Why Derivatives in India

Increased volatility in asset prices Integration of National & International Market

Low Transaction Cost of Trading

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Development of Risk Management Tools

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Origin
First introduced in Chicago Board of Trade in 1848 for forward contract in Commodities

1.

2.
G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Derivative Introduce in Indian Stock Exchanges in June 2000

Derivatives Trading on Exchanges

Index Futures

Index Options

Stock Futures

Stock Options

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Business Growth of F&O Segment in India

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Types of Market

Spot Market

Derivative Market

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Spot Market
Assets Class Equity Commodity Delivery Shares Physical Physical
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Immediate Delivery

Immediate Payment
G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Currency

Derivative Market

Forward Segment

Future Segment

Options Segment
G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS 8

Forwards
Two Private Parties Transaction at Expiry Date

Contact

Physical / Cash Settlement

(Forward Price)

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Participants in Forward Contract

Money

Delivery of Asset

Buyer (Who takes a long position)

Seller (Who takes a short position )

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Future
Contract Between Two Parties Traded in Recognized Stock Exchange Future Date

Price Agreed Upon Today

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS 11

Participants in Futures Contract

Payment

Sell Contract

Buy Contract

Payment

Future Buyer

Clearing Corporation

Future Seller

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Positions in a Futures Contract

When a person buy a futures contract

Long

Short
G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

When a person sell a futures contract

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Difference Between Future & Forward

Forward Future

Nature of Contracts Counterparty

Customized Any Party

Standardized Clearing Corporation

Credit Risk
Liquidity Margins Valuation
G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Exist
Very Low Not Required Not Done

No Risk
Very High Received / Paid on Daily Basis Daily Basis

Delivery

Physical / Cash

No Delivery

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Options
A contract between two parties

Where Buyer of the option has the right and not obligation to fulfill the contract Seller is under obligation to fulfill the Contract
G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS 15

Types of Options

Call Option

Options
Put Option

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Call Options
Right to Buy

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Put Options
Right to Sell

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Factors impacting Option Prices

Underlying Price

Strike Price

Time to Expiration

Risk Free Rate

Volatility

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Derivative Terminology
Lot Size Expiry Date Contract Size

Spot Price

Strike Price

Initial Margin

Mark to Market Margin

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Option Premium

Closing Price
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Contact Specification
S. no 1 Terminology Lot Size Remark Minimum Quantity traded in a lot decided by the exchanges Index Future (Nifty) 50 Index Option (Nifty) 50

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Spot Price Future/Strike Price

Option Premium

Price prevailing in delivery market Price Prevailing in future market/price for which call or put option exercise
Amount decided by the exchange on the basis of strike price and spot price Last Thursday of a month Next Three Month

5500 5550

5500 5550

100

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Expiry Date Contract

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Last Thursday Feb, March, April

Last Thursday Feb, March, April

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Contact Specification
S. no 7 Terminology Initial Margin Remark Minimum amount required to make position (Suppose 25% of contract Size) Option Premium * Lot Size 8 9 Closing Price Mark to Market Margin Closing Price at the end of day Difference between Trade price & closing Price (Daily Settled ) MTM=(Trade price closing price)* Lot Size 5500 Pay Rs 2,500 No MTM as we pay whole amount Index Future (Nifty) Rs 69,375 (25% of 2,77,500) Rs 5,000 (100*50) Index Option (Nifty)

(5550-5500)*50

Our Expectation is that index rise

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS 22

Participant
Hedgers
Insuring an investment against risk.
Who bets on derivatives markets Attempt to profit from pricing inefficiencies
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Speculators

Arbitrageurs
G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Play Grounds

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Important Website
www.nseindia.com www.bseindia.com

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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Taxation
Particulars Income /Loss from Derivatives

Head Income from Business & Profession Taxed Loss from Derivatives According to the tax slab Adjusted under all Five Head Profit & Carry Forward to Next Year
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G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Cost of Trading in Derivative

Sr. Taxes Rates 3,00,000 Futures 3,000 Options Buy 1 Lot of Nifty at 6000 ,Contract Size ( 50shares* 6000) / Buy 6000 call option at 60 Rs premium(50shares*60)
Brokerage 1 Service Tax 2 Securities Transaction Tax(STT) Stamp Duty 4 5 Education Cess 0.03 % On Contract Size/2.5% on Option Premium (Both Side) 10.36% on Brokerage Amount (Both Side)

90 Rs (0.03% on 3,00,000)

75 Rs (2.5% on 3,000)

9.32 (10.36% on 90 Rs)

7.77 (10.36% on 75 Rs) 2.55 (0.0085% on 3000Rs) 1.2(0.004% *3,000Rs)

0.017% on Contract Size 25.50 (Only on Selling Side) (0.0085% on 3,00,000 Rs) 0.004% on Contract Size(Both Side) 2% on Tax Amount 12(0.004% on 3,00,000 Rs)

0.93(2% on 9.32+25.50+12)

0.23(2% * 7.77+2.55 +1.2) 0.0028 (1% on 0.23)

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Higher Edu Cess

1% on Education Cess

0.014 (1% on 0.93) 137.76

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

Total Cost

86.75

How does One Make Money in A Futures Contract?

Trade according to the trends Complete knowledge of Derivatives Discipline Approach Keep Stop loss on every trade

G.Venkatachalam, M.Com, MBA,M.Phil,(Ph.D)/AP/DMS

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