodian registered with National
Securities Depository Ltd (NSDL) and Central Securities Depository Ltd
(CSDL). M S B set standards enabling further comfort to the investor

26
by promoting paperless trading across the country and emerged as the top
3 Depository Participants in the country in terms of customer serviced.
Offering a wide trading platform with a dual membership at both NSDL
and CDSL, we are a powerful medium for trading and
settlement of dematerialized Shares. We have established live
DPMs, Internet access to accounts and an easier transaction process in
order to offer more convenience to individual and corporate investors. A
team of professional and the latest technological expertise allocated
exclusively to our demat division including technological enhancements
like Speed-e; make our response time quick and our delivery impeccable.
A wide national network makes our efficiencies accessible to all.

Portfolio Management System

The company has initiated the process of obtaining permission from SEBI
for rendering PMS Service to its clients. We are planning to start PMS
Service to High Net Worth individual and NRIs after obtaining the
necessary regulatory clearances

Theoretical Aspect
Introduction:
According to dictionary, derivative means ‘something which is derived
from another source’. Therefore, derivative is not primary, and hence not
independent. In financial terms, derivative is a product whose value is
derived from the value of one or more basic variables. These basic
variable are called bases, which may be value of underlying asset, a

27
reference rate etc. the underlying asset can be equity, foreign exchange,
commodity or any asset.
For example: - the value of any asset, say share of any company, at a
future date depends upon the share’s current price. Here, the share is
underlying asset, the current price of the share is the bases and the future
value of the share is the derivative. Similarly, the future rate of the foreign
exchange depends upon its spot rate of exchange. In this case, the future
exchange rate is the derivative and the spot exchange rate is the base.
Derivatives are contract for future delivery of assets at price agreed at the
time of the contract. The quantity and quality of the asset is specified in
the contract. The buyer of the asset will make the cash payment at the
time of delivery.
Meaning:
Derivatives are the financial contracts whose value/price is dependent on
the behavior of the price of one or more basic underlying assets (often
simply known as the underlying). These contracts are legally binding
agreements, made on the trading screen of stock exchanges, to buy or sell
an asset in future.
The asset can be a share, index, interest rate, bond, rupee dollar exchange
rate, sugar, crude oil, soybean, cotton, coffee etc. In the Indian Context the
Security Contracts (Regulation) Act, 1956 (SC(R) A) defines “derivative”
to include – A security derived from a debt instrument, share, loan
whether secured or unsecured, risk instrument or contract for differences
or other form of security.

28
In financial terms derivatives is a broad term for any instrumental
whose value is derived from the value of one more underlying
assets such as commodities, forex, precious metal, bonds, loans,
stocks, stock indices, etc. Derivatives were developed primarily to manage
offset, or hedge against risk but some were developed primarily to provide
potential for high returns. In the context of equity markets, derivatives
permit corporations and institutional Investors to effectively manage their
portfolios of assets and liabilities through instrument like stock index
futures.
For example: - The price of Reliance Triple Option Convertible
Debentures (Reliance TOCD) used to vary with the price of Reliance
shares. In addition, the price of Telco warrants depends upon the price of
Telco shares. American Depository receipts / Global Depository receipts
draw their price from the underlying shares traded in India. Nifty options
and futures. Reliance futures and options, are the most common and
popular form of derivatives. Although trading in agriculture and other
commodities has been the deriving force behind the development of
derivatives exchanges, the demand for products based on financial
instruments such as bond, currencies, stocks and stock indices have now
for outstripped that for the commodities contracts. The history of the
derivatives dates back to the time since the trading came into being. The
merchants entered into contracts with one another for future delivery of
specified amount of commodities at specified price. A primary intention
for contracting for future date was to keep the transaction immune to
unexpected fluctuations in price. Therefore, derivative products initially
emerged as hedging devices against fluctuations in commodity prices.

29
However, the concept applied to financial trade only in the post-1970
period due to growing instability in the financial markets. However, since
their emergence, these products have become very popular and by 1990s,
they accounted for about two-third of the total transaction in derivative
products.
In recent years, the market for financial derivatives has grown
tremendously in terms of variety of instruments available, their
complexity and turnover. In the class of equity derivatives the world over,
futures and options on stock indices have gained more popularity than on
individual stocks, especially among institutional investors, who are major
users of index-linked derivatives. Even small investors find these useful
due to high correlation of the popular indexes with various portfolios and
ease of use.
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.
1848
A group of Chicago businessmen formed the Chicago Board of Trade
(CBOT). The primary intention of the CBOT was to provide a centralized
location known in advance for buyers and sellers to negotiate forward
contracts.
1865
The CBOT went one-step further and listed the first “exchange traded”
derivatives contract in the US; these contracts were called “future
contracts”
1919

30
Chicago Butter and Egg & board, a spin-off of 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.
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 was based on S&P 500 index, traded on Chicago Mercantile
Exchange. During the mid eighties, financial futures became the most
active derivatives 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 future contracts traded today. Other
popular international exchanges that trade derivatives are LIFFE in
England, DTB in Germany, SGX in Singapore, TIFFE in Japan, and
MATIF in France, Eurex, etc. India has been trading derivatives contract
in silver gold, spices, coffee, cotton, etc for decades in the gray market.
Trading derivatives contracts in organized market was legal before
Moorage Desai’s government banned forward conracts. Derivatives on
stocks were traded in the form of Teji and Mandi in unorganized on
exchanges. For example, now cotton and oil futures trade in Mumbai,
soybean futures trade in Bhopal, pepper futures in Kochi, coffee in
Bangalore, etc.

June 2000

31
National Stock Exchange and Bombay Stock Exchange started trading in
futures on Sensex and Nifty. Options trading on Sensex and Nifty
commenced in June 2001. Very soon thereafter trading began on options
and futures in 31 prominent stocks in the month of July and November
respectively.
Option and future are the most commonly traded derivatives, but as the
understanding of financial markets and risked management
continued to improve newer derivatives were created. The family includes
the host of other product such as forward contracts. Structured notes,
inverse floaters, caps & Floors and Collar Swaps. The largest derivatives
market in the world, are on government bonds (to help control interest rate
risk) the stock index (to help control risk that is associated with the
fluctuations in the stock market) and on exchange rates (to cope with
currency risk).
Risk Associated With Derivatives:
While derivatives can be used to help manage risks involved in
investments, they also have risks of their own. However, the risks
involved in derivatives trading are neither new nor unique – they are the
same kind of risks associated with traditional bond or equity instruments.
Market Risk
Derivatives exhibit price sensitivity to change in market condition, such as
fluctuation in interest rates or currency exchange rates. The market risk of
leveraged derivatives may be considerable, depending on the degree of
leverage and the nature of the security.
Liquidity Risk
Most derivatives are customized instrument and could exhibit

32
 substantial liquidity risk implying they may not be sold at a reasonable
price within a reasonable period. Liquidity may decrease
or evaporate entirely during unfavorable markets.

Credit Risk
Derivatives not traded on exchange are traded in the over-the- counter
(OTC) market. OTC instrument are subject to the risk of counter party
defaults.
Hedging Risk
Several types of derivatives, including futures, options and forward are
used as hedges to reduce specific risks. If the anticipated risks do not
develop, the hedge may limit the fund’s total return.

The derivative market performs a number of economic functions:-

• Prices in an organized derivatives market reflect the perception of
market participants about the future and lead the prices of underlying to
the perceived future level. The prices of derivative converge with the
prices of the underlying at the expiration of the derivative contract. Thus,
derivatives help in discovery of future as well as current prices.
• The derivatives market helps to transfer risks from those who have them
but may not like them to those who have an appetite for them.
• Derivatives, due to their inherent nature, are linked to the underlying
cash market. With the introduction of the derivatives, the underlying
market witnesses higher trading volumes because of the participation by
more players who would not otherwise participate for lack of
arrangement to transfer risk.

33
• Speculative trades shift to a more controlled environment of derivatives
market. In the absence of an organized derivative market, speculators
trade in the underlying cash market.
• An important incidental benefit that flows from derivatives trading is
that it acts as a catalyst for new entrepreneurial activity.
• The derivatives have a history of attracting many bright, creative, well
educated people with an entrepreneurial attitude. They often energize
others to create new businesses, new products and new employment
opportunities, the benefit of which are immense.
• Derivatives markets help increase savings and investment in the end.
Transfer of risk enables market participants to expand their volumes of
activity.
Participants of Derivative Market:-
Market participants in the future and option markets are many and they
perform multiple roles, depending upon their respective positions. A
trader acts as a hedger when he transacts in the market for price risk
management. He is a speculator if he takes an open position in the price
futures market or if he sells naked option contracts. He acts as an
arbitrageur when he enters in to simultaneous purchase and sale of a
commodity, stock or other asset to take advantage of mispricing. He earns
risk less profit in this activity. Such opportunities do not exist for long in
an efficient market. Brokers provide services to others, while market
makers create liquidity in the market.

Hedgers

34
Hedgers are the traders who wish to eliminate the risk (of price change) to
which they are already exposed. They may take a long position on, or
short sell, a commodity and would, therefore, stand to lose should the
prices move in the adverse direction.

Speculators
If hedgers are the people who wish to avoid the price risk, speculators are
those who are willing to take such risk. These people take position in the
market and assume risk to profit from fluctuations in prices. In fact,
speculators consume information, make forecasts about the prices and put
their money in these forecasts. In this process, they feed information into
prices and thus contribute to market efficiency. By taking position, they
are betting that a price would go up or they are betting that it would go
down.
The speculators in the derivative markets may be either day trader
or position traders. The day traders speculate on the price movements
during one trading day, open and close position many
times a day and do not carry any position at the end of the day.
They monitor the prices continuously and generally attempt to make profit
from just a few ticks per trade. On the other hand, the position traders also
attempt to gain from price fluctuations but they keep their positions for
longer durations may is for a few days, weeks or even months.

Arbitrageurs
Arbitrageurs thrive on market imperfections. An arbitrageur profits by
trading a given commodity, or other item, that sells for different prices in

35
different markets. The Institute of Chartered Accountant of India, the
word “ARBITRAGE” has been defines as follows:-
“Simultaneous purchase of securities in one market where the price there
of is low and sale thereof in another market, where the price thereof is
comparatively higher. These are done when the same securities are being
quoted at different prices in the two markets, with a view to make profit
and carried on with conceived intention to derive advantage from
difference in prices of securities prevailing in the two different markets”
Thus, arbitrage involves making risk- less profits by simultaneously
entering into transactions in two or more markets.
Types of derivatives:-
The most commonly used derivatives contracts are Forward, Futures and
Options. Here some derivatives contracts that have come to be used are
covered.
Forward:-
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.
Futures :-
A futures contact 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 For example: - A,
on 1 Aug. agrees to sell 600 shares of Reliance Ind.Ltd. @ Rs. 450 to B
on 1st sep. A, on 1st Aug. agrees to buy 600 shares of Reliance Ind. Ltd.
@ Rs. 450 to B on 1st Sep.

36
Options:-
Options are a right available to the buyer of the same, to purchase or sell
an asset, without any obligation. It means that the buyer of the option can
exercise his option but is not bound to do so. Options are of 2 types: calls
and puts.
• Calls:-
Call gives 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.
For example :- A, on 1st Aug. buys an option to buy 600 shares of
Reliance Ind. Ltd. @ 450 Rs 450 on or before 1st Sep. In this case, A has
the right to buy the shares on or before the specified date, but he is not
bound to buy the shares.
• Puts:-
Put gives 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. For example :- A, on 1st Aug. buys an option to sell 600 shares of
Reliance Ind. Ltd. @ Rs 450 on or before 1st Sep. In this case, A has the
right to sell the shares on or before the specified date, but he is not bound
to sell the shares. In both the types of the options, the seller of the option
has an obligation but not a right to buy or sell an asset. His buying or
selling of an asset depends upon the action of buyer of the option. His
position in both the type of option is exactly the reverse of that of a buyer.
Warrants :-

37
 Options generally have lives of up to one year, the majority of options
exchanges having a maximum maturity of nine months. Longer-dated
options are called warrants and are generally traded over-the-counter.
Leaps :-
The acronym LEAPS means Long-Term Equity Anticipation Securities.
These are options having a maturity of up to three years.

Basket :-
Basket options are options on portfolios of underlying assets are usually a
moving average of a basket of assets. Equity index options are a form of
basket options.
Swaps :-
Swaps are private agreement between two parties to exchange cash flows
in the future according to a pre arranged formula. They can be regarded as
portfolios of forward contract. The two commonly used swaps are as
follows :
• Interest rate swaps:-
These entail swapping only the interest related cash flows between the
parties in the same currency.
• Currency Swaps:-
These entail swapping both principal and interest between the parties,
with the cash flows in one direction being in a different currency than
those in the opposite direction.
Swaptions :-
Swaptions are options to buy or sell a swap that will become operative at
the expiry of the options. Thus, a swaptions is an option on a forward

38
swap. Rather than have calls and puts, the swaptions market has receiver
swaptions and payer swaptions. A receiver swaptions is an option to
receive fixed and pay floating. A payer swaptions is an option to pay fixed
and receive floating Out of the above-mentioned types of derivatives
forward.

Emergence of Derivative Trading in India

Approval For Derivatives Trading
The first step towards introduction of derivatives trading in India was the
promulgation of the Securities Laws (Amendment) Ordinance, 1995,
which withdrew the prohibition on options in securities. The market for
derivatives, however, did not take off, as there was no regulatory
framework to govern trading of derivatives. SEBI set up a 24 – member
committee under the chairmanship of Dr. L.C.Gupta on November 18,
1996 to develop appropriate regulatory framework for derivatives trading
in India. The committee submitted its report on March 17, 1998
prescribing necessary pre- conditions for introduction of derivatives
trading in India.
The committee recommended that derivatives should be declared as
‘securities’ so that regulatory framework applicable to trading of
‘securities’ could also govern trading of securities. SEBI also set up a
group in June 1998 under the chairmanship of Prof. J.R.Verma, to
recommend measures for risk containment in derivative market in India.
The repot, which was submitted in October 1998, worked out the
operational details of margining system, methodology for charging initial

39
margins, broker net worth, deposit requirement and real - time monitoring
requirements.
The SCRA was amended in December 1999 to include derivatives within
the ambit of ‘securities’ and the regulatory framework were developed for
governing derivatives trading. The act also made it clear that derivatives
shall be legal and valid only if such contracts are traded on a recognized
stock exchange, thus precluding OTC derivatives. The government also
rescinded in March 2000, the three – decade old notification, which
prohibited forward trading in securities.
Derivatives trading commenced in India in June 2000 after SEBI granted
the final approval to this effect in May 2000. SEBI permitted the
derivative segment of two stock exchanges, NSE and BSE, and their
clearing house/corporation to commence trading and settlement in
approved derivatives contract.
To begin with, SEBI approved trading in index future contracts based on
S&P CNX Nifty and BSE-30 (Sensex) index. This was followed by
approval for trading in options based on these two indices and options on
individual securities. The trading in index options commenced in June
2001. Futures contracts on individual stocks were launched in November
2001. Trading and settlement in derivatives contracts are done in
accordance with the rules, bye laws, and regulations of the respective
exchanges and their clearing house/corporation duly approved by SEBI
and notified in the official gazette.

Introduction to forward Contracts:-

Forward Contracts

40
A forward contract is an agreement to buy or sell an asset on a
specified date for a specified price. One of the parties to the
contract assumes a long position and agrees to buy underlying asset
on a certain specified future date for a certain specified price. The
other party assumes a short position and agrees to sell the asset on
the same date for the same price. The parties to the contract
negotiate other contracts details like delivery date, price, and
quantity bilaterally. The forward contracts are normally traded
outside the exchanges.
Salient features of forward contracts are as follows:-
• They are bilateral contracts and hence exposed to counter party risk.
• Each contract is custom designed, and hence is unique in terms of
contract size, expiration date and the asset type and quality.
• The contract price is generally not available in public domain
• On the expiration date, the contract has to be settled by delivery of
the asset.
• If the party wishes to reverse the contract, it has to compulsorily go
to the same counter party, which often results in high prices being
charged.

Limitation of forward market

Forward market worldwide is affected by several problems:-
• Lack of centralization.
• Illiquidity.
• Counter party risk

41
In the first two of these, the basic problem is that of too much flexibility
and generality. The forward market is like a real estate market in that any
two consenting adults can form contracts against each other. This often
makes them design terms of the deal, which are very convenient in that
specific situation, but makes the contract non-tradable.
Counter party risk arises from the possibility of default by any one party
to the transaction. When one of the two sides to the transaction declares
bankruptcy, the other suffers. Even when forward markets trade
standardized contracts, and hence avoid the problem illiquidity, the
counter party risk remains a very serious.

Introduction to Futures:-
Future contract is specie of forward contract. Futures are exchange- traded
contracts to sell or buy standardized financial instruments or physical
commodities for delivery on a specified date at an agreed price. Futures
contracts are used generally for protecting against rich of adverse price
fluctuations (hedging). As the terms of contracts are standardized, these
are generally not used for merchandizing purpose.
The standardized items in a futures contract are:
• Quantity of the underlying.
• Quality of the underlying.
• The date and month of delivery.
• The units of price quotation and minimum price change.
• Location of settlement.

42
Futures contract performs two important functions of price discovery and
price risk management with reference to the given commodity. It is useful
to all segment of economy. It is useful to the producer because investor
can get an idea of the price likely to prevail at a future point of time and
therefore can decide between various competing commodities, the best
that suits him. It enables the consumer get an idea of the price at which the
commodity would be available at a future point of time. He can do proper
costing and cover his purchases by making forward contracts. The future
trading is very useful to the exporters as it provides an advance indication
of the price likely to prevail and thereby help the exporter in quoting a
realistic price and thereby secure export contract in a competitive market.
Having entered into an export contract, it enables him to hedge his risk by
operating in futures market.
Other benefits of futures trading are:
• Price stabilization in time of violent price fluctuations- this
mechanism dampens the peaks and lifts up the valleys i.e. the
amplitude of price variation is reduced.
• Leads to integrated price structure throughout the country.
• Facilitates lengthy and complex, production and manufacturing
activities.
• Helps balance in supply and demand position throughout the year.
• Encourages competition and acts as a price barometer to farmers
and other trade functionaries.

FEATURE FORWARD FUTURE

CONTRACT CONTRACT

43
OPERATIONAL Traded Directly Traded on the
MECHANISM between two parties exchanges
(not traded on the
exchanges)
CONTRACT Differ from trade to Contracts are
SPECIFICATIONS trade. standardised
contracts
COUNTER PARTY Exists Exists. However by
RISK the clearing Corp.,
which becomes the
counter party to all
trades or
uncontionally
guarantees their
settlement.
LIQUIDATION Low, as contracts are High, as contracts are
PROFILE tailor made contracts standardised
catering to the needs exchange traded
of the parties. contracts.
PRICE Not efficient, as Efficient as markets
DISCOVERY markets are scattered. are centralized and all
buyers and sellers
come to a common
platform to discover
the price.

44
Margins
The margining system is based on the J R Verma committee
recommendations. The actual margining happens on a daily basis
while online position monitoring is done on an intra day basis. Daily
margining is of two types:
• Initial margins.
• Mark-to market profit/loss.
The computation of initial margin on the futures market is done using the
concept of Value-at-risk (VaR). The initial margin amount is large enough
to cover a one-day loss that can be encountered on 99% of the days. VaR
methodology seeks to measure the amount of value that a portfolio may
stand to lose within certain horizon period (one day for the clearing
corporation) due to potential changes in the underlying asset market price.
Initial margin amount computed using VaR is collected up-front. The
daily settlement process called “mark-to-market” provides for collection
of losses that have already occurred (historic losses) whereas initial
margin seeks to safeguard against potential losses on outstanding
positions. The mark-to- market settlement is done in cash.
Settlement of Future Contract:-
Futures contract has two types of settlement, the MTM settlement, which
happens on a continuous basis at the end of each day, and the final
settlement, which happens on the last trading day of the futures contract.
• MTM Settlement
All futures contact for each member is marked-to-market (MTM) to the
daily settlement price of the relevant futures contract at the end of each
day. The profits/losses are computes as a difference between:

45
 • The trade price and the day’s settlement price for contracts
executed during the day but not squared up.
• The previous day’s settlement price and the current day’s
settlement price for brought forward contracts.
The buy price and the sell price for the contracts executed during the day
and squared up. The clearing members (CMs) who have a loss are
required to pay the mark-to-market (MTM) loss amount in cash which is
in, turn passed on to the CMs who have made a MTM profit. This is
known as daily mark-to-market settlement. CMs are responsible to collect
and settle the daily MTM profits/losses incurred by the Trading members
(TMs) and their clients clearing and settling through them. Similarly, TMs
are responsible to collect/pay/losses/profits from/to their clients by the
next day. The pay-in and payout of the mark-to-market settlement are
affected on the day following the trade day. After completion of daily
settlement computation, all the open positions are reset to the daily
settlement price. Such position becomes the opening positions for the next
day.

• Final settlement for futures

On the expiry of the future contracts, after the close of trading hours,
NSCCL marks all positions of CM to the final settlement price and the
resulting profits/losses is settled in cash. Final settlement loss/profits
amount is debited/credit to the relevant CM’s clearing bank account on
the day following expiry day of the contract

Settlement price for futures:-

46
Daily settlement price on a trading day is the closing price of the
respective future contracts on such day. The closing price for the future
contracts is currently calculated as the last half an hour weighted average
price of a contract in the F&O segment of NSE. Final settlement price is
the closing price of the relevant underlying index/security in the capital
market segment of NSE, on the last trading day of the contract. The
closing price of the underlying Index/security is currently its last half an
hour weighted average value in the capital market segment of NSE.

Introduction to options-:
Options give the holder or buyer of the option the right to do
something. If the option is a call option, the buyer or holder has the right
to buy the number of shares mentioned in the contract at the agreed strike
price. If the option is a put option, the buyer of the option has a right to
sell the number of shares mentioned in the contract at the agreed strike
price. The holder of the buyer does not have to exercise this right.
Thus on the expiry of the day of the contract the option may or may not be
exercised by the buyer. In contrast, in a futures contract, the two parties to
the contract have committed themselves to doing something at a future
date. To have this privilege of doing the transaction at a future only if it is
a profitable, the buyer of the option has to pay a premium to the seller of
options.

Types of options:-

47
An option is a contract between two parties giving the taker/buyer)
the right, but not obligation, to buy or sell a parcel of shares at a
predetermined price possibly on, or before a predetermined rate. To
acquire this right the taker pays a premium to the writer (seller) of
the contract.
There are two types of options:
• Call Options
• Put Options
Call Options:
Call options give the taker the right, but not the obligation, to buy
the underlying shares at a predetermined price, on or before a
predetermined date. Call Options- Long & Short Positions
When you expect prices to rise, then you take a long position by
buying calls. You are bullish. When you expect prices to fall, then
you take a short position by selling calls. You are bearish.
Put Options:
A Put Option gives the holder of the right to sell a specific number of an
agreed security at a fixed price for a period. Put Options- Long & Short
Positions When you expect prices to rise, then you take a long position by
buying Puts. You are bearish.

When you expect prices to fall, then you take a short position by selling
Puts. You are bullish.
Particulars Call Options Put Options
If you expect a fall in price [Bearish] Short Long
If you expect a rise in price [Bullish] Long Short

48
TABLE SHOWING THE DEALING OF CALL & PUT OPTION
Call option Holder (buyer) Call option Writer (seller)
• Pays premium • Receives Premium
• Right to exercise and buy • Obligations of sell shares if
shares exercised
• Profit from rising prices • Profits from falling prices or
• Limited losses, potentially remaining neutral
unlimited gains. • Potentially unlimited losses ,
limited gains
Put option Holder (buyer) Put option Writer ( seller)
• Pays premium • Receives Premium
• Right to exercise and buy • Obligations of sell shares if
shares exercised
• Profit from rising prices • Profits from rising prices or
• Limited losses , potentially remaining neutral
unlimited gains. • Potentially limited losses ,
limited gains

Important Concepts:-
In -the- money option:
It is an option with intrinsic value. A call option is in the memory if the
underlying price is above the strike price. A put option is in the memory if
the underlying price is below the strike price.

Out- of- the- money:

49
It is an option that has no intrinsic Value, i.e. all of its value consists of
time value. A call option is out of the money if the stock price is below its
strike price.

At-the-money:
A term that describes an option with a strike price that is equal to the
current Market price of the underlying stock. But of the money if the stock
price is about its strike price.
Market Scenario Call Option Put Option
Market price > In- the- money Out- of- the- money
strike
price

Market price < Out- of- the- money In- the- money
strike
price

Market price = At- the- money At the- money

strike
price

Market price ~ strike Near- the- money Near- the- money

price

Intrinsic Value

50
In a call option, if the value of the underlying asset is higher than
the strike price, the option premium has an intrinsic value and is an
“in- the- money” option. If the value of the underlying asset is lower
than the strike price, the option has no intrinsic value and is an “out-
of- the- money” option. If the value of the underlying asset is
equivalent to the strike price, the call option is “at- themoney” and
has no intrinsic value or zero intrinsic value.In a put option, if the value of
the underlying asset is lower than the strike price, the option has an
intrinsic
value and is an “in- the- money” option. If the value of the underlying
asset is higher than the strike price, the option has no intrinsic value and is
“out- of- money” option. If the value of the underlying asset is equivalent
to the strike price, the put option is at the- money”

Time Value
Time value is the amount an investor is willing to pay for an option, in the
hope that at some time prior to expiration its value will increase because
of a favorable change in the price of the underlying asset. Time value
reduces as the expiration draws near and on expiration day; the time value
of the option is zero.

Option Price
An option cost or price is called “premium”. The potential loss for the
buyer of an option is limited to the amount of premium paid for the
contract. The writer of the option, on the other hand, undertakes the risk of
unlimited potential loss, for premium received. Thus,

51
Option Price = Premium Price
A premium is the net amount the buyer of an option pays to the seller of
the option. It does not refer to an amount above the base price, as the term
“premium” commonly used. The of an option has two important
constituents, intrinsic value and time value.
Premium = Intrinsic value + Time

Pricing with regard to Options:-

The Black and Scholes Model:
The Black and Scholes Option Pricing Model didn't appear overnight, in
fact, Fisher Black started out working to create a valuation model for
stock warrants. This work involved calculating a derivative to measure
how the discount rate of a warrant varies with time and stock price. The
result of this calculation held a striking resemblance to a well-known heat
transfer equation.
Soon after this discovery, Myron Scholes joined Black and the result of
their work is a startlingly accurate option pricing model. Black and
Scholes can't take all credit for their work; in fact their model is actually
an improved version of a previous model developed by A. James Boness
in his Ph.D. dissertation at the University of Chicago. Black and Scholes'
improvements on the Boness
model come in the form of a proof that the risk-free interest rate is the
correct discount factor, and with the absence of assumptions regarding
investor's risk preferences.
Black and Scholes Model:

52
In order to understand the model itself, we divide it into two parts. The
first part, SN [d1), derives the expected benefit from acquiring a stock
outright. This is found by multiplying stock price [S] by the change in the
call premium with respect to a change in the underlying stock price [N
(d1)]. The second part of the model, Ke [-rt) N (d2), gives the present
value of paying the exercise price on the expiration day. The fair market
value of the call option is then calculated by taking the difference between
these two parts.
Assumptions of the Black and Scholes Model:-
• The stock pays no dividends during the option's life
Most companies pay dividends to their share holders, so this might seem
a serious limitation to the model considering the observation that higher
dividend yields elicit lower call premiums. A common way of adjusting
the
model for this situation is to subtract the discounted value of a future
dividend from the stock price.

• European exercise terms are used

European exercise terms dictate that the option can only be exercised on
the expiration date. American exercise term allow the option to be
exercised at any time during the life of the option, making American
options more valuable due to their greater flexibility. This limitation is not
a major concern because very few calls are ever exercised before the last
few days of their life. This is true because when you exercise a call early,
you forfeit the remaining time value on the call and collect the intrinsic

53
value. Towards the end of the life of a call, the remaining time value is
very small, but the intrinsic value is the same.

• Markets are efficient

This assumption suggests that people cannot consistently predict the
direction of the market or an individual stock. The market operates
continuously with share prices following a continuous into process. To
understand what a continuous into process is, you must first know that a
Markov process is "one where the observation in time period t depends
only on the preceding observation." An into process is simply a Markov
process in continuous time. If you were to draw a continuous process you
would do so without picking the pen up from the piece of paper.

• No commissions are charged

Usually market participants do have to pay a commission to buy or sell
options. Even floor traders pay some kind of fee, but it is usually very
small. The fees that Individual investor's pay is more substantial and can
often distort the output of the model.

• Interest rates remain constant and known

The Black and Scholes model uses the risk-free rate to represent this
constant and known rate. In reality there is no such thing as the risk-free
rate, but the discount rate on U.S. Government Treasury Bills with 30
days left until maturity is usually used to represent it. During periods of
rapidly changing interest rates, these 30-day rates are often subject to
change, thereby violating one of the assumptions of the model.

54
 • Returns are log normally distributed
This assumption suggests, returns on the underlying stock are
normally distributed, which is reasonable for most assets that offer
options.

Advantages & Limitations:-

Advantage:
The main advantage of the Black-Scholes model is speed – it lets you
calculate a very large number of option prices in a very short time.
Limitation:
• The Black-Scholes model has one major limitation: it cannot be
usedto accurately price options with an American-style exercise as
it only calculates the option price at one point in time -- at
expiration. It does not consider the steps along the way where there
could be the possibility of early exercise of an American option.
• As all exchange traded equity options have American-style
exercise (i.e. they can be exercised at any time as opposed to
European options which can only be exercised at expiration) this is
a significant limitation.
• The exception to this is an American call on a non-dividend paying
asset. In this case the call is always worth the same as its European
equivalent as there is never any advantage in exercising early.
• Various adjustments are sometimes made to the Black-Scholes
price to enable it to approximate American option prices but these

55
 only works well within certain limits and they don't really work
well for puts.

Difference between derivative and equity

Warehousing No warehousing is No warehousing is
required required

Quality of Derivatives contract Equity contract don’t

underlying don’t have attribute have
assets of quality attribute of quality
Contract life Comparatively Having long and
having short
long contract life contract life

Maturity date Standardized Standardized

Return High Medium
Risk Very High Less
Liquidity Less Very high
Lot size Fixed by SEBI Not fixed by SEBI
Time of trading 9a.m to 3.30p.m 9a.m to 3.30p.m
Investment Very high Low
Amount

Regulatory Framework
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.

56
Securities Contract (Regulation) Act, 1956
SC(R)A aims at preventing undesirable transactions in securities by
regulating the business of dealing therein and by providing for certain
other matters connected therewith. This is the principal Act, which
governs the trading of securities in India. The term “securities” has been
defined in the SC(R)A. As per Section 2(h), the ‘Securities’ include:
• Shares, scripts, stocks, bonds, debentures, debenture stock or
other marketable securities of a like nature in or of any
incorporated company or other body corporate.
• Derivative
• Units or any other instrument issued by any collective
investment scheme to the investors in such schemes.
• Government securities
• Such other instruments as may be declared by the Central
Government to be securities.
• Rights or interests in securities.

“Derivative” is defined to include:

• A security derived from a debt instrument, share, loan whether
secured or unsecured, risk instrument or contract for differences or
any other form of security.
• A contract which derives its value from the prices, or index of prices,
of underlying securities.
• Section 18A provides that notwithstanding anything contained in any
other law for the time being in force, contracts in derivative shall be
legal and valid if such contracts are:

57
 • Traded on a recognized stock exchange
• Settled on the clearing house of the recognized stock exchange, in
accordance with the rules and bye–laws of such stock exchanges.

Securities and Exchange Board of India Act, 1992

SEBI Act, 1992 provides for establishment of Securities and Exchange
Board of India(SEBI) with statutory powers for (a) protecting the interests
of investors in securities (b) promoting the development of the securities
market and (c) regulating the securities market. Its regulatory jurisdiction
extends over corporate in the issuance of capital and transfer of securities,
in addition to all intermediaries and persons associated with securities
market. SEBI has been obligated to perform the aforesaid functions by
such measures as it thinks fit. In particular, it has powers for regulating
the business in stock exchanges and any other securities markets.
• registering and regulating the working of stock brokers, sub–brokers etc.
• promoting and regulating self-regulatory organizations.
• prohibiting fraudulent and unfair trade practices.
• calling for information from, undertaking inspection, conducting
inquiries and audits of the stock exchanges, mutual funds and other
persons associated with the securities market and intermediaries and self–
regulatory organizations in the securities market.
• performing such functions and exercising according to Securities
Contracts (Regulation) Act, 1956, as may be delegated to it by the
Central Government.

58
Regulations for derivatives Trading
SEBI set up a 24- member 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. The provisions 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.
• 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.

• The Exchange should have minimum 50 members.

• 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.

59
 • The clearing and settlement of derivatives trades would be through a

SEBI approved clearing corporation/house. Clearing

corporations/houses complying with the eligibility conditions as laid
down by the committee have to apply to SEBI for grant of approval.

• Derivative 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 networth for clearing
members of the derivatives clearing corporation/house shall be Rs.300
Lakh. The networth of the member shall be computed as follows:
Capital + Free reserves
Less non-allowable assets viz.,
• Fixed assets
• Pledged securities
• Member’s card
• Non-allowable securities(unlisted securities)
• Bad deliveries
• Doubtful debts and advances
• Prepaid expenses
• Intangible assets
• 30% marketable securities

60
 • The minimum contract value shall not be less than Rs.2 Lakh.

Exchanges have to submit details of the futures contract they propose to

introduce.

• The initial margin requirement, exposure limits linked to capital

adequacy and margin demands related to the risk of loss on the
position will be prescribed by SEBI/Exchange from time to time.

• 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 client the Risk
Disclosure Document and obtain a copy of the same duly signed by the
client.

• The trading members are required to have qualified approved user and
sales person who have passed a certification programme approved by
SEBI. 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.

61
 Analysis and Interpretation

Q.1 Are you trading in derivative market?

Frequencies Percentage
Yes 74 37.0
No 126 63.0
Total 200 100.0
Objective: To know that whether the investors are trading in derivative
market or not.

Q.2 Reasons for not investing in derivative market.

Objective : To know the reason why investors are not trading in
trading in derivative market.
Reasons Frequency Percent
Lack of knowledge 26 20.6
Lack of awareness 19 15.1
High risky 62 49.2
Huge amount of 17 13.5
investment

Other 2 1.6

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Total 126 100

Q.3 what is the objective of trading in derivative market?

Objective: To know that why they are trading in derivative market.
Frequency Percent
Don’t trade 126 63.0
Not at all preferred 2 1.0
Neutral 2 1.0
Some how preferred 5 2.5
Most preferred 65 32.5
Total 200 100

Q.4 What are the criteria do you taken in the consideration while investing
in derivative market?
Objective : To know that which criteria are consider by the investors while
they are investing in derivative market. Which criteria are most important
for them whether derivatives are ease in transaction, less costly, or
available of different contract or for the margin money.
Frequency Percent
Don’t trade 126 63.0
Not at all preferred 2 1.0
Some how not 4 2.0
preferred

Neutral 16 8.0
Some how preferred 23 11.5
Most preferred 29 14.5
Total 200 100

Q-5 Give your preference of trading in derivative instrument.

Objective: To know the preference of the investors while they are

63
trading in derivative market.
Frequency Percent
Don’t trade 126 63.0
Not at all preferred 1 .5
Some how not 1 .5
preferred
Neutral 15 7.5
Some how preferred 14 7.0
Most preferred 43 21.5
Total 200 100

Q-6 Give your preference in term of trading in derivative

market?
Objective : To know the preference of the investors in term of
trading in derivative market.
Frequency Percent
Don’t trade 126 63.0
Not at all preferred 4 2.0
Some how not 1 .5
preferred
Neutral 5 2.5
Some how preferred 10 5
Most preferred 54 27
Total 200 100

Q-7 How much percentage of your income you trade in derivative market?
Objective: To know investors are how much percentage of their
income trade in derivative market.
Frequency Percent
Don’t trade 126 63.0
Less than 5% 8 4.0
5%-10% 25 12.5

64
11%-15% 25 12.5
16%-20% 13 6.5
More than 20% 3 1.5
Total 200 100

Q-8 what is the rate of return expected by you from derivative market?
Objective: To know the investors expectation towards their
investment in derivative market.
Frequency Percent
Do not trade 126 63.0
5%-9% 21 10.5
10%-13. % 22 11.0
14%-17. % 23 11.5
18%-23% 8 4.0
Total 200 100

Q-9. You are satisfied with the current performance of the derivative
market.
Objective: To know that investors are satisfied with the performance of the
derivative market or not.

Frequency Percent
Do not trade 126 63.0
Strongly disagree 8 4.0
Disagree 14 7.0
Neutral 18 9.0
Agree 25 12.5
strongly agree 9 4.5

65
Total 200 100

Gender:
Frequency Percent
Male 157 78.5
Female 43 21.5
Total 200 100

Age:
Frequency Percent
Below 20 years 3 1.5
20-25 years 61 30.5
26-30 years 51 25.5
31-35 years 43 21.5
above 35 years 42 21.0
Total 200 100

Occupation:
Frequency Percent
Student 35 17.5
Employeed 82 41.0
Business 32 16.0
Professional 22 11.0
Housewife 13 6.5
Others 16 8.0
total 200 100

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 Findings and Suggestions
• Here we found that out of 200 investors 74 means 37%
investors are trading in derivative market whereas 126 means 63% are
not trading in derivative market.
• Reasons for not investing in derivative market Is derivative is
because lack of awareness and knowledge, high risky, need huge
amount of investment.
• The main objective I of trading in derivative market of the
investors is getting high return.
• Criteria for trading is considered by investors are derivatives in
derivative they get margin money and derivatives are more liquid.
• Their attractive preference is index future and index options
• Most of the investors are trading intraday.
• Out of 200 investors 12.5% investors are investing 11% to 15%
of their income trading in derivative market.
• 12.5% are satisfied with derivative market.
• 157male investors and 43 female investors out of 200 investors.
• Most of the businessman and employed are trading in derivative
market.

67
 Recommendations
• Only 74 investors are trading whereas 126 are not trading .so attract
them for trading.
• 19 are lack of awareness so make them aware with the derivative so
increase the customer.
• Out of 126, 26 don’t have knowledge for derivative so provide
them knowledge for trading in derivative market.
• Those who are not satisfied with the derivative by knowing their
behavior of investment make them satisfied. Because negative word
mouth of the customers fall down the business. And good word of
mouth builds the business.

68
 Conclusion
• The awareness regarding Derivative among investor is 78 percent

• In terms of investment in Derivative and Equity investors have

Capability of taking risk.

• Investors also prefer Safety and Time Factor as the important

parameter for investing.

• The important factor that affecting the investor decision is based on
In Consult With Their Broke .

69
 Bibliography

Websites referred –:
• http://www.nseindia.com, (last accessed on 3 Aug ,2010, 2:00 pm)
• http://www.bseindia.com, (last accessed on 3 Aug ,2010, 4:30 pm)
• http://www.msbetrade.com, (last accessed on 6 Aug, 2010, 6:00 pm)
• http://www.mcx.com. , (last accessed on 6 Aug , 2010 , 7:30 pm)
• http://www.ncdex.com , (last accessed on 8 Aug , 2010 , 5:00 pm)
• http://www.moneycontrol.com , (last accessed on 9 Aug , 2:30 pm)

Books-:
• Satyajit Das ( 3rd edition revised) , Derivative Products and Pricing,

Wiley Finance
• Satyajit Das (Revised Edition) , Traders Guns & Money , Whiley

Finance

70
 Annexure
Questionnaire
Q1. Are you investing in Derivative Market?
Yes
No
Q2. Reason for not investing in Derivative Market.
{Give the rank}
• Lack of Knowledge

• Lack of awareness

• High risky

• Huge amount of investment

• other

Q3.What are the objectives of the investing in derivatives Market ?

Scale 5 4 3 2 1
Instrument Most Somewhat Neutral Somewhat Not at
prefered prefered not all
prefered Prefered
High
Return
Hedge
The Risk

71
 More
reliable
Safe to
invest in
derivative
market
More
Liquid

Q4. What are the criteria do you taken in the consideration while investing
in derivative market?
Scale 5 4 3 2 1
Instrument Most Somewhat Neutral Somewhat Not at
prefered prefered not all
prefered prefered
Flexibilty
Ease in
transaction
Less costly
Availabilt
y ogf
different
Contract
Margin
money

72
Q5. Give your preference of investment in derivative instrument.

Scale 5 4 3 2 1
Instrument Most Somewhat Neutral Somewhat Not all
prefered prefered not Prefered
prefered
Index
future
Stock
Future
Index
Option
Stock
Option

Q6. Give your preference in terms of investment in derivative market.

Scale 5 4 3 2 1
Instrument Most Somewhat Neutral Somewhat Not all
prefered prefered not Prefered
prefered
Short term
Medium
term
Long term

Q7. How much Percentage of your income you invest in derivative

market?
• Less than 5%
• 5% TO 10%

73
 • 11% TO 15%
• 16% TO 20%
• More Than 20%

Q8. What is the rate of return expected by you from derivative market ?
• 5 % TO 9.5%
• 10% TO 13.5%
• 14 % TO 17%
• 18% TO 23%
• Above 23%

Q9. You are satisfied with the current performance of the derivative in
terms of expected return.
• Strongly Agree
• Agree
• Neutral Disagree
• Strongly Disagree
Demographic profile
Name:………………………
Contact No............................
Email id:……………………
Age-:
• Below 20 yrs.
• 20 – 30 yrs.
• 30-40 yrs.

74
 • 40-50 yrs
• Above 50 yrs.

Gender-:
• Male
• Female

Income (yearly)-:
• Less than 100000
• 100000-200000
• 200000-300000
• 300000-400000
• Above 400000

75