Derivatives Trading in India|Finance|Case Study|Case Studies

Derivatives Trading in India

            
 
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Case Details:

Case Code : FINC026
Case Length : 15 Pages
Period : 2000 - 2003
Pub. Date : 2004
Teaching Note :Not Available
Organization : Bombay Stock Exchange
Industry : Banking and Financial Services
Countries : India

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This case study was compiled from published sources, and is intended to be used as a basis for class discussion. It is not intended to illustrate either effective or ineffective handling of a management situation. Nor is it a primary information source.



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"The introduction of derivatives trading will separate leveraged positions from the spot markets and make it easier for exchanges to implement rolling settlement. This should reduce volatility in the existing markets, and make risk containment and regulation easier by making markets safer."1

- Ashish Kumar Chauhan, Vice-President, National Stock Exchange (NSE).

"It had to start at one point of time or the other. Just like a plant needs soil, water and minerals to nurture well, for derivatives you need a healthy cash market in place." 2

- Alok Churiwala, Member of Bombay Stock Exchange (BSE).

Introduction

On June 9, 2000, the Bombay Stock Exchange (BSE) introduced India's first derivative instrument - the BSE-30(Sensex) index futures. It was introduced with three month trading cycle - the near month (one), the next month (two) and the far month (three).

The National Stock Exchange (NSE) followed a few days later, by launching the S&P CNX Nifty3 index futures on June 12, 2000. The plan to introduce derivatives in India was initially mooted by the National Stock Exchange (NSE) in 1995. The main purpose of this plan was to encourage greater participation of foreign institutional investors (FIIs) in the Indian stock exchanges. Their involvement had been very low due to the absence of derivatives for hedging risk. However, there was no consensus of opinion on the issue among industry analysts and the media. The pros and cons of introducing derivatives trading were debated intensely. The lack of transparency and inadequate infrastructure of the Indian stock markets were cited as reasons to avoid derivatives trading.

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Derivatives were also considered risky for retail investors because of their poor knowledge about their operation. In spite of the opposition, the path for derivatives trading was cleared with the introduction of Securities Laws (Amendment) Bill in Parliament in 1998.

The introduction of derivatives was delayed for some more time as the infrastructure for it had to be set up. Derivatives trading required a computer-based trading system, a depository4 and a clearing house5 facility. In addition, problems such as low market capitalization of the Indian stock markets, the small number of institutional players and the absence of a regulatory framework caused further delays. Derivatives trading eventually started in June 2000. The introduction of derivatives was well received by stock market players. Trading in derivatives gained substantial popularity, and soon the turnover of the NSE and BSE derivatives markets exceeded the turnover of the NSE and BSE cash markets...

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1] Nina Mehta, "Derivatives En Route to India," Derivatives Strategy, May 1999.

2] Prashant Mahesh, "India's Millennium Move," www.financialexpress.com, January 25, 2000.

3] S&P CNX Nifty is a diversified 50 stock index of NSE. The 50 stocks that are included account for 23 sectors of the economy and are the most liquid stocks on NSE. The name S&P CNX reflects the identity of both the promoters i.e. NSE and Crisil & their consulting partner Standard & Poor (S&P).

4] A depository is an organization which holds securities like shares, debentures, bonds, government securities etc., of investors in electronic form. It also provides services related to the transaction of securities.

5] A clearing house facilitates the clearing and settlement operations of the funds and securities of the trades done on stock exchanges.

 

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