Reforms and Recent Changes in Derivatives Markets
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prathibakbReforms and Recent Changes in Derivatives Markets
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prathibakbDERIVATIVES MARKET
IN INDIA
CONTENTS
• HISTORICAL DEVELOPMENT
• PARTICIPANTS
• REFORMS AND RECENT CHANGES IN INDIAN DERIVATIVES
MARKET
Historical Developments of
Derivatives
• The first 'futures' contracts can be traced to the Yodoya rice market
in Osaka, Japan around 1650. These were evidently standardized
contracts, which made them much like today's futures.
• The next major event, and the most significant as far as the history
of U. S. futures markets, was the creation of the Chicago Board of
Trade in 1848.
• This came up when farmers faced difficulties to store the enormous
increase in supply that occurred following the Midwestern grain
harvest.
• Chicago spot prices rose and fell drastically.
• A group of grain traders then created the "to-arrive"
contract, which allowed farmers to lock in the price and
deliver the grain later.
• These contracts were eventually standardized around
1865.
• Consequently in 1925, the first futures clearinghouse
was formed.
DERIVATIVES MARKET IN INDIA
• The commodity derivative market has been functioning in India since the
nineteenth century with organized trading in cotton through the
establishment of Cotton Trade Association in 1875.
• Exchange traded financial derivatives were introduced in India in June
2000 at the two major stock exchanges, NSE and BSE.
• The National Stock Exchange of India Limited (NSE) commenced trading
in derivatives with the launch of index futures on June 12, 2000.
• The futures contracts are based on the popular benchmark S&P CNX
Nifty Index.
• The Exchange introduced trading in Index Options (also based on
Nifty) on June 4, 2001.
• NSE also became the first exchange to launch trading in options on
individual securities from July 2, 2001.
• Futures on individual securities were introduced on November 9,
2001.
• Futures and Options on individual securities are available on 227
securities stipulated by SEBI.
• The Exchange provides trading in other indices i.e. CNX-IT,
BANK NIFTY, CNX NIFTY JUNIOR, CNX 100 and NIFTY
MIDCAP 50 indices.
• The Exchange is now introducing mini derivative (futures and
options) contracts on S&P CNX Nifty index.
• National Commodity & Derivatives Exchange Limited
(NCDEX) started its operations in December 2003, to provide a
platform for commodities trading
PARTICIPANTS IN
DERIVATIVES
HEDGERS
SPECULATORS
ARBITRAGEURS
HEDGERS:
An investor who takes steps to reduce the risk of a
investment by making an offsetting investment. There are a
large number of hedging strategies that a hedger can use.
SPECULATORS:
These are individuals who take a view on the future direction of the markets.
They take a view whether prices would rise or fall in future and accordingly
buy or sell futures and options to try and make a profit from the future price
movements of the underlying asset.
ARBITRAGEURS:
They take positions in financial markets to earn riskless profits. The
arbitrageurs take short and long positions in the same or different
contracts at the same time to create a position which can generate a
riskless profit.
Reforms And Recent Changes
in Derivatives Markets
Objective of reforms
The recent financial crisis has highlighted structural problems in the
OTC derivatives market.
Limited transparency regarding risk exposures, poor risk management
practices to mitigate counterparty risk and potential risk of contagion
arising from interconnectedness have increased systemic risks, thereby
threatening the functioning of the international financial markets.
The key reform elements are:
• All standardized OTC derivatives should be traded on exchanges or
electronic platforms, where appropriate.
• All standardized OTC derivatives should be cleared through central
counterparties.
• OTC derivative contracts should be reported to trade repositories.
• Non-centrally cleared derivative contracts should be subject to higher
capital requirements.
Margin and Collateral Management
• Major enhancements will be required in the following areas:
• New initial margin requirements will call for real-time/intra-day calculations and posting
of collateral for CCP cleared trades
• Risk management is going to involve higher complexity because it will cater to a
environment in which both OTC cleared and non-cleared
• derivatives contracts will co-exist
• Information management will be required to keep track of positions and collateral
obligations across different CCPs on a near real-time basis
• Centralization of collateral management will help collateral optimization, which in turn
will become an essential tool for the efficient funding of margin calls
• Collateral management systems will have to factor in the new constraints such as stringent
collateral eligibility requirements and segregation of client collateral
Trade Reporting and Record Keeping
• Collate data from various sources
• Report on a near real-time basis to the data repositories and regulatory
bodies
• Support new reference data requirements such as the emerging data
standardization related to Legal Entity Identifier (LEI), Product
• Classification, Trade Identifier etc.
• Maintain audit trail details
• Keep records of transactions for the stipulated time period
THE TREND OF DERIVATIVE MARKET IN INDIA
• Derivative products made a debut in the Indian market during 1998 and overall progress of
derivatives market in India has indeed been impressive.
• The Indian equity derivatives market has registered an "explosive growth" and is expected
to continue its dream run in the years to come with the various pieces that are crucial for the
market's growth slowly falling in place.
• Besides Rupee derivatives offered by the local players, RBI has also allowed the client to
use more exotic products like barrier options. These products are offered by the local bank
on back-to-back basis, wherein they buy similar product from market maker from the
offshore markets.
• The complexity of derivatives market has increased, but the growth in deployment of risk
management systems required to manage such complex business has not grown at the same
pace.
• The reason being, the very high cost of such system and absence of any local player who
could offer the solution, which could compete with product offered by the international
vendors.
