Financial

Instruments
Group 5
Ankit Saklani, 13P125
Ashima Tayal, 13P130
Jain Himanshu Hemant, 13P143
Kaushik Trilok Nihalani, 13P148
Rattanpreet Singh, 13P161
Shashank Shukla, 13P166

Financial Instrument
A financial instrument is a tradableassetof any kind; either cash, evidence of
an ownership interest in an entity, or a contractual right to receive or deliver
cash or another financial instrument.

History
of FIs
in India
Hundis
are used
A financial
instrumentthat
developed on the
Indian subcontinent for use
in trade and
credit
transactions.

as a form of
remittance
instrument to
transfer money
from place to
place, as a form
of credit
instrument or
IOU to borrow
money and as
abill of
exchange in
trade
transactions.

As per the RBI,

the Hundi is "an
unconditional
order in writing
made by a
person directing
another to pay a
certain sum of
money to a
person named in
the order.

Financial
Instruments
Cash
Instruments

Loans

Securiti
es

Debt
Security

Derivative
Instruments

Deposits

Equity
Security
Forward
s

Futures

Options

Swaps

Financial Instruments (1/2)

Long Term Financial Instruments

Post Office Savings: Post Office Monthly Income Scheme is a low risk saving
instrument, which can be availed through any post office. It provides an interest
rate of around 8% per annum, which is paid monthly
Public Provident Fund: A long term savings instrument with a maturity of 15
years and interest payable at 8% per annum compounded annually. Tax benefits
can be availed for the amount invested and interest accrued is tax-free
Company Fixed Deposits: These are short-term (6 months) to medium-term (3-5
years) borrowings by companies at a fixed rate of interest which is payable
monthly, quarterly, semiannually or annually. The rate of interest varies between 69% per annum for company FDs. The interest received is after deduction of taxes
Bonds is generally a promise to repay the principal along with a fixed rate of
interest on a specified date, called the Maturity Date. It is a fixed income (debt)
instrument issued for a period of more than one year with the purpose of raising
capital
Mutual Funds: These are funds operated by an investment company which raises
money from the public and invests in a group of assets. Benefits include
professional money management, buying in small amounts and diversification
Equities are a type of security that represents the ownership in a company.
Investing in equities is a good long-term investment option as the returns on
equities over a long time horizon are generally higher than most other investment
avenues. However, along with the possibility of greater returns comes greater risk.

Financial Instruments (2/2)

Short Term Financial Instruments
Savings Bank Account is often the first banking product people use, which offers
low interest (4%-5% p.a.), making them only marginally better than fixed deposits.
Money Market or Liquid Funds are a specialized form of mutual funds that
invest in extremely short-term fixed income instruments and thereby provide easy
liquidity. Unlike most mutual funds, money market funds are primarily oriented
towards protecting your capital and then, aim to maximize returns
Fixed Deposits with banks are for investors with low risk appetite, and may be
considered for 6-12 months investment period as normally interest on less than 6
months bank FDs is likely to be lower than money market fund returns

Derivative is a
product whose
value is derived
from the value of
one or more basic
variables, called
underlying. The
underlying asset
can be equity,
index, foreign
exchange (forex),

Derivative

Debt instrument
represents a
contract whereby
one party lends
money to another
on pre-determined
terms with regards
to rate and
periodicity of
interest, repayment
of principal amount

Debt

Equity

A stock or any other

security
representing an
ownership interest.
Total equity capital
of a company is
divided into equal
units of small
denominations,
each called a share

Equity Securities
Represent ownership in a firm and include:
Common Stock: A residual claim on firms assets. Its dividends are paid only after
interest are paid to debt holders and preferred stockholders
Preferred Stock: An equity with schedule dividends that typically do not change over
securitys life.
Warrants: Give bondholder an additional opportunity for returns when included with
bonds. Give holder a right to buy firms common share at given price over a period of
timeDebt Securities
Type of Bonds
1. Are promises to repay borrowed money
in future
2. Different type of debt securities are
bonds, notes commercial papers, bills,
certificate of deposits
3. Bonds: Promise to make a series of
interest payment in fixed amounts and
to repay principal amount in maturity.
Are generally long term
4. There are several terms related to bond:
1. Maturity: Date on which principal is
to be repaid
2. Par Value: Principal amount
3. Coupon Rate: Rate at which interest

1. Sovereign Bond: Issued by National

governments or their treasuries backed
by taxing power, considered free from
default risk
2. Non Sovereign Government Bonds:
Issued by state, provinces, countries or
sometimes by entities created to fund
services such as hospitals, airports
3. Agency or Quasi Government Bonds:
Issued by agencies created by national
government
4. Supranational Bonds: Issued by
supranational agencies also known as
multilateral agencies. Examples: IMF,

Forward Contract
1. A forward contract is a customized contract between two parties, where settlement
takes place on a specific date in future at a price agreed today
2. Unique in terms of contract size, expiration date and the asset type and quality and
exposed to counter party risk
3. The contract price is generally not available in public domain
4. Has to be settled by delivery of the asset on expiration date
5. In case the party wishes to reverse the contract, it has to compulsorily go to the same
counter party, which being in a monopoly situation can command the price it wants
6. Created by dealers and are generally traded over the counter
7. Party that agrees to buy the asset has a long forward position and is called a long and
other party has a short forward position and is called short

Futures
1. Futures are exchange-traded contracts to sell or buy financial instruments or physical
commodities for a future delivery at an agreed price
2. They are standardized as to amount, asset characteristics and delivery time
3. Clearinghouse is the counter party too all future contracts. Each exchange has a
clearing house which guarantees that traders in futures market will honor their
obligation
4. Government regulates the future market
5. Future contracts require a margin money which is to be deposited by both long and
short

Difference between Forwards and futures

Serial
No

Basis

Futures

Forwards

Nature

Traded on organized exchange

Over the Counter

Contract Terms

Standardized

Customised

Liquidity

More liquid

Less liquid

Margin Payments

Requires margin payments

Not required

Settlement

Follows daily settlement

At the end of the period

Squaring off

Contract can be reversed

Can be reversed with any member of only with the same
the Exchange
counter-party with whom
it was entered into

Options
1. An option contract gives its owner the right but not the legal obligation to conduct a
transaction involving an underlying asset at a predetermined future date and at a
predetermine price
2. Option give option buyer the right to decide whether the trade will eventually take place
or not
3. The seller of the option has obligation to perform if buyer exercises the option
4. Call option give buyer the right to buy a given quantity of the underlying asset, at a
given price on or before a given future date
5. Puts give the buyer the right to sell a given quantity of the underlying asset at a given
price on or before a given date

Swaps

1. Are agreements for exchange of one security for another to change the maturity
(bonds), quality of issues (stocks or bonds), or because investment objectives have
changed
2. Recently, swaps have grown to include currency and interest rate swaps
3. Interest rate swaps: These entail swapping only the interest related cash flows between
the parties in the same currency
4. 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

Financial Markets
A financial market is a place where buyers and sellers come together to exchange
a financial asset or a financial instrument
They play an important role in all the stages of life of an FI, i.e., issuance, pretrade, trade, post-trade and asset servicing
Examples: Stock markets, Bond Markets, Money Markets, Forex Markets

Financial
Market

Primary
Market

Secondar
y Market

Issuance

IPO

FPO

Rights
Issue

Pre Trade
Analysis

Private
Placemen
ts

Over the
Counter

Trade

Post Trade

Listed
Market

Asset
Servicing

Primary Market
Bonds are issued by RBI.
But for equity, there is a standard
process to raise money, in one of
the following ways:
IPO: A privately owned company
offers equity shares to the
investing public for the first time
Private Placements: A company
raises money by placing shares
with a few institutions only
FPO: A publicly held company
raises
additional
money
by
issuing shares to the public
Rights Issue: A publicly held
company raises money by issuing
shares to existing shareholders
only

Secondary Market
Pre Trade Analysis
Banks or NBFCs involved in trading
undertake technical analysis and
fundamental analysis of the shares
before selling/buying it so that trade is not
entirely left to market sentiment
Also, there are information dissemination
systems which provide market information,
using which traders can make buy/sell
decisions. Eg. Reuters
Trade
Listed Markets are physical forums. Eg.
BSE, follows order matching system.
Another eg. NYSE
OTC is a market without a physical
location and trade is carried out on
telephone or a trading system
Post Trade and Asset Servicing
This involves clearing and settlement of a
transaction.

ADR/GDR
Introduction

AnAmerican depositary receipt

(ADR)orglobal depositary receipt (GDR)is a
simple way for investors to invest in companies
whose shares are listed abroad

It can be listed on a stock exchange and

bought and sold just like a normal share.
The holder of an ADR or GDR is entitled to all
benefits such as dividends and rights issues
from the underlying shares.
They are sometimes but not always able to
vote
The first ADR was introduced byJ.P. Morganin
1927 for the British retailerSelfridges.

Benefits
Benefits To Issuer
Broader and more diversified investor
exposure, which may improve liquidity
Enhanced visibility for the companys
products or services in a marketplace
outside its home country
A flexible mechanism for raising capital
and a vehicle or currency for mergers
and acquisitions

Benefits to Investor
Quotes and dividend payments in U.S.
dollars
Familiar trade, clearance and
settlement procedures
Ability to acquire the underlying
securities directly upon cancellation

DR Transaction
Buying
The DR is created when an investor contacts
a broker to make an investment in a
company with a DR program in that market.

The broker can either purchase DRs in the

secondary market or create DRs by purchasing
shares in the local stock market and then
delivering them to the depositarys local
custody bank.
The broker converts the local currency
received from the investor into the
corresponding foreign currency and pays the
local broker for the shares purchased.

The custodian bank instructs the depositary

bank to issue the DRs and deliver them to
the initiating broker, who then delivers the
DRs to the investor.

Selling
The sale can take place in the
secondary market, or the
ordinary shares held outside
the market can be released
into the home trading market
through a cross-border
transaction
The sale can take place in the
secondary market, or the
ordinary shares held outside
the market can be released
into the home trading market
through a cross-border
transaction

DR Classification

1. SPONSORED are issued by one depositary bank appointed by an issuer company under
a service contract called a deposit agreement. Sponsored DRs give an issuer input and
control over the facility, and may allow the issuer the flexibility to list on a U.S. stock
exchange, and to raise capital
2. UNSPONSORED DRs are issued by one or more depositary banks in response to market
for a particular
without
a formal
agreement
a non-U.S.
company
1. demand
SPONSORED
LEVEL Isecurity
DR Program
is the
simplest
way forwith
non-U.S.
companies
to
access U.S. capital markets. Level I DRs are traded in the U.S. through OTC Markets
with prices reported to the U.S. Financial Industry Regulatory Authority (FINRA),
which makes such information publicly available through sources such as
Bloomberg, Reuters, and OTC Markets

2. SPONSORED LEVEL II AND SPONSORED LEVEL III DRs: Companies that wish to
list their DRs on a U.S. stock exchange, to raise capital or to make a U.S. acquisition
using DRs, establish sponsored Level II or Level III DR programs. These DR programs
require SEC registration, disclosure and reporting. The companies must also meet
the listing requirements of the applicable stock exchanges. Level III DR is the term
used for a company raising capital by issuing DRs
3. PRIVATE PLACEMENT AND OFFSHORE DRs: a non-U.S. company can also
access the U.S. and other capital markets through SEC Rule 144A and/or SEC
Regulation S DR facilities without SEC registration. Rule 144A programs provide for
raising capital through the private placement of DRs with qualified institutional

ADR Regulatory Framework

The company issuing ADRs have to takeapprovalfrom only the Reserve Bank of
India (RBI) under the Foreign Exchange Regulation Act (FERA),1973
.

There isno upper limitfor an Indian company to raise funds through ADRs / GDRs

Any listed company that is eitherbanned by SEBI or RBIisnot eligibleto go for

ADRs
.

unlisted company that has not raised funds through ADRs, can go for ADRs but
needsto be simultaneously listedonAmericanandIndian stock exchanges
Any

Any unlisted company which has already raised funds through ADRs needs to be
listed within 3 years or on making profits
.

The companies that raise funds through ADRs are banned from investing in real
estate or investing in stock markets
.

Employeesof the resident company can purchase or invest in ADRs to the extent of
US $50,000 only within a span of 5 years, without obtaining any approval by RBI,
under the ESOPs scheme

FCCB
Foreign Currency Convertible bonds-issued in currencies different from the issuing
company's domestic currency
Foreign Currency Convertible bonds-Mix between debt and equity instruments
It retain all features of aconvertible bond, making it very attractive to both the
investors and the issuers.
Investors receive the safety of guaranteed payments on the bond and are also able to
take advantage of any large price appreciation in the company's stock

Benefits to Investors

Benefits to Issuer

There is a safety of guaranteed

Gives the ability to access investment
payments on the bond
capital available in foreign markets
It assured a fixed return and capital
It can be used to break into foreign
protection
markets
It can take advantage of any large price
The bond acts like both a debt and
appreciation in the companys stock
equity instrument. Like bonds it makes
It provides investment opportunities in
regular
coupon
and
principal
emerging markets
payments, but these bonds also give
It cab be redeemed at maturity if not
the bondholder the option to convert
converted
the bond into stock
It is easily marketable as investors enjoys
It can be raised within a month while
option of conversion in to equity if
pure debt takes longer to raise
resulting to capital appreciation
Disadvantages
Exchange risk is more in FCCBs as interest on bond would be payable in foreign
currency.
FCCBs means creation of more debt and a FOREX outgo in terms of interest which is
in foreign exchange
In case of convertible bond the interest rate is low (around 3 to 4%) but there is
exchange risk on interest as well as principal if the bonds are not converted in to
equity
If the stock price plummets, investors will not go for conversion but redemption. So,
companies have to refinance to fulfill the redemption promise which can hit earnings
It will remain as debt in the balance sheet until conversion

FCCB Regulations
FCCBs can be accessed through automatic and approval route. Major regulators
governing the FCCBs in India are Exchange Control Department of RBI and FCCB Division
in Department of Economic Affairs at Ministry of Finance.

1. Companies except financial

intermediaries
2. Units in Special Economic
Zones( SEZ)
3. NGOs engaged in micro finance
activities

1. For FCCBs up to USD 5 million at

least 25 percent to be held directly by
the lender
2. For FCCBs more than USD 5 million
- at least 25 percent to be held
directly by the lender and proposed
FCCB should not exceed four times
the direct foreign equity holding

Approval Route
1. Infrastructure or export finance
companies such as IDFC, IL&FS, Power
Finance Corporation, IRCON, Power
trading corporation and EXIM bank
2. Banks and financial institutions
which participated in the textile or
steel restructuring package
3. NBFCs to finance import of
infrastructure equipment for leasing
4. Multistate Co-operative society
engaged in manufacturing activities

Recognized Lenders

Automatic Route

Eligible Borrowers

Automatic Route

Approval Route
At least 25 percent to be held
directly by the lender but
proposed FCCB exceeds four
times the direct foreign equity
holding

Thank You