32 present at on futures & options

8/6/2019 32 Present at On Futures & Options

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FUTURES AND OPTIONSTEAM MEMBERS:

1. APEKSHA JAIN

2. SNEHA AGARKAR3. SAUMITA PITRE

4. SACHIN CHAVAN

5. JASMIN SHAH

1



Meaning/Definition of DerivativeDerivative is a product/ financial instrument whose

value is derived from an underlying asset.

International Monitory Fund (IMF), definesderivatives as, Derivatives are financialinstrument,

that are linked to a specific financial instrument orindicator or commodity and through whichspecific

financial risk can be traded in financial markets intheir own right.

2



Reasons for Development

3



Participants in the market

4



Advantages of derivative market

5



Advantages of derivative market

Catalyst for new entrepreneurialactivity

Help increase saving andinvestment in long run

6



Types of Derivatives

customized contract settlement on a specific dateForwards

Futures contracts are special types of forward contracts

standardized exchange-traded contracts

Futures

Call option Right to buy (but not anobligation)

Put option Right to sell (but not anobligation)

Options

7



Types of Derivatives

Longer-dated options are called warrants maximum maturity of nine months Warrants

Long-Term Equity AnticipationSecurities

Maturity of upto three yearsLeaps

Options on portfolios of underlying assets

Equity index options are a form of basketoptions

Baskets

8



Emergence/History of Derivative Market

y Liberalisation in the economy.

y Demutualisation and corporatisation.

y Integration of financial market

y Improvement Information technology y Advancement in communication system

y Reduced cost of transaction

10



Regulatory framework

Governing Bodies

SEBI SC(R)A

RULES & BY E-LAWS OF STOCK EXCHANGES

(MOA/AOA)

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12

L.C. Gupta Committee Recommendations

SEBI set up a 24- member committee under theChairmanship of L.C.Gupta. The recommendations of thecommittee are as follows:

� Phased introduction of derivative instruments.

� Amendments in SC(R)A

� Annual inspection by Stock Exchanges

� Setting up of Clearing Corporation

� Role of clearing Corporation

� Eligibility criteria of clearing corporation member

� Demutualization of clearing corporation

� Disclosure of risk clause in all the contract document



Amendments in SC(R)A

� For trading derivatives, exchange needs to fulfill theeligibility criteria

� amendments are made in Section 4 of the SC(R)A, 1956 toinclude derivative product in the definition of securities

� Derivatives exchange/segment should have a separategoverning council .

� Exchanges would have to regulate the sales practices of itsmembers

� The Exchange should have minimum 50 members.� The members of derivative segment need to fulfill the

eligibility conditions as laid down by the L. C. Guptacommittee.

13



Amendments in SC(R)A � The clearing and settlement of derivatives trades

would be through a SEBI approved clearingcorporation/house.

� Clearing corporations/houses have to apply to

SEBI for grant of approval.� Derivative brokers/dealers and clearing members

are required to seek registration from SEBI. This isin addition to their registration as brokersof existing stock exchanges.

� Strict enforcement of KY C norms

� Disclosure of risk clause compulsory in documents

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Futures

y Futures are specialised form of forward contract.

y Futures are fixed value contract

y They are exchange tradedy Highly liquid than forwards

y No counter party risk exist

y Follow daily settlement

y Always marked to market

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Forward contract Futures contract

Tailor made Fixed value contract

Traded in over the counter market Traded on exchange

Less liquid Highly liquid

Does not requ

ire margin money Requ

ires margin money

Settlement takes place at the end of the period

Follow daily settlement

Settlement is only by delivery Settlement is either by delivery or bypaying price differentiation.

Counter party risk always exist No counter party risk exist, as thecontract is made with ClearingCorporation.

Profit or loss is booked on conclusionof the contract.

Here the contracts are marked tomarket on a daily basis. Therefore, thebooking of profit & loss is made daily

Distinguish between Forwards & Futures

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Types of Futures

Underlying asset is a stock index Difficult to manipulate

Stock Index Futures

Underlying asset is Currency rate

Mainly used by exporters & importers

Hedge against the risk of currency ratefluctuation.

Currency R ate Futures

Underlying asset is reference rate. Eg. LIBOR,MIBOR

Interest R ate Futures

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Future Terminology

y Spot price

y Future Price

y Contract cycle

y

Expiry datesy Contract size

y Initial Margin

y Marking to Market

y Maintenance Margin

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Pricing of Stock Futures

Pricing of Stock Futures

when no dividend expected FV=So * ert

when dividends are expected

FV=[So - PV (d1)]* ert

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Accounting For Futures

1. A ccounting at the inception:

y Initial Margin paid to be debited:

Initial Margin- Futures A/c

y Additional Margins to be accounted as above.y When contract is made no enrty to be passed.

y On the Balance Sheet date the above account isshown under the heads Current Assets.

y Initial Margin in the form of Bank guarantees or by lodging securities should be disclosed in notes to

A/cs.

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2. A ccounting at the time of daily settlement :

y Payments made or received on account of daily settlement is credited/debited to:

Mark-to-market margin - Futures A/c

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3. A ccounting for open positions:

y Anticipated loss to be provided for and anticipated

profits to be ignored.y Net payment made to the broker - current assets,

loans and advances (net of provision for loss)

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4. A ccounting at the time of final settlement:

y Profit / Loss = Final settlement price Contract price

y Debited / Credited to Mark to Market Margin Futures A/c

y Loss to be adjusted first against the provision made forthe anticipated losses and balance from the P&L.

y FIFO method is followed.

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Options

y Fundamentally different from forward and futures

y Gives the holder of the option the right but not anobligation

y Purchase of an option requires an up-front paymenty Basically there are two types of option. They are Call

Option & Put Option

25



Option Terminology

y I ndex options

y Stock options

y Buyer of an optiony Writer of an option

y Call option

y Put option

y Option price/premium

y Expiration date

26



Option Terminology

y Strike price

y American options

y European options

y

I n-the-money optiony At-the-money option

y Out-of-the-money option

y I ntrinsic value of an option

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Pricing Options

28

ise tralet

Bin ialM el

Blac &Sc les

Mert n'sM el



Black & Scholes

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Payoff for Investor Who Went Long

Nifty at 2220

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Payoff for Investor Who Went Short

Nifty at 2220

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Payoff For Buyer Of Call Option

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Payoff For Writer Of Call Option

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Payoff For Buyer Of Put Option

34



Payoff For Writer Of Put Option

35



Payoff For A Bull Spread Created

Using Call Options

36



Payoff For A Bear Spread Created

Using Call Options

37



Accounting for options

1. A ccounting at the inception:

y Initial Margin paid to be paid by writer / seller to be

debited: Equity Index / Stock Option Margin A/c

y Buyer / holder not required to pay margin.

y Premium is to be paid to the writer by the holder of

the option. which is debited:

Equity Index / Stock Option Premium A/c

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2. A ccounting at the time of payment/receipt of margin:

y

Payments made or received on account of daily settlement is credited/debited by the writer to :

Equity Index / Stock Option Margin A/c

y In case of deposit made by him instead of Bank A/c

Deposit forMargin A/c will be debited orcredited.

y On Balance sheet date balance In the above A/c isshown under the head Current Assets.

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3. A ccounting for open positions:

y Loss to the holder = Premium paid Premium on the

B/S date.y The above loss to be provided for and to be shown as

deduction from Equity Index / Stock OptionPremium A/c under current assets, loans and

advances.

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4. A ccounting at the time of final settlement:

y On exercise of the option:

a. For holder premium to be debited to P&L andcredited to Equity Index / Stock Option Premium

A/c

b. For writer premium to be credited to P&L and

debited to Equity Index / Stock Option Premium A/c

y Final settlement price - Strike price = if -ve then paidby the writer.

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5. A ccounting at the time of squaring off an option contract:

y

On final settlement the writer has to make delivery of the equity shares.

y the premium paid/received will be transferred to theprofit and loss account

42



Taxation

y Income from derivative contracts:

- not a speculative income

- treated as business income- losses can be set off against any other income duringthe year & carried forward to 8 subsequent years.

- securities transaction tax paid on such transactions is

eligible as deduction.

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T ANK YOU

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32 present at on futures & options

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