Summer Internship Report

On

DERIVATIVES AND ITS IMPACT ON INDIAN STOCK

EXCHANGE

By:
ABHISHEK SINHA
A0101909374
MBA Class of 2011

Under the Supervision of

Ms. Bhavna Ranjan
(Faculty of Finance Department)
AMITY BUSINESS SCHOOL

In Partial Fulfillment of Award of Master of Business Administration

AMITY BUSINESS SCHOOL

AMITY UNIVERSITY SECTOR 125, NOIDA
UTTAR PRADESH, INDIA
2010
 CONTENTS
TOPIC Page No.

Declaration…………..…………………………………………………………. (i)
Certificate from Company……………………………………………………... (ii)
Certificate from faculty
guide…………………………………………………………………………… (iii)
Acknowledgement……..………………………………………………………. (iv)
Abstract……………............................................................................................ (v)

CHAPTER TOPIC PAGE No.

1.) INTRODUCTION 1

2.) LITERATURE REVIEW 38

3.) RESEARCH 41
METHODOLOGY

4.) DATA COLLECTION & 53

ANALYSIS

5.) SUGGESTIONS AND 65

CONCLUSIONS

6.) REFERENCES AND 67

SOURCES

7.) ANNEXURE I- ANNUAL 68

REPORT OF INDIABULLS

ANNEXURE II- DERIVATIVE 71

MARKET

ANNEXURE III- 72
QUESTIONNAIRE
 AMITY UNIVERSITY UTTAR PRADESH
AMITY BUSINESS SCHOOL

DECLARATION

I, Abhishek Sinha student of Masters of Business Administration from Amity Business School,
Amity University Uttar Pradesh hereby declare that I have completed Summer Internship on
“Derivatives and its impact on Indian stock exchange” as part of the course requirement.

I further declare that the information presented in this project is true and original to the best of
my knowledge.

Date: 28/06/10 ABHISHEK SINHA

Enroll. No: A0101909374

Place: Noida MBA Class of 2011

 To whomsoever It May Concern

This is to certify that Abhishek Sinha (Batch – 2009-11, Amity Business School) has
successfully completed project on “Derivatives and its impact on India Stock Exchanges” at
INDIABULLS Pvt. Ltd. The duration of the project was from 26th April 2010 to 25th June 2010.

He has completed the above said project under the guidance of Mr. Saurabh Gupta- Vice
President INDIABULLS –DWK and was found to be a sincere and hard working student
during the tenure with us.

We wish him very best for all his future endeavors.

SAURABH GUPTA

(VICE PRESIDENT)

INDIABULLS-DWK
 AMITY UNIVERSITY UTTAR PRADESH
AMITY BUSINESS SCHOOL

CERTIFICATE

I, hereby certify that Abhishek Sinha student of Masters of Business Administration at Amity
Business School, Amity University Uttar Pradesh has completed Summer Internship on “Derivatives and
its impact on Indian Stock Exchange”, under my guidance.

Ms. BHAVNA RANJAN

(Lecturer)

Department of Finance
 ACKNOWLEDGEMENT

I wish to express my sincere gratitude and thanks to God for providing me all the channels to
achieve this stage. I owe my true regards to the faculty and administration of Amity Business
School, Amity University, Noida for their generous support in doing this project. I extend special
thanks to Ms. BHAVNA RANJAN for supporting me in all the phases of the project and giving
me insightful guidance for making this project an accomplishment.

I wish to express my gratefulness to INDIABULL’s management for giving me an opportunity to

be a part of their esteem organization and enhance my knowledge by granting permission to do
my summer training project under their guidance. This is indeed a great opportunity to express
my profound sense of appreciation to Mr. Saurabh Gupta, Vice president at INDIABULLS Pvt.
Ltd, DWARKA New Delhi. I would also like to extend my deep sense of gratitude towards Mr.
Sanjeev Batra, Mr. Prashant Dubey and Mr. Gaurav Mittal without whom the project would not
have been a success. It was only due to their efforts the project work has been possible. They
provided me with assistance and support whenever needed that has been instrumental in
completion of this project. The learning during the project was immense & valuable.

______________

ABHISHEK SINHA
A0101909374
MBA (G): 2009-11
ABSTRACT

This project report studies the derivatives and its impact on the Indian stock markets. The project
has been categorically divided into two parts.

The first part restrains itself to derivatives, its impact and the overview of the pricing of
derivatives products and how it affects the underlying. This part is again subdivided into two
further parts. First one is the secondary research for the above stated followed by the second part
which is a primary research to support the analysis.

The second part of the project is the sales and analysis of Dematerialized accounts as a part of
my summer internship work in the company.

Since INDIABULLS majorly deals in NSE hence it has been used as a proxy for Stock Market
returns. The analysis has proved the fact that derivatives trading have considerably reduced the
stock market volatility. This project also studies the impact of derivatives (futures) on the
underlying asset. The commodity market was taken under consideration for this study. It finds
out that futures have increased the volatilities in the spot market for some of the commodities.
PART I:
DERIVATIVES AND ITS IMPACT ON INDIAN STOCK
EXCHANGES
CHAPTER 1: INTRODUCTION
INTRODUCTION

The global liberalization and integration of financial markets has created new investment
opportunities, which in turn require the development of new instruments that are more efficient
to deal with the increased risks. Institutional investors who are actively engaged in industrial and
emerging markets need to hedge their risks from these internal as well as cross-border
transactions. Agents in liberalized market economies who are exposed to volatile commodity
price and interest rate changes require appropriate hedging products to deal with them. And the
economic expansion in emerging economies demands that corporations find better ways to
manage financial and commodity risks. Among the general public, the term volatility is simply
synonymous with risk. In their view, high volatility is to be deplored, because it means that security
values are not dependable and the capital markets are not functioning as well as they should. Merton
Miller (1991) the winner of the 1990 Nobel Prize in economics - writes in his book "Financial Innovation
and Market Volatility" …. “By volatility public seems to mean days when large market movements,
particularly down moves, occur. These precipitous market wide price drops cannot always be traced to a
specific news event.... The public takes a more deterministic view of stock prices; if the market crashes,
there must be a specific reason.”1
Cash market volatility was compared before and after the introduction of futures trading and it
was found that the introduction of commodity futures trading generally reduced or at least did
not increase cash price volatility.2

The lead-lag relationship between futures trading activity and cash price volatility for major
agricultural commodities awes examined. Granger causality tests and generalized forecast error
variance decompositions showed that an unexpected and unidirectional increase in futures
trading volume drove cash price volatility up. Further, a weak causal association between open
interest and cash price volatility was also established.3

1
Cited in Raju and Ghosh 2004
2
Kamara (1982)
3
Yang et al(2005)
The impact of introducing futures contracts on the volatility of the underlying commodities in
India was also studied. Empirical results suggested that the nature of volatility did not change
with the introduction of futures trading in wheat, turmeric, sugar, cotton, raw jute and soy oil.
Nevertheless, a weak destabilizing effect of futures on spot prices was found in case of wheat
and raw jute. Further, results of granger causality tests indicated that unexpected increase in
futures activity in terms of rise in volumes and open interest has caused increase in cash price
volatilities in all the commodities listed. The study has confirmed the notion of destabilizing
effect of futures trading on spot prices of commodity.4

4
Sahi(2006)
COMPANY’S PROFILE

HISTORY

Indiabulls is one of the top Indian business houses with business interests in real estate,
infrastructure, financial services, securities, retail, multiplex and power sectors. Indiabulls Group
companies are listed in Indian and overseas financial markets. Indiabulls was founded by Sameer
Gehlaut, Rajiv Rattan and Saurabh Mittal in 2000 who are engineering graduates from the Indian
Institute of Technology in Delhi.

FOUNDATION OF INDIABULLS

Sameer Gehlaut, Saurabh Mittal and Rajiv Rattan are graduates of the Indian Institute of
Technology in Delhi. The company started as an online stock brokerage and grew quickly.
Gehlaut remains the chief executive officer and chairman of Indiabulls, Rattan is president and
chief financial officer and Mittal is director.

DESCRIPTION

Indiabulls Group is one of India's largest companies with a net worth of $2 billion. Indiabulls has
several businesses, including financial services, real estate, infrastructure, retail and energy.
Indiabulls includes three individual companies that are all publicly traded on India's national
stock exchange: Indiabulls Financial Services, Indiabulls Real Estate Limited and Indiabulls
Securities Limited. Indiabulls has about 20,000 employees.

Indiabulls Group is one of India’s top Business houses with businesses spread over Real
Estate, Infrastructure, Financial Services, Securities, Retail, Multiplex and Power sectors. The
 group companies are listed on important Indian and Overseas markets. Indiabulls has been
conferred the status of a “Business Superbrand” by The Brand Council, Superbrands India.

WINGS OF INDIABULLS

REAL ESTATE LTD. SECURITIES LTD. FINANCIAL RETAIL,

SERVICES MULTIPLEX,
POWER SECTOR

Indiabulls Financial Services

An integrated financial services powerhouse providing Consumer Finance, Housing Finance,
Commercial Loans, Life Insurance, Asset Management and Advisory services. Indiabulls
Financial Services Ltd is amongst 68 companies constituting MSCI - Morgan Stanley India
Index. Indiabulls Financial is also part of CLSA’s model portfolio of 30 Best Companies in Asia.
Indiabulls Financial Services signed a joint venture agreement with Sogecap, the insurance arm
of Societé Generale (SocGen) for its upcoming life insurance venture. Indiabulls Financial
Services in partnership with MMTC Limited, the largest commodity trading company in India, is
setting up India’s 4th Multi-Commodities Exchange.

Indiabulls Real Estate Limited

India’s third largest property company with development projects spread across residential
projects, commercial offices, hotels, malls, and Special Economic Zones (SEZs) infrastructure
development. Indiabulls Real Estate partnered with Farallon Capital Management LLC of USA
to bring the first FDI into real estate. Indiabulls Real Estate is transforming 14 million sqft in 16
cities into premium quality, high-end commercial, residential and retail spaces. Indiabulls Real
Estate has diversified significantly in the following business verticals within the real estate
space: Real Estate Development, Project Advisory & Facilities Management: Residential,
Commercial (Office and Malls) and SEZ Development. Power: Thermal and Hydro Power
Generation.

Indiabulls Securities Limited

India’s leading capital Markets Company with All-India Presence and an extensive client base.
Indiabulls Securities possesses state of the art trading platform, best broking practices and is the
pioneer in trading product innovations. Power Indiabulls, in-house trading platform, is one of the
fastest and most efficient trading platforms in the country. Indiabulls Securities Limited is the
first and only brokerage house to be assigned the highest rating BQ – 1 by CRISIL.
(SOURCE: INDIABULLS WEBSITE)
BASIC FEATURES OF DERIVATIVES
'By far the most significant event in finance during the past decade has been the extraordinary
development and expansion of financial derivatives. These instruments enhance the ability to
differentiate risk and allocate it to those investors most able and willing to take it - a process that
has undoubtedly improved national productivity growth and standards of living.' 5

"Derivative" includes -

A. 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;
B. a contract which derives its value from the prices, or index of prices of underlying
securities6

Derivatives are used -

1. By Hedgers for protecting (risk-covering) against adverse movement. Hedging is a

mechanism to reduce price risk inherent in open positions. Derivatives are widely used
for hedging. A Hedge can help lock in existing profits. Its purpose is to reduce the
volatility of a portfolio, by reducing the risk.
2. Speculators to make quick fortune by anticipating/forecasting future market movements.
Hedgers wish to eliminate or reduce the price risk to which they are already exposed.
Speculators, on the other hand are those class of investors who willingly take price risks
to profit from price changes in the underlying. While the need to provide hedging
avenues by means of derivative instruments is laudable, it calls for the existence of

5
Alan Greenspan, Chairman, Board of Governors of the U.S. Federal system

6
Securities Contract Regulation Act 1956
 speculative traders to play the role of counter-party to the hedgers. It is for this reason
that the role of speculators gains prominence in a derivatives market.
3. Arbitrageurs to earn risk-free profits by exploiting market imperfections. Arbitrageurs
profit from price differential existing in two markets by simultaneously operating in the
two different markets.

BSE Website has summarized the following benefits justifying derivatives trading-

"There are several risks inherent in financial transactions. Derivatives allow you to manage these
risks more efficiently by unbundling the risks and allowing either hedging or taking only one (or
more if desired) risk at a time. For instance, if we buy a share of TISCO from our broker, we
take following risks.

1. "Price risk that TISCO may go up or down due to company specific reasons
(unsystematic risk).
2. "Price risk that TISCO may go up or down due to reasons affecting the sentiments of the
whole market (systematic risk).
3. "Liquidity risk, if our position is very large, that we may not be able to cover our position
at the prevailing price (called impact cost).
4. "Counterparty (credit) risk on the broker in case he takes money from us but before
giving delivery of shares goes bankrupt.
5. "Counterparty (credit) risk on the exchange - in case of default of the broker, we may get
partial or full compensation from the exchange.
6. "Cash out-flow risk that we may not able to arrange the full settlement value at the time
of delivery, resulting in default, auction and subsequent losses.
7. "Operating risks like errors, omissions, loss of important documents, frauds, forgeries,
delays in settlement, loss of dividends & other corporate actions etc."

"Once we are long on TISCO we can hedge the systematic risk by going short on index futures.
On the other hand, if we do not want to take unsystematic risk on any one share, but wish to take
only systematic risk - we can go long on index futures, without buying any individual share. The
credit risk, cash outflow risk and operating risks are much easier to manage in this case."
Long Position: - which commits the buyer to purchase an item at the contracted price on
maturity. 

Short Position: - which commits the seller to deliver an item at the contracted price on maturity.

CLASSIFICATION OF DERIVATIVES

Derivatives can be classified as

 Forwards (Currencies, Stocks, Swaps etc),

Forward contract is different from a spot transaction, where payment of price and
delivery of commodity concurrently take place immediately the transaction is settled. In a
forward contract the sale/purchase transaction of an asset is settled including the price
payable, not for delivery/settlement at spot, but at a specified future date. India has a
strong dollar-rupee forward market with contracts being traded for one, two, .. six month
expiration. Daily trading volume on this forward market is around $500 million a day.
Indian users of hedging services are also allowed to buy derivatives involving other
currencies on foreign markets.

 Futures (Currencies, Stocks, Indexes, Commodities etc)

A futures contract has been defined as "a standardized, exchange-traded agreement

specifying a quantity and price of a particular type of commodity (soybeans, gold, oil,
etc.) to be purchased or sold at a pre-determined date in the future. On contract date,
delivery and physical possession take place unless the contract has been closed out.
Futures are also available on various financial products and indexes today.

A futures contract is thus a forward contract, which trades on an exchange. S&P CNX
Nifty futures are traded on National Stock Exchange. This provides them transparency,
liquidity, anonymity of trades, and also eliminates the counter party risks due to the
guarantee provided by National Securities Clearing Corporation Limited.
  Options (Currencies, Stocks, Indexes etc).

Options are the standardized financial contracts that allows the buyer (holder) of the
options, i.e. the right at the cost of option premium, not the obligation, to buy (call
options) or sell (put options) a specified asset at a set price on or before a specified date
through exchanges under stringent financial security against default.

Forward Contracts

A cash market transaction in which a seller agrees to deliver a specific cash commodity to a
buyer at some point in the future. Unlike futures contracts (which occur through a clearing firm),
forward contracts are privately negotiated and are not standardized. Further, the two parties must
bear each other's credit risk, which is not the case with a futures contract. Also, since the
contracts are not exchange traded, there is no marking to market requirement, which allows a
buyer to avoid almost all capital outflow initially (though some counterparties might set
collateral requirements). Given the lack of standardization in these contracts, there is very little
scope for a secondary market in forwards. The price is specified in a forward contract for a
specific commodity. The forward price makes the forward contract have no value when the
contract is written. However, if the value of the underlying commodity changes, the value of the
forward contract becomes positive or negative, depending on the position held. Forwards are
priced in a manner similar to futures. Like in the case of a futures contract, the first step in
pricing a forward is to add the spot price to the cost of carry (interest forgone, convenience yield,
storage costs and interest/dividend received on the underlying). Unlike a futures contract though,
the price may also include a premium for counterparty credit risk, and the fact that there is not
daily marking to market process to minimize default risk. If there is no allowance for these credit
risks, then the forward price will equal the futures price.

The main features of forward contracts are

 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.
  The contract has to be settled by delivery of the asset on expiration date.
 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.

FUTURES CONTRACT

A future contract is an agreement between a buyer and a seller where the seller agrees to deliver
a specified quantity and grade of a particular asset at a predetermined time in future at an agreed
upon price through a designated market (exchange) under stringent financial safeguards. A
futures contract, in other words, is a forward contract, which trades on an exchange. S&P CNX
Nifty futures are traded on National Stock Exchange. This provides them transparency, liquidity,
anonymity of trades, and also eliminates the counter party risks due to the guarantee provided by
National Securities Clearing Corporation Limited.

BSE website defines futures contract: "Futures are exchange traded contracts to sell or buy
financial instruments or physical commodities for future delivery at an agreed price. There is an
agreement to buy or sell a specified quantity of financial instrument / commodity in a designated
Future month at a price agreed upon by the buyer and seller. The contracts have certain
standardized specifications."

The standardized items in any Futures contract are

 Quantity of the underlying.

 Quality of the underlying (not required in financial Futures)
 The date and month of delivery.
 The units of price quotation (not the price itself) and minimum change in price (tick-size)
 Location of Settlement
Forward Contracts Distinguished from Futures
A forward contract is one which is initiated at one time, and performance taking place at a future
time. It always involves the exchange of one asset for another. The price at which the transaction
takes place is negotiated at the onset. Payment and delivery of the goods takes place at a
subsequent time to the initial contract. Just about everyone has taken part in a forward contract.
For example, if I agree with my next door neighbor to buy his table saw for Rs.2000 next
Thursday, we have engaged in a forward contract. When next Thursday comes and I give my
neighbor Rs.2000 and he brings the table saw over to me, we have both satisfied the terms of the
forward contract.

A futures contract can be distinguished from a forward contract in the following ways.

1. First, futures contracts always trade on an organized exchange

2. Second, futures contracts have standardized terms. In my example with my neighbor's
table saw we agreed on the terms of the contract, when it would be fulfilled, and the
condition of the product. With a futures contract, the quality, quantity, and delivery date,
is pre-determined
3. Third, Futures exchanges use clearinghouses to guarantee that the terms of the futures
contract is fulfilled. Again, using my table saw example, if one of us decided either not to
sell the saw or not to buy the saw, there was no one else around to guarantee that the
contract would be fulfilled. The futures exchanges use clearinghouses to see to it that the
obligations of the contract are fulfilled. The clearinghouse is the actual buyer of the
contract from the short seller. And the clearinghouse is the actual seller of the long
contract. If either party defaults on the contract the clearinghouse steps in and becomes
the seller or buyer of last resort. The clearinghouse guarantees that the contract will be
fulfilled. Neither party needs to trust the other party. In the history of futures trading in
America, the clearinghouse system has always worked.
4. Fourth, margins and daily settlement are required with futures trading. These are other
safeguards in the futures market. Each customer must put up a good faith deposit. The
amount of this margin varies from exchange to exchange and broker to broker. However,
no broker may margin a contract for less than the exchange minimum. Each trading day
 every futures contract is assessed for liquidity. If the margin drops below a certain level
the trader must deposit additional margin. This is called 'Maintenance Margin'
5. Fifth, futures positions can easily be closed. The trader has the option of taking physical
deliver. Placing an offsetting trade. And arranging an exchange-for-physicals transaction.
If I wanted to get out of buying my neighbor's table saw with the forward contract I
entered into, the only way that I could do it would be to break our contract. The futures
exchange makes exiting a contract relatively easy.
6. Finally, forward contract markets are self regulating and futures markets are regulated by
certain agencies dedicated to this responsibility.

Index Futures and Index Option Contracts

Futures contract based on an index i.e. the underlying asset is the index, are known as Index
Futures Contracts. For example, futures contract on NIFTY Index and BSE-30 Index. These
contracts derive their value from the value of the underlying index. Similarly, the options
contracts, which are based on some index, are known as Index options contract. However, unlike
Index Futures, the buyer of Index Option Contracts has only the right but not the obligation to
buy / sell the underlying index on expiry. Index Option Contracts are generally European Style
options i.e. they can be exercised / assigned only on the expiry date.

An index, in turn derives its value from the prices of securities that constitute the index and is
created to represent the sentiments of the market as a whole or of a particular sector of the
economy (Sectoral Index).

By its very nature, index cannot be delivered on maturity of the Index futures or Index option
contracts therefore, these contracts are essentially cash settled on Expiry.

Options Defined

Options are the standardized financial contracts that allows the buyer (holder) of the options the
right at the cost of option premium, not the obligation, to buy (call options) or sell (put options) a
specified asset at a set price on or before a specified date through exchanges under stringent
financial security against default.

Futures and Options Distinguished

The similarities between them are: - both are traded through exchanges as standardized contracts
in terms of size, maturity and the nature of the underlying assets under stringent financial
safeguards. Executions of the contracts are guaranteed by the concerned exchanges in both cases.
However, the downside risks in futures are unlimited which is limited to the option premium in
options. The futures contracts are supported by the initial margin an amount payable by the client
as a percentage of contract value. Apart from this, if there are any changes in the futures prices
on daily basis - adverse fluctuations below this initial margin - are collected from the party (mark
to market). The favorable prices are credited to parry's account. In options either the underlying
assets are taken as security (covered options) alternatively sufficient cash margins are kept as a
measure of security.
ADVENT OF TRADING IN INDIAN STOCK MARKET

The Securities and Exchange Board of India was established by the Government of India in 1988
through an executive resolution, and it was subsequently upgraded as a fully autonomous body (a
statutory Board) in the year 1992 with the passing of the Securities and Exchange Board of India
Act on 30th January 1992. In place of Government Control, a statutory and autonomous
regulatory board with defined responsibilities (covering both development & regulation of the
market) and independent powers have been set up. Paradoxically this is a positive outcome of the
Securities Scam of 1990-91 (popularly identified as the Harshad Mehta Scam).

The basic objectives of the Board were identified as:

 to protect the interests of investors in securities;

 to promote the development of Securities Market;
 to regulate the securities market and
 for matters connected therewith or incidental thereto.

Since its inception SEBI has been attending to the fulfillment of its objectives with
commendable zeal and dexterity.
The second epoch-making transformation in the market is the setting up of National Stock
Exchange in November 1992 and commencement of electronic networking of stock exchanges
with dealing brokers and introduction of on-line screen based trading. The next major positive
change was the passing of the Depositories Act, 1996 and establishment of National Securities
Depository Limited (NSDL) in the same year followed by the setting up of the Central
Depository Services Limited (CDSL). 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 derivatives trading on NSE commenced on June 12, 2000 with futures
trading on S&P CNX Nifty Index, options trading on the S&P CNX Nifty Index commenced on
June 4, 2001. Individual stock options were introduced on July 2, 2001 and Individual stock
futures were introduced on November 9, 2001 by the National stock Exchange of India.
Subsequently, the product base has been increased to include trading in futures and options on
S&P CNX Nifty Index, CNX IT Index, Bank Nifty Index and Single securities (188 stocks as
stipulated by SEBI) and futures on interest rate.

Futures and options contracts were introduced on CNX Nifty Junior and CNX 100 indices for
trading in F&O segment on June 1, 2007.The turnover in the derivatives segment has witnessed
considerable growth since inception. In the global market, NSE ranks first (1st) in the world in
terms of number of contracts traded in the Single Stock Futures, second (2nd) in Asia in terms of
number of contracts traded in equity derivatives instrument. Since inception, NSE established
itself as the sole market leader in this segment in the country with more than 98 % market share.

Comparative Analysis – World Exchanges (October 2007)

Product Stock Futures Index Futures Stock Options Index Options

Rank n.e. n.c. n.e. n.c. n.e. n.c. n.e. n.c.

1 NSE 24,008,470 Eurex 28,201,475 ISE 82,862,031 KE 205,967,768

2 JSE 8,367,397 NSE 17,842,671 CBOE 51,777,531 CBOE 37,222,508

3 Eurex 2,195,807 OSE 7,593,305 PSE 42,216,206 Eurex 30,228,337

n.e.- name of exchange n.c.-number of contracts

SEBI first appointed the L.C.Gupta Committee in 1998 to recommend the regulatory framework
for derivatives trading and to recommend a suggestive bye-law for Regulation and Control of
Trading and Settlement of Derivatives Contracts. The Board of SEBI in its meeting held on May
11, 1998 accepted the recommendations of the Dr. L.C. Gupta Committee and approved the
phased introduction of derivatives trading in India beginning with Stock Index Futures. The
Board also approved the "Suggestive Bye-laws" recommended `by the committee for Regulation
and Control of Trading and Settlement of Derivatives Contracts.

SEBI subsequently appointed the J.R.Verma Committee to recommend Risk Containment

Measures in the Indian Stock Index Futures Market. The report was submitted in the same year
(1998) in the month of November by the said committee. Thereafter SEBI formulated the
necessary regulations/bye-laws and intimated the Stock Exchanges in the year 2000, while
derivative trading started in India at NSE in the same year and BSE started trading in the year
2001. In this module we are covering the different types of derivative products and their features
that are traded in the stock exchanges in India.

EQUITY DERIVATIVES EXCHANGE OF INDIA

 In the equity markets both the National Stock Exchange of India Ltd. (NSE) and The
Bombay Stock Exchange, Mumbai (BSE) were quick to apply to SEBI for setting up
their derivatives segments.
 NSE as stated earlier commenced derivatives trading in the same year i.e. 2000 AD,
while BSE followed after a few months in 2001.
 Both the exchanges have set-up an in-house segment instead of setting up a separate
exchange for derivatives.
 NSE's Futures & Options Segment was launched with Nifty futures as the first product.
 BSE's Derivatives Segment, started with Sensex futures as it's first product.
 Stock options and stock futures were introduced in both the Exchanges in the year 2001

Thus started trading in Derivatives in Indian Stock Exchanges (both BSE & NSE) covering
Index Options, Index Futures, Stock Options & Futures at in the wake of the new millennium. In
a short span of three years the volume traded in the derivative market has outstripped the
turnover of the cash market
The arrival of this new financial product in the securities markets of India, should now interest us
to learn more about the origin and development of the global market in derivatives trading of
financial securities. This is equally of a recent origin since 1070s.
ONSET OF DERIVATIVES- GLOBAL MARKET

"As capital markets become increasingly integrated, shocks transmit easily from one market to
another. The proliferation of new instruments with complex features has led to enhanced
investment opportunities. One such instrument which has become darling of corporates, banks,
institutions alike is 'Derivatives'. To have a touch of the tree top's view, Derivatives transaction is
defined as a bilateral contract whose value is derived, from the value of an underlying asset, or
reference rate, or index. Derivative transactions have evolved in the past twenty years to cover a
broad range of products which include instruments like 'forwards', 'futures', 'options', 'swaps'
covering a broad spectrum of underlying assets including exchange rates, interest rates,
commodities, and equities.”7 The pace of innovation in derivatives markets increased remarkably
in the 1970s.

 The first major innovation occurred in February 1972, when the Chicago Mercantile
Exchange CME began trading futures on currencies in its International Monetary Market
(IMM) division. This marked the first time a futures contract was written on anything
other than a physical commodity.
 The second was in April 1973, when the CBT formed the Chicago Board Options
Exchange (CBOE) to trade options on common stocks. This marked the first time an
option was traded on an exchange.
 The third major innovation occurred in October 1975, when the CBT introduced the first
futures contract on an interest rate instrument - Government National Mortgage
Association futures.

7
Extract from newsletter from the Association of Chartered Treasury Managers, Dec.15-28, 2008,
promoted by Transworld Universities.
  In January 1976, the CME launched Treasury bill futures and, in August 1977, the CBT
launched Treasury bond futures.
 The 1980s brought yet another round of important innovations. The first was the use of
cash settlement. In December 1981, the IMM launched the first cash settlement contracts,
the 3-month Eurodollar futures. At expiration, the Eurodollar futures are settled in cash
based on the interest rate prevailing for a three-month Eurodollar time deposit.
 Cash settlement made feasible the introduction of derivatives on stock index futures, the
second major innovation of the 1980s. In February 1982, the Kansas City Board of Trade
(KCBT) listed futures on the Value Line Composite stock index, and, in April 1982, the
CME listed futures on the S&P 500. These contract introductions marked the first time
that futures contracts were written on stock indexes.
 The third major innovation of the 1980s was the introduction of exchange-traded option
contracts written on "underlying" other than individual common stocks. The CBOE and
AMEX listed interest rate options in October 1982 and the Philadelphia Stock Exchange
(PHLX) listed currency options in December 1982 as also options and gold futures.
 In January 1983, the CME and the New York Futures Exchange (NYFE) began to list
options directly on stock index futures, and, in March 1983, the CBOE began to list
options on stock indexes.

The 1980s also saw the re-emergence of OTC derivatives trading. As derivatives on financial
assets became increasingly popular, investment banks began to think of new ways to tailor
contracts to meet customer needs. Some innovations were minor changes in the standard terms of
exchange-traded derivatives contracts on financial instruments (e.g., modifications to the
expiration date and/or the contract denomination).

1. In 1980, for example, the first OTC Treasury bond option was traded. Other contracts
were new and seemingly different. They fall under the generic heading of "swaps". A
swap contract is a contract to "swap" a series of periodic future cash flows, where the
terms of the swap are usually set such that the up-front payment is zero.
2. The first interest rate swap was in 1981, when the Student Loan Marketing Association
(i.e., "Sallie Mae") swapped interest payments on intermediate-term fixed rate debt for
 floating-rate payments indexed to the three-month Treasury bill rate. The cash flows of
the two legs of a swap can be linked to virtually any asset or index.
3. A basis rate swap, for example, is an exchange of floating rate payments where the two
floating rates are linked to, say, a three-month Treasury bill rate and a three-month
Eurodollar time deposit rate.
4. A currency swap is an exchange of interest payments (either fixed or floating) in one
currency for payments (either fixed or floating) in another.
5. An equity swap involves the exchange of an interest rate payment and a payment based
on the performance of a stock index.
6. An equity basis swap involves an exchange of payments on two different indexes. Swap
agreements may appear different from standard forward and option contracts, but they are
not. Every swap can be decomposed into a portfolio of forwards and options. The benefit
a swap provides is that several transactions are bundled into a single product.8

However, the estimated gross market values of all derivatives outstanding total only €10 trillion,
which is markedly lower than the equity and bond markets with a market capitalization of €43
trillion and €55 trillion, respectively.9 The derivatives market is the fastest growing segment of
the financial sector: since 1995, its size has increased by around 24 percent per year in terms of
notional amount outstanding, far outpacing other financial instruments such as equities (11
percent) and bonds (9 percent).10 As described, the OTC segment accounts for almostD84
percent of the market with around €383 trillion of notional amount outstanding. 11Recently,
however, the exchange segment has grown faster than the OTC segment. This is widely
perceived to be a result of the increasing standardization of derivatives contracts which facilitates
exchange trading. Other contributing factors are a number of advantages of on-exchange trading:
price transparency, risk mitigation and transaction costs are among the most important (see
chapter 3). The OTC segment operates with almost complete disregard of national borders.

8
From Article titled Derivatives published by Robert E. Whaley, Faculty, Fuqua School of Business,
Duke University, USA
9
See BIS 2008 and WFE statistics (www.world-exchanges.org); the gross market value of a derivatives
contract refers to the positive market value one side of a derivatives contract
10
BIS statistics (www.bis.org /statistics /derstats.htm).
11
BIS 2008.
Derivatives exchanges themselves provide equal access to customers worldwide. As long as
local market regulation does not impose access barriers participants can connect and trade
remotely and seamlessly from around the world (e.g. from their London trading desk to the
Eurex exchange in Frankfurt). The fully integrated, single derivative market is clearly a reality
within the European Union.
The global OTC derivatives segment is mainly based in London. Primarily due to principle-
based regulation, which provides legal certainty as well as flexibility, the OTC segment has
developed especially favorably in the UK’s capital. 12The unrestricted pan-European provision of
investment services, in place since the introduction of the European Union’s Investment Services
Directive (ISD) in January 1996, has strengthened the competitive position of Europe in the
global market environment. Many European banks are currently global leaders in derivatives.
Historically, large derivatives exchanges were almost exclusively located in the US. 13Strong
European derivatives exchanges appeared only after deregulation and demutualization in the
1980s and 1990s. These European exchanges were more independent of their users, who had
been less supportive of significant changes at US exchanges. They revolutionized trading by
introducing fully electronic trading and by setting industry standards. Over the years European
players have strengthened their position, increasing their global market share from 24 percent in
1995 to almost 40 percent in 2007. 14They are now among the largest exchanges worldwide in a
sector where the biggest players are international exchange groups that offer trading globally.

12
See City of New York/US Senate 2006.
13
Some US players like CME Group, NYMEX and NYBOT have their roots in the 19th century.
14
December 1995 vs. September 2007; in terms of notional amount outstanding; see BIS 2008 and BIS
statistics (www.bis.org/statistics/derstats.htm).
GLOBAL DERIVATIVE MARKET (Current Scenario)

By 2008, some of the exchanges added new categories of underlyings to their existing range of
derivative products.

Symmetrically few products were also dropped from the range by these exchanges in
order to accommodate new ones as some of the old ones are either no longer in use or there are
not traded anymore.

PRODUCTS (Derivatives) ADDED DROPPED

Stock Options Warsaw S.E.
Stock Futures Korean Ex., Thailand Fut. Ex.
Stock Index Options Budapest S.E
STIR Futures Budapest S.E
LTIR Futures Hong Kong Ex., Warsaw S.E
Currency futures NSE India
Commodity Options Tokyo Grain Exchange
Commodity Futures Hong Kong Exchanges Singapore Exchange
(Source: IOMA Derivative Market survey 2008)

The global derivatives market

17 billion derivative contracts were transacted in 2008 on exchanges worldwide (7.8 billion
futures and 9.3 billion options). These figures are apparently positive as they represent a new
historic record.
 (IOMA Derivative Market Survey 2008)

The pace of growth in 2008 (+13%) was significantly below the two previous years. Although
futures declined the most, their growth is still superior (+14%) to that of options (+11%). Futures
growth is the lowest for six years and that for options is similar to 2005 and 2006. Again, the
break of September triggered a much stronger slowdown, especially for futures.

(IOMA Derivative Market Survey 2008)

Quick glance over the derivative market during the year 2009
 Top 5 exchanges by number of stock options contracts traded in 2009

Number of Number of
Exchange %
contracts contracts
Change
traded in 2009 traded in 2008
1. International Securities Exchange 946 693 771 989 525 443 -4.3%
2. Chicago Board Options Exchange 911 976 695 933 855 344 -2.3%
3. Philadelphia Stock Exchange 579 907 593 537 954 692 7.8%
4. BM&FBOVESPA 546 317 664 350 063 629 56.1%
5. Eurex 282 834 019 349 331 404 -19.0%

 Top 5 exchanges by number of single stock futures contracts traded in 2009

Number of Number of
%
Exchange contracts contracts
Change
traded in 2009 traded in 2008
1. NYSE Liffe Europe 165 796 059 124 468 809 33.2%
2. National Stock Exchange India 161 053 345 225 777 205 -28.7%
3. Eurex 113 751 549 130 210 348 -12.6%
4. Johannesburg Stock Exchange 88 866 925 420 344 791 -78.8%
5. BME Spanish Exchanges 37 509 467 46 237 747 -18.9%

 Top 5 exchanges by number of stock index options contracts traded in 2009

Number of Number of
%
Exchange contracts contracts
Change
traded in 2009 traded in 2008
1. Korea Exchange 2 920 990 655 2 766 474 406 5.6%
2. Eurex 364 953 360 514 894 678 -29.1%
3. National Stock Exchange India 321 265 217 150 916 778 112.9%
4. Chicago Board Options Exchange 222 781 717 259 496 193 -14.1%
5. Taifex 76 177 097 98 122 308 -22.4%

 Top 5 exchanges by number of stock index futures contracts traded in 2009

Number of Number of
%
Exchange contracts contracts
Change
traded in 2009 traded in 2008
1. CME Group 703 072 175 882 432 628 -20.3%
2. Eurex 367 546 179 511 748 879 -28.2%
3. National Stock Exchange India 195 759 414 202 390 223 -3.3%
4. Osaka Securities Exchange 130 107 633 131 028 334 -0.7%
5. Korea Exchange 83 117 062 66 436 912 25.1%
BADLA TRADING AND OTHER CATEGORIES OF DERIVATIVE
PRODUCTS.

Badla is a mechanism to avoid the discipline of a spot market; to do trades on the spot market but
not actually do settlement. The "carry forward" activities are mixed together with the spot
market. Suppose you buy 1,000 shares of Infosys at Rs 3,500, your cash outflow is Rs 35 lakh.
Instead of paying cash, you can ask your broker to find a borrower to finance your trade. This
process of buying stocks with borrowed money is badla trading.

The stock exchange acts as an intermediary between you and the actual lender. You will be
charged an interest rate for borrowing, which will be determined by the demand for that stock
under badla trading. Thus, higher the demand for Infosys under badla trading higher will be the
interest rate. You can keep your borrowing unpaid for a maximum of 70 days, after which you
will have to repay the badla financier through the exchange

Those familiar with futures will immediately recognise its similarity with badla trading. As per
single-stock futures, you can buy, say, 10 Infosys futures that will at maturity give you 1,000
Infosys shares on payment of money.

You will initially pay a margin and buy 10 futures contract. This is similar to the broker placing
a margin on badla trades. The futures contract will be marked-to-market on a daily basis. This
means that if you buy Infosys futures today at Rs 3,750 and the price in the futures market goes
up to Rs 3,800 the next day, you will have to deposit with your broker Rs 50 (3,800-3,750) times
10 (the number of futures contract).
You will likewise receive money if the futures price goes below Rs 3,750. Of course, in badla
trading, it is the broker who has to maintain a marked-to-market margin and not the buyer/seller
as in the case of futures.

In essence, however, both futures and badla system allow investors to buy stocks without huge
cash outflow. In other words, both help in leveraged trades. It is also due to this similarity that
SEBI has decided to ban badla and introduce futures in line with the trends in developed
countries.

How are derivatives different from badla?

Badla is closer to being a facility for borrowing and lending of shares and funds. Borrowing and
lending of shares is a functionality which is part of the cash market. The borrower of shares pays
a fee for the borrowing. When badla works without a strong margining system, it generates
counterparty risk, the evidence of which is the numerous payments crises which were seen in
India. Options are obviously not at all like badla. Futures, in contrast, may seem to be like badla
to some. Some of the key differences may be summarised here. Futures markets avoid variability
of badla financing charges. Futures markets trade distinctly from the cash market so that each
futures prices and cash prices are different things (in contrast with badla, where the cash market
and all futures prices are mixed up in one price). Futures markets lack counterparty risk through
the institution of the clearinghouse which guarantees the trade coupled with margining, and this
elimination of risk eliminates the risk premium" that is embedded inside badla financing charges,
thus reducing the financing cost implicit inside a futures price

Other Categorization of Derivatives Products

We can also categorize derivative products based on the mode or the place of trading.

i. Exchange traded derivatives: Derivatives traded on the regulated exchanges are highly
standardized, (example - exchange traded futures & options). Options & Futures
contracts are standardized. In other words, the parties to the contracts do not decide the
terms of futures/option contracts; but they merely accept terms of contracts standardized
by the Exchange. Exchange traded derivatives offer the maximum protection to the
 investor thanks to various regulatory measures enforced by SEBI to provide for fairness
and transparency in trading.
ii. Over the counter derivatives: Encompass tailored financial derivatives, such as swaps,
swaptions, caps and collars, that are traded in the offices of the world's leading financial
institutions. These contracts are customized. In other words, the terms of OTC contracts
are individually agreed between two counter-parties.

Description of OTC Derivatives Products

Exotic

These types of the derivative instruments are least seen as compared with the other instruments
as options and futures, which are, used worldwide as because they are most complicated and
complex contracts. These contracts are not exchange traded they are simply made on OTC
derivative industry. An essential feature of derivatives exchanges is the contract standardization.

Swap

Swap can be defined as "A financial transaction in which two counterparties agree to exchange
streams of payments, or cash flows, over time". Generally, two types of swaps are generally seen
i.e. interest rate swaps and currency swaps. Even two more swap are being introduced as
commodity swaps and the tax rate swaps which are seen to be an extension of the conventional
swaps. A swap results in reducing the borrowing cost of both parties.

Interest Rate Swap

Here, interest payments streams of differing characters are periodically exchanged. There are
three main types:

1. Coupons swaps: fixed for floating rates

2. Basic swaps: the exchange of one bench-mark for another under floating rates
3. Currency swaps: cash flows in one currency for cash flows in another
Many banks and authorized dealers quote the interest rate swap (fixed to LIBOR) with the help
of Reuters service. The quotes generally are for the fixed rate receipt and payment against
LIBOR payment and receipt. For US Dollar quotes are generally in terms of basis points over
treasury yields (also known as swap spreads), but for other currencies actual fixed rate is
mentioned.

Currency swap

It involve cash flows(on principal and repayments alone) in two currencies. The exchange rate
used is the ruling spot rate between the two currencies. A currency swap can also be considered
as a series of forward contracts. Even a currency swap can be combined with an interest rate
swap, in that case, the dollar outflows would carry LIBOR-based interest rate. As weaker counter
parties would not be able to get swap quotes for a longer maturity.

Commodity Swap

International Banks offers a commodity price swap-exchanging floating price for the fixed price.
Such swap reduces the volatility of cash flows. The maximum trading in the derivative products
as for options and futures is in Chicago. Spot-futures arbitrage increases the flow of market order
to the cash market. This increase the cash revenue of the daily traders who do their work on
limited orders and induces an increase supply of limit orders. This will improve the liquidity of
the cash market.

Forward Rate Agreement

A Forward Rate Agreement (FRA) is a financial contract between two parties to exchange
interest payments for a 'notional principal' amount on settlement date, for a specified period from
start date to maturity date . Accordingly, on the settlement date, cash payments based on contract
(fixed) and the settlement rate, are made by the parties to one another. The settlement rate is the
agreed bench-mark/ reference rate prevailing on the settlement date.
RISK EVALUATION OF PORTFOLIO OF DERIVATIVES

STANDARD PORTFOLIO ANALYSIS OF RISK (SPAN)

Developed by the Chicago Mercantile Exchange in 1988, the Standard Portfolio Analysis of Risk
(SPAN) performance bond margining system for calculating requirements has become the
futures industry standard. SPAN evaluates the risk of an entire account’s futures/options
portfolio and assesses a margin requirement based on such risk. It accomplishes this by
establishing reasonable movements in futures prices over a one day period. The resulting effect
of these “risk arrays” is to capture respective gains or losses of futures and options positions
within that commodity. Each Exchange maintains the responsibility of determining these risk
arrays as well as the option calculations that are needed to determine the effect of various futures
price movements on option values.

Advantages and Rationale of SPAN:

SPAN recognizes the special characteristics of options, and seeks to accurately assess the impact
on option values from not only futures price movements but also changes in market volatility and
the passage of time. The end result is that the minimum margin on the portfolio will more
accurately reflect the inherent risk involved with those positions as a whole.

Option Equity and Risk Margin:

One of the special characteristics of options is that a long option position can never be at risk for
more than its premium. In order for SPAN to assess the risk of all positions in the portfolio and
at the same time allow credit for the premium involved, SPAN allows the excess of the option
premium over the risk margin for any option position to be applied to the risk margin on other
positions.

Margin Calculations
Under SPAN, firms will receive risk arrays from the respective clearing organizations to
calculate margins for their accounts. These firms will then calculate minimum margin
requirements for all of its accounts based on the arrays on a daily basis. Individuals are able to
calculate their own margin requirements through loading the risk arrays and their positions into
PC-SPAN.

Risk Arrays:
Under SPAN, each Exchange will provide risk arrays for each commodity traded. These arrays
are comprised of 16 “what if” scenarios that cover a range of reasonable futures price and
volatility changes over the course of a day. For example, what if crude oil futures prices rose by
$1 and volatility on crude oil options fell? Each scenario measures the impact on profit and loss
of the hypothetical movements on futures and options positions within that commodity.
Each answer becomes a component of the risk array, and SPAN will take the largest loss from
that array as the minimum margin for the day. In order to construct arrays, each Exchange
provides both the futures and volatility scan ranges.
Futures Scan Range:
The futures scan range is equal to a firm’s maintenance margin requirement for outright
positions. This represents the interval that a futures contract’s prices are likely to move (up or
down) over a single day. For example, if the scan range is $1,500 for crude oil contracts, it
implies that crude oil futures prices are most likely to fluctuate within a band of $1.50/barrel up
or down (since each contract represents 1,000 barrels) from the last settlement price. To
construct the risk arrays, SPAN sets fractions (multiples of 1/3) of the range both up and down as
the plausible price changes. Each commodity traded has its own scan range.

Volatility Scan Range:

In addition to futures price changes, a major determinant of option value is the inherent volatility
that is expected in the market. Each Exchange will set parameters, both up and down, for likely
changes in expected market volatility. The impact on option value of these hypothetical changes
are then used to capture the profit (or loss) on option positions, and hence the risk of options in a
given portfolio.

Extreme Move Scenario:

Each Exchange will set an extreme move parameter, usually set equal to a multiple of the futures
scan range, as well as a percent of this move it believes it needs to be covered for possible abrupt
changes of futures prices.

EFFECT OF DERIVATIVES ON VOLATILITY:

Many theories have been developed about the pros and cons of the impact of derivatives trading
in the stock market. A common agreement has been found among the studies that the
introduction of derivatives products, specially the equity index futures enables traders to transact
large volumes at much lower transaction costs relative to the cash market.

A major theoretical argument for the benefit of derivatives trading is that it reduces the
volatility of the stock market. The logic is that it reduces the asymmetric information among the
investors and information reduces the speculation in the trading system. A variety of theoretical
arguments have been advanced over the years to explain why speculative trading in general, or
the existence of derivatives markets in particular, might affect the volatility of the underlying
asset market.

Empirical researchers have tried to find a pattern in stock return movements or factors
determining these movements. Generally, volatility is considered as a measurement of risk in the
stock market return and a lot of discussions have taken place about the nature of stock return
volatility. Therefore, understanding factors that affect stock return volatility is an imperative task
in many ways.
There are two sets of views according to the theoretical as well as empirical findings. One is of
the view that introduction of derivatives has increased the volatility and market performance,
through forwarding its speculative roles and the other view is that the introduction of derivatives
has reduced the volatility in the stock market thus increasing the stability of the stock market.

The behavior of volatility in the equity market in India, for the pre and post derivatives
period, has been examined using conditional variance for the period of 1999-2003 15. He modeled
conditional volatility using different method such as GARCH (1, 1). He has considered 20 stocks
randomly from the Nifty and Junior Nifty basket as well as benchmark indices itself. As result,
he observed that for most of the stocks, the volatility came down in the post-derivative trading
period. All these methods suggest that the volatility of the market as measured by benchmark
indices like S&P CNX Nifty and Nifty Junior have fallen in the post-derivatives period.

15
Nath, 2003
CHAPTER 2:

LITERATURE REVIEW
LITERATURE REVIEW

The markets are facing unprecedented changes and advancements. For the participants, they
represent big challenges on one hand and huge opportunities on the other. It is imperative that
market participants keep themselves abreast of the latest developments, new products, regulatory
changes, risk management tools and their appropriate use. Derivatives provide armor against
these market fluctuations for the investor.

However some notable criticisms were also seen during the period. As for instance, large
possible losses in these investments because of leverage and borrowing. Since the value of
derivatives directly depends upon the value of underlying so the investor makes huge amount of
money if the value of the underlying moves in the favor of investor but losses are also incurred in
case of moving of the value against them. Secondly, the usage of derivatives massively increases
the debt in an economy. In the view of Marriner S. Eccles, U.S. Federal Reserve Chairman from
November, 1934 to February, 1948, too high a level of debt was one of the primary causes of the
1920s-30s Great Depression. (Berkshire Hathaway Annual Report for 2002).

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 derivatives trading
on NSE commenced on June 12, 2000 with futures trading on S&P CNX Nifty Index, options
trading on the S&P CNX Nifty Index commenced on June 4, 2001. Individual stock options were
introduced on July 2, 2001 and Individual stock futures were introduced on November 9, 2001
by the National stock Exchange of India.

If we have a quick look over the progress of derivatives then according to World
Federation of Exchanges (WFE) then National Stock Exchange (NSE-INDIA) witnessed an
increase of 170,348,439 contracts of stock index options traded during the year 2008-09 resulting
a staggering increase of 112.77%.

Alan Greenspan, a renowned American economist and chairman of Federal Reserves of

America quotes “These derivatives as the instruments that enhances the ability to differentiate
risk and allocate it to those investors most willing and able to take it.”

In the article Use of Derivatives by India’s Institutional Investors: Issues and Impediments by
Rajendra P. Chitale the author already tried to lay down some of the very important to examine
issues and impediments in the use of different types of derivatives available for use by the
institutional investors in India: Equity, Fixed Income, Foreign Currency, and Commodity
Derivatives. He notes that the intensity if derivatives usage by an institutional investor is a direct
function of its ability and willingness to use derivatives for process of: Risk Containment, Risk
trading, and covered intermediation.

Based on some above represented statistics and analysts comments it can be noted that
there is a huge potential of derivative market in Indian stock exchanges which the exchanges are
already experiencing. Not only the Indian stock exchanges are experiencing this growth of
derivative trading but each and every market, be it American, East Asian, European and markets
of Asia pacific reported a great increase in the past trading year i.e. 2008-09 (IOMA market
survey 2008-world federation of exchanges).

Derivatives if on one hand are providing a shield against the market fluctuations then it is
also prove to be one of the most risk involved instruments of investments these days.
CHAPTER 3:

RESEARCH METHODOLOGY
RESEARCH METHODOLOGY

RESEARCH OBJECTIVE:

To examine the concepts of derivatives and derive substantial conclusions regarding its
current perception from an investor point of view while trading in Indian Stock Exchanges.

METHODOLOGY ADOPTED:

In order to have a better understanding about the concept and proper analysis or the
interpretation of primary research, the secondary research have been conducted first. The
secondary research encompasses every aspect of derivatives, their advent in Indian stock
exchanges, and their onset in Global markets and their current scenario in world market.

Based on this, a structured and non-disguised questionnaire was developed, keeping in mind the
individual’s perception or his view point’s doesn’t get affected by that of firm’s. It was important
in several following ways: -

I. The current status of derivatives can optimally be determined if non-biased view of

respondents are recorded
II. What an individual investor/broker’s opinion about the volatility of derivative market in
India.
III. Is it just theoretical that derivatives reduce market risk.
IV. What is the scenario of derivative market in Indian stock exchanges.
The primary research was conducted in Indiabulls (Dwarka Branch) both online and offline. As
the brokers have a good sense of knowledge of nerve of the market irrespective of the firm they
are working in. Hence an exploratory research was needed to be setup in order to provide better
insights and understanding about the key issue.

Since the target population here is almost anyone who deals in derivatives, hence it was
necessary to adopt sampling frame as the employees of Indiabulls, as they deal on the behalf of
individual and institutions.

A total of 30 respondents as sample size were enquired about their view points regarding
derivatives and their products. The method of convenience sampling (non-probability sampling
method) was adopted. The questionnaire (see annexure) consisted of around 11 questions in total
enquired almost everything regarding derivatives, their products and usages, liquidity perception
and risk involved in the trading of derivatives.

Data Analysis was done using Microsoft excel. It is then followed by the results,
recommendations and interpretation of data.
LIMITATIONS OF THE PROJECT

Following were some of the limitations of the project: -

1.) Lack of knowledge:

Derivatives prove to be a cumbersome mode of investments because of its

complexities. Still a good number of investors due to lack of knowledge fear to

invest in derivatives.

2.) Busy Schedule:

The project was done under the supervision of the employees of Indiabulls but

even at their best possible level, the period during the opening and closures of

stock market the employees and even the customers were unable to share their

most of the views.

3.) Risky profile:

Sharing some of the matter regarding the portfolio of securities and derivatives

was not allowed since it was extremely confidential from customer point of view.

4.) Vastness of derivatives:

 Derivative is a vast subject. Every topic and subtopic that is almost imperative to

append in the project is almost impossible. Hence a great deal of caution is met in

order to add or remove any topic in the research.

5.) Lack of time:

Covering each aspect of derivatives was not possible within the training period.
Before conducting the primary research, a huge deal of secondary data was need
to be studied in order to have a better interpretation of the primary research.

PART 2:

INDIABULLS FINANCIAL SERVICES AND SALES

INDIABULLS FINANCIAL SERVICES
Indiabulls Financial Services Limited was incorporated on January 10, 2000 as M/s Orbis
Infotech Private Limited at New Delhi under the Companies Act, 1956 with Registration No. 55
- 103183. The name of Company was changed to M/s. Indiabulls Financial Services Private
Limited on March 16, 2001 due to change in the main objects of the Company from InfoTech
business to Investment & Financial Services business. It became a Public Limited Company on
February 27, 2004 and the name of Company was changed to M/s. Indiabulls Financial Services
Limited. And now this company has achieved milestone by voted as The Youngest Company of
the year in ET500

Indiabulls Financial Services Ltd is a public company and listed on the National Stock
Exchange, Bombay Stock Exchange, Luxembourg Stock Exchange and London Stock Exchange.
The market capitalization of Indiabulls is approx US $ 800 million, and the consolidated net
worth of the company is approx US $ 400 million. Indiabulls and its group companies have
attracted US $ 300 million of equity capital in Foreign Direct Investment (FDI) since March
2000.

Indiabulls ranks at 82nd position in the list of most valuable companies in India. Indiabulls is
promoted by three engineers from the Indian Institute of Technology (IIT) Delhi. Foreign
Institutional Investors (FIIs) and foreign funds hold over 60 percent shareholding of Indiabulls.
Some of the large shareholders of Indiabulls are the largest financial institutions of the world
such as Fidelity Funds, Capital International, Goldman Sachs, Merrill Lynch, Lloyd George and
Farallon Capital. There are approximately over 40,000 shareholders of the company.
Indiabulls Financial Services is retail financial services company providing a diverse array of
financial products and services, through its nationwide network of over 300 Indiabulls offices,
and services over 2, 50,000 clients spread across 110 cities in India. Indiabulls, along with its
subsidiary companies, offer consumer loans, brokerage and depository services, personal loans,
home loans and other financial products and services to the retail markets.

Indiabulls, which has a workforce of over 10,000 full time employees, reported US $ 60 million
in Profit Before Tax and US $ 45 million in Net Profit for the first nine months of the current
financial year.

Philosophy: -

Indiabulls has created a unique organization that is designed for you – the Smart Investor –. it
passionately believe in the Smart Investor who wants to make his own educated investment
choices and demands world class access to a full range of services and products ranging from
Equities to Insurance, combined with the highest level of integrity, service and professionalism.

Indiabulls is a full service investment firm offering clients access to a tremendous range of
financial services from 135 locations across 95 cities. We have a strong team of over 1000 Client
Relationship Managers focused on serving customers unique needs. Our world class
infrastructure, built with tens of crores of investment, provides our clients with real-time service,
multi-channel & 24/7 access to all information and products. As we've expanded and developed
to serve the needs of all kinds of investors, we've been guided by one underlying philosophy:
You come first.

TM
We are proud to introduce to you Indiabulls Professional Network that offers real-time
prices, equity analysis, detailed data and news, intelligent analytics, and electronic trading
capabilities, right at your finger-tips. This powerful technology is complemented by our
knowledgeable and customer focused Relationship Managers who are available to help with your
financial planning and investment needs.
(Source: Indiabulls website)
CAPITAL MARKET

The capital Market consists of two market.

1. Primary Market
2. Secondary Market

Primary market: -
Primary market deals with the issue if new instrument by the corporate sector such as equity
share, preference share and debt instrument. Central and State govts. , Various public industrial
units (PSUs), statutory and authority such as state electricity boards and port trusts also issue
bonds/debt instruments. Offer for subscription to securities is made to investing community.
There are several majors players in primary market. These include the merchant
bankers, mutual funds, financial institutions, foreign institutional investors (FIIs) and individual
investors.

Secondary market: -
The secondary market or stock exchange is a market for trading and settlement of securities that
have already been issued. The investors are holding securities sell securities through registered
brokers/sub brokers of the stock exchange. Investors who are desirous of buying securities
purchase securities through registered brokers/sub brokers of the exchange. It may have a
physical location like a stock exchange or a trading floor. Since 1995, trading in securities is
screen based and Internet based trading has also made an appearance in India.
In secondary market there are the stock exchanges, stock brokers (who are
members of the stock exchanges), the mutual funds , financial institutions, foreign institutional
investors (FIIs), and individual Investors

Securities and Exchange Board of India (SEBI): -

With the objective of improving market efficiency, enhancing transparency, checking unfair
trade practice and bringing the Indian market up to international slandered, a package of reforms
consisting of measures to liberalize, regulate and develop the securities market was introduced
during the 1990s. This has changed corporate securities market beyond recognition in this
decade. The practice of allocation of resources among different competing entities as well as its
terms by a central authority was discontinued. The secondary market overcome the geographical
barriers by moving to screen based trading

National Stock Exchange (NSE): -

The National Stock Exchange commenced its operational in 1994 as first steps in reforming the
securities market through improve technology and introduction of best practices in management.
It started with the concept of an independent governing body without any broker representation
thus ensuring that the operators’ interests were not allowed to dominate the governance of the
exchange.

Depository System: -
Before the NSE was setup, securities (Shares) were in physical form. The transfer was by
physical movement of papers. There had to be a physical delivery of securities a process fraught
with delays and resultant risk. The second aspect of the settlement relates to transfer of shares in
favour of the purchaser by the company. The system of transfer of ownership was grossly
inefficient as every transfer involves physical movement of paper securities to the issuer for
registration, with the change of ownership being evidenced by an endorsement on the security
certificate in many cases the process of transfer would much longer than the two months
stipulated in the Company Act, and a significance proportion of transaction would end up as bad
delivery due to faulty compliance of paper work, Theft, forgery, mutilation of certificates of a
security. All this added to cost and delays in settlement, restricted liquidity and made investors
grievance redressal time consuming and, at time, intractable.
To obviate these problems, the Depositories Act, 1996 was passed. It provide for the
establishment of depositories in securities with the objective of ensuring free transferability of
securities with speed, accuracy and security. It does so by
1. Making securities of public limited companies freely transferable, subject to certain
exception.
2. Dematerialising the securities in the depository mode.
3. Providing for maintenance of ownership records in a book entry form.
Two depositories, viz., NSDL and CDSL, have come up to provide instantaneous electronic
transfer of securities.
The NSE introduce screen based trading system (SBTS) where a member can punch in to the
computer the quantities of shares and the prices at which he wants to transact. The transaction
execute as soon as quote punched by a trading member finds a matching sale or buys quote from
counter party. SBTS electronically matches the buyer and seller in an order driven system or
finds the customer the best price available in a quote driven system, and hence cuts down on
time, cost and risk of errors as well as on the chances of fraud.

Trade Transaction: -
An Investor can get in two types of trade transaction i.e.
1. Intraday Trade
2. Delivery Trade

Intraday trade: - In this type of trading an investor can buy any share during the trading session
but he has to sell this share before 3 P.M. otherwise the software of Indiabulls will sell it
automatically.
Delivery Trade: - In delivery Trade Investor buys any share during the trading session but he is
no more bound sell it on same day. It is basically for investment purpose he can sell his share
whenever he wants.

COMPETITIVE EDGE OF INDIABULLS

In order to attain a customer’s trust, he/she needs to be told about all the features of a
Dematerlization account and where all Indiabulls marks a competitive edge over others. A
customer satisfaction is the primary aim for any enterprise. Unless and until a customer is
completely satisfied by the company’s objective and modus operandi, he will not be able to place
his full trust on the company.

15.1 Competitor map of Indiabulls

S.B.I

ULIP TATA EQUITY FUNDS

INDIABULLS
ICICI Direct RELIANCE
 India Info Line MOTILAL OSWAL SHAREKhan

15.2 Comparison of Demat Account charges in various depository services

Account Account
BUY SELL
Depository Opening Maintenance
Charges Charges
Charges Charges
Rs. 400/- NIL for trade on'
SBI per year (Rs.350/- SBICAP
Demat Account NIL if you choose NIL Securities, else
Charges email statement) 0.03% (Min.
Rs.30/-)
HDFC
Rs. 500/- 0.04%
Demat Account NIL NIL
per year Min. Rs. 20/-
Charges
INDIABulls
900
Demat Account Nil NIL N.A
(Lifetime)
Charges
Sharekhan
Rs. 75/- per 0.02% 0.04%
Demat Account NIL
quarter Min. Rs. 15/- Min. Rs. 15/-
Charges
Rs. 500/- NIL for trade on
ICICI
per year (Rs. 450 ICICIDirect.com,
Demat Account NIL NIL
if you choose else 0.04%*
Charges
email statement)

*Min Rs.10/- for e-instruction, Min Rs.30/- for instructions through branches.

Comparison of Brokerage Rates

Brokerage for Brokerage for

Online Broker MMC*
Delivery Intraday trading
SBICAP Securities
0.50% 0.10% NIL
brokerage charges
Sharekhan
0.03% - 0.50% 0.03% - 0.10% NIL
brokerage charges
Motilal Oswal
0.30% - 0.50% 0.03% - 0.15%
brokerage charges
5 paisa
0.25% - 0.85% 0.07%
brokerage charges
Angel Broking
0.50% 0.02% - 0.03%
brokerage charges
 ICICI direct
0.75% 0.15%
brokerage charges
Indiabulls
0.25% - 0.50% 0.03% - 0.05%
brokerage charges
HDFC Securities
0.50% 0.15%
brokerage charges
UTI Securities
0.80% 0.15%
brokerage charges
Religare
0.20% - 0.30% 0.02% - 0.03%
brokerage charges
Reliance Money
0.01% 0.01% card system
brokerage charges
Geogit 0.30% 0.03%
brokerage charges
Indiainfoline
0.50% 0.10% -
brokerage charges
MMC=Minimum monthly commitment.

CHAPTER 4:

DATA COLLECTION AND ANALYSIS

BRIEF SUMMARY

Primary Research

Primary research (also called field research) involves the collection of data that does not
already exist, which is research to collect original data. Primary Research is often undertaken
after the researcher has gained some insight into the issue by collecting secondary data. This can
be through numerous forms, including questionnaires, direct observation and telephone
interviews amongst others. This information may be collected in things like questionnaires and
interviews.

There are basic approaches to data collections using primary methods:

1.) Qualitative research includes interviews, focus groups and participant

observations.

2.) Quantitative research includes controlled laboratory experiments, field work,

questionnaires and surveys and ethnographies.
 The project involves gathering information regarding the derivatives and their impact on
Indian Stock exchanges. Hence, an attempt is made to provide insights from the
employees of Indiabulls on their knowledge regarding derivatives, its dealings and
various other basic features that underlines their basic trading of derivatives in Indian
Stock Exchanges.

This brief summary will be followed by an individual interpretation of each question and their
analysis supported by an illustrated graph or a diagram.

DATA ANALYSIS

Q1.) Do you deal in Derivative instruments?

Yes ( )

No ( )

Interpretation

This question actually segregates the individuals who deal in Derivatives like futures, options,
commodity etc. with those who do not deal in them.

Result
 100%

90%

80%

70%

60%

50%

40%

30%

20%

10%

0%
Yes No

Analysis

It was understood that all the employees of Indiabulls dealt in derivatives. The question clearly
marks the usage because of its very importance of derivatives in India. Not only Indiabulls
almost all the brokerage houses deal in derivatives.

Q2. Which of the following Derivative instruments do you deal in?

a.) Futures
b.) Options

c.) Both

Interpretation

This question attempts to find out what type of derivatives instrument the respondent deal with.
Result

35

30

25

20

15

10

0
Futures Options Both

Analysis

It was deduced that all the respondents deal with both futures and options. The F&O
formed the important part of their derivative trading.

Q3. How much do Stock Index Futures contribute to your entire trading?
a.) More than 75%

b.) 50% - 75%

c.) 25 - 50%
d.) less than 25%

Interpretation

The question enquired about the amount of derivative trading that constitutes to their entire
trading.

Results
 Derivative Trading

>75
50-75
25-50
<25

Analysis

It’s quite evident from the pie chart that most of the respondents around 17 (57%) deal around
50-75 % in derivatives.

Following this around 8 respondents agreed that derivative constitutes to more than 75%
of their entire trading.

Only 5 respondents said that they deal in derivatives around 25-50 % of their entire trading.
None of the respondents deal in derivatives less than 25%.

Q4.Please rate the following factors on point scale of 1 to 4,with 4 being most dominant factor
and 1 being least dominant factor, which have necessitated the use of derivatives?

a.) Hedging ( )
b.) Arbitrage ( )
c.) Speculation ( )
d.) Leverage ( )
Interpretation
Derivatives are of different types: Hedging, Arbitrage, Speculation, and Leverage.
Different investor uses derivatives as per their point of view or their interests. The question
makes an attempt to determine what is the most dominant factor for the usage of derivatives by
an investor. It’s an important question from project point of view as it determines the factors that
are responsible for usage of derivatives in Indian Stock Exchange

Result

Dominant Factors for the usage of Derivative

Hedging & Speculation

Arbitrage & Leverage

Analysis
For the analysis, two most dominant factors and two least dominant factors are grouped.
It was found that the current derivative market is completely dominated by hedging and
speculations.
Arbitrage is as stated by one of the employee, not much in use by the investors.
Q5.What is the Liquidity Perception regarding Derivatives?

a.) Very High

b.) High
c.) Moderate
d.) Low
e.) Very Low

Interpretation
This question enquires about the liquidity perception of the derivatives from the respondents. By
liquidity of derivatives, it is meant that how much easily the derivatives can be converted into
cash or how easily the investor can get his money out of the investment.

Result

Liquidty Perception
18

16

14

12

10 Liquidty Perception

0
Very High High Moderate Low Very Low

Analysis

It is quite clear from chart that out of 30 respondents most of them (around 17) believe
derivatives are highly liquid. Following them around 8 respondents find derivative extremely
liquid. Only 5 have a moderate perception about liquidity of derivatives.

Q6. What kind of investors usually approaches you for trading in Stock Index Futures/Options?
(Wherever applicable)

a.) Hedger
b.) Speculator
c.) Arbitrageur

Interpretation
The question here attempts to enquire the respondents, what type of investors does approach
them for trading in Stock Index Futures/Options.

Result

Investor
18

16

14

12

10 Investor

0
Hedger Speculator Arbitrageur

Analysis

It is evident from the result that around 17 respondents believe that speculators approach
them for trading in derivatives.

Following them around 11 claimed that hedgers approached them more than the rest. And
only 2 claim that arbitrageur approach them more than the hedgers and speculators.

Q7. Do you deal in Commodity Derivatives?

a.) Yes
b.) No

Interpretation
Commodity derivatives are the derivatives whose underlying is a commodity. Like gold, silver,
wheat, rice, cotton. An investor buys a particular commodity and speculates its future price while
keeping any eye on the demand and supply. Hence the question here enquires about whether the
respondent deals in commodity derivates or not.

Result

Dealing in Commodity
30

25

20
Dealing in Commodity
15

10

0
Yes No

Analysis

Almost 84% employees of Indiabulls deal in commodity derivatives. A very few around
5 people denied that they work in commodity derivatives.

Hence a major part of the respondents work in commodity derivatives.

Q8. For trading, which type of derivative do you prefer?

a.) Financial

b.) Commodities

Interpretation
 In India there are mainly two types of derivatives, financial that include equity
derivatives, stock futures, options, currency etc. while the second type is commodity derivatives.
The question enquires the respondents about their preference regarding trading in financial
derivatives or commodity derivatives.

Result

35
Derivative
30

25

20
Derivative
15

10

0
Financial Commodity

Analysis

Clearly evident from the result that almost every respondent prefer to work in financial
derivatives over commodity derivatives.

Reasons can be high degree of leverage which enhances the risk. At the same time speed
of trading is also slow as compared to financial derivatives.

Q9.What is your perception about the Risk involved in trading of Derivatives?

a.) Very High
b.) High
c.) Moderate
d.) Low
e.) Very Low
Interpretation

This was an extremely important question from project point of view. Derivatives are generally
stated as shield against market fluctuations. But the question here enquires about the ground
status or the investor’s point of view regarding the risk involved in the derivative transaction.

Result

Market Risk
20
18
16
14
12 Market Risk
10
8
6
4
2
0
Very High High Moderate Low Very Low

Analysis

Contrary to the definition of derivatives, that it provides a shield against the market
fluctuations, most of the respondents (around 19) still feel that there is a degree of very high risk
while working with the derivatives. Following them were 10 respondents who feel its highly
risky to deal in derivatives. There are none who believed that working in derivatives is lowered
the risk.

Q10. What is the awareness level about Derivatives?

a.) Very High
b.) High
c.) Moderate
d.) Low
e.) Very Low
Interpretation

Derivatives are comparatively new and advanced topic for the investors who are already in this
field for over decades. Introduced last decade, it requires much closer look at market as well as
the demand and supply market. Since it is purely based on speculations hence markets are
needed to be studied more precisely.

Result

Awareness Level
18

16

14

12

10 Awareness Level

0
Very High High Moderate Low Very Low

Analysis

Most of the respondents around 17 claimed that they have a highly aware of the concept
of derivatives. Following them are the respondent who claim to have a fair level of derivatives
knowledge. A few claimed to have an extremely good awareness level of derivatives.
CHAPTER 5:

CONCLUSIONS AND SUGGESTIONS

CONCLUSIONS

From the above discussion and research analysis we can conclude following things for the
research:
 1. Contrary to the definition of derivatives, the instrument turned out to be a highly
risky investment.
2. Almost everyone in brokerage houses deals with all kinds of derivative, both
financial and commodity.
3. In fact the derivative trading forms an important part of their total trading i.e.
around 50-75%.
4. The liquidity perception of derivatives is also high.
5. The current derivative market is clearly based on speculations and hedging, with
arbitrage and leverage as least dominant factors.
6. Investors as well as brokers both prefer financial derivatives like stock index
F&O, currency derivatives over commodity derivatives because of high degree of
leverage.
7. Awareness level claimed by some of the brokers was high regarding the concepts
of derivatives but this doesn’t reflect the awareness level of investors.

Suggestions

Some of the points suggested for a better level of trading in derivatives were as follows: -

 Awareness level marks one of the important factors for a better trading in derivatives.
 Since the derivatives marks one of the risky investments, it is better advised to be done
with the help of any broker or any individual of higher level of knowledge.
 One of the respondents suggested to trade more in futures. The reasons he supplied that,
it has a higher degree of leverage even with smaller margin i.e. investment. Secondly
commission charges on future trading are also less.

REFERENCES AND SOURCES

Books & Articles

NCFM Financial Market Module

NCFM Derivatives Market (Dealers Module)

Rustagi R.P, Financial Management

Chitale Rajendra P.,Use of Derivatives by India’s Institutional Investors: Issues and

Impediments

Association of Charted Treasury Managers: Transworld Univeristy

Raju & Ghosh 2004

Yang et Al 2005

Websites

www.nseindia.com

www.indiabulls.com

www.world-exchanges.org/

IOMA Derivative market survey

Investopedia.com

Berkshire Hathaway Annual Report 2002

www.wikipedia.com

ANNEXURE I

Annual Report for Indiabulls: Directors Report

Directors Report Year End : Mar '10

The Directors have pleasure in presenting the 11th Annual Report

together with the audited statement of accounts of the Company for the
financial year ended March 31, 2010,

FINANCIAL RESULTS

The highlights of the financial results of the Company for the

financial year ended March 31, 2010.

Amount (in Rs.) Year ended Year ended

Particulars March 31,2010 March 31,2009

Profit before Depreciation 4,016,193,840 2,537,649,076

Less: Depreciation/Amortisation 73,708,770 68,088,503

Profit before Tax 3,942,485,070 2,468,960,573

Less: Provision for Tax 1,300,882,293 567,239,705

Profit after Tax 2,641,602,777 1,901,720,868

Add Balance of Profit

brought forward 1,234,774,798 812,187,831

Amount available for

appropriation 3,876,377,575 2,713,908,699

Appropriation :

Dividend paid on
Preference Shares 78,217,802 118,186,239

Proposed dividend on
Preference Shares - 38,679,133

Proposed Final Dividend on

Equity Shares 1,549,472,605 507,259,538

Dividend on Equity Shares

Issued after the year - 112,280,700

Dividend on Equity Shares

issued after 396,450 221,362
the year end pursuant to
ESOPS Allotment

Corporate Dividend Tax on:

-Dividend paid on Preference

Shares 13,293,116 20,085,752
Proposed Dividend on Preference
Shares - 6,573,519

Proposed Final Dividend on

Equity Shares 257,348,031 86,208,758

Dividend on Equity Shares

Issued after the year
end pursuant to QIP Issue - 19,082,106

Dividend on Equity Shares

issued after 65,845 37,620

the year end pursuant to ESOPS

Transfer to General Reserve 264,200,000 190,175,000

Transfer to Reserve Fund (U/S

451C of RBI Act, 1934) 528,320,556 380,344,174

Balance of Profit Carried

forward 1,185,063,170 1,234,774,798

BEVIEW OF OPERATIONS

FY2010- Key Financial Highlights

- The Total Revenue of the Company are Rs. 1,429.41 crore in Financial
Year 2009-10 as compared to Rs 1,783.51 crore in Financial Year
2008-09.

- The Profit before Tax of the Company is at Rs. 394.25 crore in

Financial Year 2009 -10 as compared to Rs. 246.90 crore in Financial
Year 2008-09.

- The Profit after Tax (PAT) has increased substantially during the
Financial Year 2009-10. PAT is Rs. 264.16 crore in Financial Year
2009-10 as compared to Rs. 190.17 crore in FY 2008-09.

- Earning Per share (basic) is Rs. 8.72 per share in

Financial Year 2009-10 as compared to Rs. 6.78 per share in Financial

Year 2008-09.

- The Company has recommended 250% dividend amounting to Rs. 5 for

every share of Face Value of Rs. 2 as compared to Rs. 2 for every
share in FY 2008-09.

- The Company is well.capitalized with 32.42% CRAR.

Strong Loan Asset Growth

- The Loan Assets have grown 29.23% from Rs. 7,672.9 crore on March 31,
2009 to Rs. 9,915.5 crore as of March 31, 2010.

- Cumulative Loan Disbursements of Rs. 29,591 crore (from inception to

March 2010).

CRISIL expands borrowing capacity

CRISIL revised rating outlook on IBFSL to Positive

- CRISIL has revised its rating outlook on the long- term debt
instruments and bank facilities of IBFSL to Positive from Stable

- CRISIL has expanded the total borrowing capacity of IBFSL from Rs.
9,040 crore to Rs. 14,040 crore

SIGNIFICANT DEVELOPMENTS DURING THE YEAR

Life insurance Business

During the third quarter, the Company and Sogecap, the life insurance
subsidiary of Societe Generale of France, has mutually agreed not to
pursue the life insurance joint venture in India, for which they had
entered into a Joint Venture Agreement in April 2008.

The Company intends to pursue its insurance venture and is looking for
a new insurance JV Partner.

Multi commodity Exchange

Indian Commodity Exchange Ltd (ICEX), a nation- wide multi-commodity

Exchange, set up by the Company in partnership with AAMTC Ltd., has
gone live effective November 27, 2009.

Redemption of Non-Convertible Preference Shares The Company has on

September 30, 2009, redeemed 9,966,667 outstanding Non-Convertible
Preference Shares of face value Rs. 157.39 per share, held by Oberon
Ltd. in the Company. Consequently, the paid-up preference share capital
in the Company stands fully redeemed.

Revision in Crisil Ratings

CRISIL has revised its rating outlook on the long-term debt instruments
and bank facilities of Indiabulls Financial Services Ltd. (IBFSL) to
Positivefrom Stable; the rating has been reaffirmed at AA-.
CRISIL has also reaffirmed its rating on the Companys short-term debt
at PI +. The revision in the rating outlook reflects CRISI Ls belief
that IBFSLs business risk profile will improve over the medium term,
driven by an intrinsic improvement in its asset quality and a continued
improvement in its resource profile.

ANNEXURE II
ANNEXURE III
QUESTIONNAIRE

Q1. Do you deal in Derivative instruments?

Yes ( )
No ( )

Q2. Which of the following Derivative instruments do you deal in?

a.) Futures
b.) Options
c.) Both
Q3. How much do Stock Index Futures contribute to your entire trading?
a.) More than 75%

b.) 50% - 75%

c.) 25 - 50%
d.) less than 25%

Q4.Please rate the following factors on point scale of 1 to 4,with 4 being most dominant factor and 1 being least
dominant factor, which have necessitated the use of derivatives?

a.) Hedging ( )
b.) Arbitrage ( )
c.) Speculation ( )
d.) Leverage ( )

Q5.What is the Liquidity Perception regarding Derivatives?

a.) Very High

b.) High
c.) Moderate
d.) Low
e.) Very Low

Q6. What kind of investors usually approaches you for trading in Stock Index Futures/Options? (Wherever
applicable)

a.) Hedger
b.) Speculator
c.) Arbitrageur

Q7. Do you deal in Commodity Derivatives?

a.) Yes
b.) No

Q8. For trading, which type of derivative do you prefer?

a.) Financial

b.) Commodities

Q9.What is your perception about the Risk involved in trading of Derivatives?

a.) Very High

b.) High
c.) Moderate
d.) Low
e.) Very Low

Q10. What is the awareness level about Derivatives?

a.) Very High

b.) High
c.) Moderate
d.) Low
e.) Very Low

Q11. Would you like to give any suggestions regarding improvement of trading in Stock Index Futures/Options?

______________________________________________________________________

NAME: _________________________

Age: _____

Phone number/Email ID: ______________________________

*******Thank You for the information******