Calling For Innovation ,Change in regulations can boost derivatives trading at NSE

A falling stockmarket can have a positive side to it too. Traders, including individual investors, have increased participation in a segment of the derivatives market that until recently was insignificant: index options. But the absence of a bouquet of products compared to other international derivatives markets has limited its scope. Currently, the equity derivatives market is the only financial market in the country where there is enough regulatory scope to enhance innovativeness in the products offered to the market players and investors.

Since February 2008, the share of trading in index options, predominantly options on S&P CNX Nifty 50 index (Nifty), has risen about four times. Interestingly, this has come about at the cost of the Indian speculator’s favourite: futures in individual stocks, where the traded value has more than halved (see ‘Emerging Trend’).

The downward movement in stock futures has shifted traders’ attention to options contracts, which are less risky than naked futures if one is buying a put or a call option. “Since a year when equity markets have been on a slide, traders have found that it is difficult to gauge the market movement, and find themselves quickly out of the game,” says Gurudatta Dhanokar, head strategist of derivatives at Almondz Global Securities. “So, they have preferred to dabble in buying options, particularly index options, where they know their maximum losses upfront.”

In options trading, the price paid is the market-determined premium. If one buys a call option on Nifty that has a strike price of 2,500, one pays just the premium amount (say 25). If the Nifty goes down by over 25 points the call option buyer’s loss will still be restricted to the 25 premium as he cannot exercise his loss-making option on expiry.

Index options contracts are also the most active equity derivatives contracts the world over. Eurex, Euronext Liffe, Korea Exchange, Australian ASX Derivatives Exchange, Hong Kong Exchanges, Borsa Italiana and Brazilian Bovespa are among the largest equity derivatives exchanges. Their combined notional turnover in 2008 (till November), according to the World Federation of Exchanges, in index options was the highest at $42.9 trillion, followed by that in index futures at $13 trillion, in stock options at $3.4 trillion and in stock futures at $1.1 trillion.


Time To Move Forward
With Nifty options and futures turnover overtaking that of stocks derivatives, NSE should seriously think of aligning with world trends to keep the growth momentum going. NSE faces tough competition from Singapore Exchange (SGX) in Nifty futures (see ‘Early Bird’, BW, 5 January 2009). “Because of the October 2007 restrictions on foreign investors’ participation through structured products on onshore Nifty futures and options, the market has moved to Singapore’s dollar-denominated Nifty futures,” says Vipul Dalal, country head of Mumbai-based Elara Securities, a subsidiary of London-based Elara Capital. Dalal points out that the turnover in SGX’s Nifty futures contracts has grown multiple times in the past 17 months and is near to overtaking the onshore Nifty futures turnover.
BW learns from sources that NSE is ready to compete with SGX if given a level-playing field in terms of product design and removing restrictions on foreign participation. “Big banks and hedge funds build synthetic hedges around the US dollar-denominated SGX-listed Nifty futures and that business can come into India if regulations allow it,” says Dalal. This can happen if Sebi moves fast on giving approvals to NSE’s proposals.

Tapping OTC Market
The demand for structured products demand also connects to trading volumes taking place in the wholesale market, or over-the-counter (OTC) market. Internationally, New York Mercantile Exchange (NYMEX) and NYSE Euronext Liffe are actively tapping the OTC equity derivatives market in the US and Europe, respectively. In 2004, Liffe realised that equity derivatives volumes in Europe were shifting away from the exchanges and estimated that about 80 per cent of it was happening through OTC market. In OTC market, the International Swaps and Derivatives Association had offered support to attract investment banks and funds to do derivatives OTC.

“But we saw that as an opportunity to do the exact opposite — to get them on to exchange-traded platform,” says Fraser Cowie, executive director of trans-Atlantic business development at London-headquartered Liffe division of NYSE Euronext.

In early 2005, Liffe introduced a single clearing platform, Bclear, for OTC trades in equity options spanning across 13 European markets. “Here, we don’t match trades but you book the trade and get it reported and cleared through us,” says Cowie. “The cost of processing is kept low.” Cowie believes the exchange-traded platform and OTC platform have a positive effect on liquidity on each other, because of the increased visibility of OTC trades. The trading volume in OTC equity derivatives on Liffe was €783 billion (about Rs 52,24,900 crore) during the 14 month between January 2008 to February 2009 compared to the exchange-traded turnover of €2,357 billion.

The Liffe model can be replicated in India. “Wherever humanly possible, the derivatives trades should be exchange-traded, but where OTC trades occur, they should be routed through a central clearing counterparty,” says Ajay Shah, senior fellow at the Delhi-based Institute of Public Policy and Research. “A clearing corporation will collect margins and ensure there is no mess if a Bear Stearns collapse-like scenario occurs,” says Shah.

In equities, OTC trades scenario is only felt in terms of attracting the overseas OTC trades structured around a Nifty futures or a NSE/BSE-listed stock. For it to become a reality, Sebi will have to amend the Securities and Contract Regulation Act to allow derivatives trades to take place outside the exchanges.

Minor tinkering of existing products can help. Physical settlement of stock derivatives, instead of cash-settled contracts can help arbitrageurs and hedgers. The equity derivatives market is the only financial market in the country where the trading volume counts among the top 5-10 markets in the world. But to stay there, Sebi needs to broaden its regulatory framework for market-demanded products and features.

Source

Advantage BSE in block deals

The Bombay Stock Exchange (BSE) has widened its lead over the National Stock Exchange (NSE) in the block deal segment.
In 2008, the volume of block deals on BSE was Rs 16,377 crore, compared with NSE’s Rs 4,754 crore. The corresponding numbers for the previous year were Rs 15,180 crore and Rs 8,509 crore, respectively.
A block deal is a trade with a minimum quantity of 500,000 shares, or with a minimum value of Rs 5 crore through a single transaction window on the bourses.
Market experts attribute the high volume of block deals on BSE to low trading volumes in the cash market. This leads to more execution of block deals. BSE sees an average daily trading volume of Rs 3,000 crore in the cash market compared to Rs 7,000-8,000 crore on NSE.
Jagannadham Thunuguntla, chief executive officer of SMC Capitals, said since BSE in general has lower trading volumes than NSE, chances of spillover of a block deal are much less. This means deals can go through faster on BSE.
“On NSE where trading volumes are much higher, trading is done on a first-come-first-serve basis. So lesser number of trades gets entirely executed at one time,” added Thunuguntla.
However, things could be improving for NSE. Since January 2009, there have been six block deals on the exchange with a total volume of Rs 232 crore compared to four deals with Rs 56 crore volumes on BSE.
The situation is almost the same in case of bulk deals. While transaction in the bulk deal segment of BSE amounted to Rs 70, 657 crore in 2008, it was Rs 65,752 crore on NSE. A bulk deal takes place when 0.05 per cent of equity shares of a company listed in the exchange is transacted.
In aggregate terms, block deals have seen a dip of 11 per cent in 2008, compared to 2007. Even the number of trades has dropped 30 per cent. That is, there were 411 block deal trades in 2008, as against 589 in 2007.
Analysts said that high net worth individuals, foreign institutional investors and other big corporate investors have stayed away from large-sized deals last year, leading to the fall.
There could be a lull in the coming year as well. Siddharth Bhamre, fund manager (derivatives and equities), Angel Broking, said that the number of deals this year could either be lesser or just the same as last year.

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Avoid your own financial crisis

Most investors have been too psyched out by the mayhem in the global financial markets and its crippling impact on their investment portfolios to take note of the lessons that the crisis holds for them—that poor decisions can land anyone, from large organisations to individuals, in a financial mess, and that this doesn’t take long to happen. For individuals, financial crisis can result from excessive borrowing, living beyond one’s means, poor asset allocation, under-diversification, medical emergencies, or even loss of employment. And it’s in deteriorating market conditions such as at present that individuals are made to pay dearly for such follies. Ergo, it’s important to work out a plan to stay in control and avert a financial crisis. Here’s what you should do.

Know your debt

We all need debt at some point. It can be a loan for a house, an automobile, education, or for other personal needs. But debts can be good, bad or ugly. Home loans are considered good debts as they are used to build useful assets. A home loan makes more sense if you want to switch from a rented to an owned house. And, the lesser the difference between your EMI (equated monthly installment) and rent, the more sense it makes to acquire a home. Says Sanjay Matai, Promoter, The Wealth Architect: “From the need perspective, it is prudent to borrow only for good loans and not to exceed certain limits.” Personal loans are “bad” debts, which should be availed of only in dire circumstances. Ugly loans include credit card debts that are used to finance consumption or luxuries. Both these loans come with high interest rate liabilities and should be avoided at all costs.

Borrow sensibly

Financial planners suggest that one should remain as debt-free as possible. If it’s entirely necessary, then one should borrow only to the extent one can comfortably. Says Viraj Ghatlia, Head, Financial Planning & Wealth Advisory, ASK Wealth Advisors: “When you borrow, you must compare the period for which you take the loan and its repayment schedule with future cash inflow projections. The inflows should always be far greater than the outflows since there can be other expenses besides servicing the loan.”

Normally, the size of down payment and EMI determines whether one can afford a loan or not. If you are taking a home loan, then look for a property for which you can make the down payment, which is usually 15 per cent of the cost of the property. Thus, you can go for a Rs 50-lakh home if you can pay Rs 7.5 lakh. Also, the home loan EMI should not exceed 40 per cent of your net take-home pay. In case of personal/credit card loans, the EMI should not exceed 25 per cent. When buying a home, you should ideally keep aside three months of funds (including EMIs and expenses) as a back-up.Says Gaurav Mashruwala, Certified Financial Planner, ACE Financial Advisory Services: “Do your own personal net worth calculation to keep track of your financial standing. This can be obtained by dividing the sum of all your assets such as money in savings or current account, NSCs, EPFs, property value, car value, stock value, etc., with total debts such as home mortgage, credit card balance, etc. Your total principal liabilities should not be more than 50 per cent of your assets

Don’t over-leverage

According to Mashruwala, overleveraging is a high-risk, low-return game. When you borrow for investment purposes, your net income depends on the returns generated from that asset class minus the interest paid. For example, X and Y invest Rs 5,000 each in a stock. While X invests his own money, Y borrows the same amount at the rate of 10 per cent annum. Let’s assume that over the next three years, the stock generates returns of 40 per cent. After three years, the net income for X will be Rs 7,000 – Rs 5,000 = Rs 2,000, but for Y, it will be Rs 7,000 – Rs 6,500 = Rs 500. Agrees Amar Pandit, Director, My Financial Advisor: “Borrowing to invest is a strict no-no.”

Watch your spending

Eliminating unnecessary expenses and saving prudently are the keys to sound financial health. To illustrate the virtues of saving, if you save an additional Rs 5,000 every month and invest it in a debt instrument that gives 8 per cent annual returns, it will grow to over Rs 17.5 lakh in 15 years. Says Pandit: “To reduce expenses, one can keep a check on entertainment expenses, cut down on the extra phone and look for bargains and offers while shopping.” Other ways of cutting expenses and increase savings are keeping interest payments on credit cards to the minimum, and even scaling up one’s income.Invest wiselyRegular saving and investing makes all the difference between hitting and missing financial goals. Says Himanshu Kohli, Founder Partner, Client Associates: “Every investor should balance wealth creators (equity and real-estate) and wealth preservers (debt) in line with his financial profile, investment objectives, risk appetite and time horizon. Try to put your money in investments that can earn you higher returns than the rate at which you are borrowing. This will help generate positive cash flows for you while servicing your loan.” You will be better off if you have emergency funds the size of 3-6 months of your monthly expenses to deal with unforeseen contingencies. Last, but not the least, buy mediclaim, accidental insurance, permanent disability and professional indemnity policies.

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Will it happen again,Bank Strike on 18-20Aug 2008

Banks are doing on strike ,last time it resulted in market meltdown ,will it happen again?
Friday bank strike hits Sensex
Mumbai, Jan. 24: Investors, big and small, had a harrowing time on Thursday as several brokers refused to take buy orders because of the bank strike on Friday. A broker who did not want to identified said, “When the client pays us a cheque, the margin is directly debited to our account and goes straight to the exchange. Because of the bank strike on Friday, we will not be able to put in the cheques till Monday and will not be able to cash the client’s cheque till Wednesday. Since pay-in day is on Monday, we will not have the funds to pay up. So we are not accepting new orders.”
“This way the broker is funding the clients,” he said. Clients who in the bull phase placed orders recklessly at high prices are today giving buy orders at low prices and there are no sellers at these low prices. Some major brokerage houses were accepting orders only on cash payment by their clients. There were rumours that the National Stock Exchange had increased the margins by 40-100 per cent on some stocks. However, the exchange denied this and said, “Margins always vary on a daily basis since it is based on ‘Value at Risk’ (VAR).” However, National Stock Exchange clarified that it has not changed any margin computations and it continues to follow the same systems and procedures consistently. It is also clarified that NSE has not called for any additional margins.
The problem on Thursday was basically due to technical reasons. There are three aspects: Heavy outstanding position in the futures and options (F&O) sector, and the NSE is offloading shares of brokers who cannot pay-up; Banks, who have loaned money against shares, are also offloading shares and the bank strike. The failure or the reluctance of the exchanges to make public the names of brokers who have defaulted on payment is causing clients a lot of problems. An investor can give orders to such brokers unknowingly and the brokers accept and take the money and later say their terminal is closed.
This way the investor’s money is held up. There should be transparency in disclosing the names, said a leading broker. “When Sebi asks for transparency in all sectors, why not in this sector?” he asked. The rumours in the market on Thursday were that the default amount could be about Rs 500-600 crore. A big bull turned bear is said to be one of the defaulters who is being bailed out by the banks. Several terminals remained closed on the National Stock Exchange and the Bombay Stock Exchange. This was reflected in the low turnover on both the exchanges. The total was a mere Rs 63,009 crore with the F&O sector accounting for Rs 39,442 crore.