Integration of economies world over has brought in multiple growth in the volume of international trade and business. This in turn has led to increase in the demand for international money and need for innovative financial instruments both at
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    A STUDY ON THE GROWTH OF FINANCIAL DERIVATIVES IN INDIA Dr.N. MOSES 1  PROF. B. PHANISWARA RAJU 2   1  Teaching Assistant, Department of Commerce, Rayalaseema University, Kurnool-518002, AP 2  HOD, Department of Commerce, Sri Krishnadevaraya University, Anantapuramu, AP ABSTRACT Integration of economies world over has brought in multiple growth in the volume of international trade and business. This in turn has led to increase in the demand for international money and need for innovative financial instruments both at national and global level. Changes in the interest rates, exchange rates and equity prices in different financial markets led to increase in the volatility and manifold increase in the financial risk to the individual as well as institutional investors. Adverse changes in these variables have even threatened the very survival of the business world. To manage these risks, new financial instruments have been developed in the financial market, which are popularly known as Financial Derivatives. In this paper more emphasis is given the growth and development of financial derivatives in India in terms of turnover and number of contracts traded in derivatives segment of two premier stock exchanges in India namely NSE and BSE Keywords : Financial Derivative, Index Future, Index Options, Stock Options, Stock Futures INTRODUCTION As the name indicates, derivatives are the imitative financial products, which derive their value from some other assets called ‗underlying‘. These are believed to be the effective tools of   risk-management. The basic purpose of Financial Derivatives is to provide commitments to prices for future dates for giving protection against adverse movements in the future prices of underlying assets thereby reduce/manage/control the extent of financial risk. Derivatives allow investors to establish, at low cost, return distributions that matchup with their levels of risk aversion. Derivative instruments are different from Insurance, in that they cover general risks whereas the latter covers specific risks. Financial Derivatives also provide an opportunity to earn profit for those persons who have higher risk appetite. These instruments indeed facilitate to transfer the risk from those who wish to avoid it to those who are willing to accept the same. In the stock market, derivative instruments have emerged as the most important speculative vehicles and as risk management tools. These products are also used by risk-taking investors for availing arbitrage and speculative opportunities. Such uses of derivative products are believed to be helpful in building of a strong relationship between the cash and derivative market segments leading to more efficient price-discovery in both the markets. It is also believed that introduction of derivative products increase liquidity in the market. Derivative market segment is dominated by informed institutional investors and therefore, this market segment is expected to be more efficient in price discovery. Many researchers have proposed the hypothesis that derivative markets lead the price movements in cash segment. Financial derivatives have become increasingly popular and most commonly used in the world of finance. The rate of growth of derivatives is so phenomenal all over the world that now it is called as the derivatives revolution. The Security and Exchange Board of India (SEBI) permitted the trading on index futures on May 25, 2000. The trading of BSE Sensex futures commenced at Bombay Stock Exchange (BSE) on June 9, 2000 and on June 12, 2000 trading of Nifty-futures commenced at National Stock Exchange (NSE). In the June 2001 index options and in July 2001 stock options were introduced. Futures on individual  INTERCONTINENTAL JOURNAL OF FINANCE RESEARCH REVIEW  ISSN:2321-0354 - ONLINE ISSN:2347-1654 - PRINT - IMPACT FACTOR:1.552VOLUME 4, ISSUE 2, FEBRUARY 2016 54    stocks were introduced in November 2001. In fact, stock-futures were introduced in India well before their introduction in the USA and many other developed markets. The volume of trading in derivative segment, particularly in stock-futures, took momentum quit rapidly. At NSE trading volume of derivatives has exceeded the volume of cash segment. According to an estimate recorded in the NSE Fact Book, the present annual trading turnover of derivative market has reached . 55,606,453 Cr for the year 2014-15. Concept of Derivatives The term ‗derivatives, refers to a broad class of financial instruments which mainly incl ude options and  futures . These instruments derive their value from the price and other related variables of the underlying asset. They do not have worth of their own and derive their value from the claim they give to their owners to own some other financial assets or security. A simple example of derivative is butter, which is derivative of milk. The price of butter depends upon price of milk, which in turn depends upon the demand and supply of milk. The general definition of derivatives means to derive something from something else. Some other meanings of word derivatives are: A.   derived function: the result of mathematical differentiation; the instantaneous change of one quantity relative to another; df(x)/dx, B.   derivative instrument: a financial instrument whose value is based on another security, (linguistics) a word that is derived from another word; "`electricity' is a derivative of ‗electric‘.  The asset underlying a derivative may be commodity or a financial asset. Derivatives are those financial instruments that derive their value from the other assets. For example, the price of gold to be delivered after two months will depend, among so many things, on the present and expected price of this commodity. Definition of Financial Derivatives Section 2(ac) of Securities Contract Regulation Act (SCRA) 1956 defines Derivative as: 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 securities‖.   Review of Literature Gulen and Mayhew 1  (2000)  examine stock market volatility before and after the introduction of index futures trading in twenty-five countries, using various GARCH models They found that futures trading is related to an increase in conditional volatility in the U.S. and Japan, but in nearly every other country, no significant effect could be found. Joel Hasbrouck 2  (2001) studied on intraday price formation in US equity index markets. This study empirically investigated in the price discovery of US equity index market in the new environment where the mirror of index with exchange traded funds, electronically traded markets, small denomination futures contracts and a family of sector ETF that break the index into nine components. Isakov and Morard 3 (2001)  in their paper have investigated the performance of option strategies especially covered call strategy on Swiss exchange during 1989-1996. They concluded that the use of option strategies consistently increase the performance of stock portfolios even in the presence of transaction cost. Gong-meng Chen, Michael Firth and Oliver Rui 4  (2001)  have examined the dynamic relationship between returns, volume, and volatility for major nine national stock indexes for the period from 1973  INTERCONTINENTAL JOURNAL OF FINANCE RESEARCH REVIEW  ISSN:2321-0354 - ONLINE ISSN:2347-1654 - PRINT - IMPACT FACTOR:1.552VOLUME 4, ISSUE 2, FEBRUARY 2016 55    to 2000. Their results show a positive correlation between trading volume and absolute value of stock price change. The results of the study were found robust across all nine major stock markets, implying that there are similar returns, trading volume, and volatility patterns across all markets under study. Bhanupant 5  (2001)  investigated the dynamic relationship between stock index returns and trading volume using the Augmented Dickey-Fuller (ADF), Linear and Non-Linear Granger Causality hypothesis test on the National Stock Exchange (NSE) data. The period, when rolling settlement was introduced, there found no evidence of linear causality in either direction. The shift in linear causal relationship indicates that efficiency at NSE has improved with introduction of rolling settlement mechanism. Pilar and Rafael 6  (2002) , examined the effect of introduction of derivatives on the volatility and trading volume of underlying Ibex-35 index by using GJR model and result that trading volume increased significantly but conditional volatility decreased after introduction of derivatives. Varma 7  (2002) examined the mispricing of volatility in the Indian index options market using closing Nifty futures and options prices from June 2001 to February 2002. The result suggests that the Indian market stands almost exactly half way between a naive market where the pricing completely ignores the downside protection provided by options and a mature market where the pricing reflects a reasonable theoretical model of the value of the downside protection. Nath Golaka C 8  (2003) , his  paper on ―Behaviour of Stock Market Volatility after Derivatives‖, examined the behaviour of volatility in equity market in pre and post derivatives period in India using static and conditional variance. It observed that for most of the stocks, the volatility had come down in the post derivative period while for only few stocks in the sample, the volatility in the post derivatives has either stayed more or less same or has increased marginally. Mukherjee and Mishra’s 9  (2006)  study empirically investigated the usefulness and impact of two non-price variables-open interest and trading volume from option market preceding the Nifty index in underlying cash market in India. The empirical findings confirm that the open interest based predictors are significant in predicting the spot price index in underlying cash market in both the periods, just after the initiation of the index option in the market and in the later sub period. Gahlot Ruchika, Datta Saroj and K. Kapil Sheeba 10  (2010) , have examined the impact of derivative trading on stock market volatility by taking closing prices of S&P CNX Nifty as well as closing prices of five derivative stocks and five non derivative stocks. The results showed mixed effect in case of 10 individual stocks. Need for the study From the review of literature, it can be observed that, researchers both in India and abroad have carried out research studies covering various aspects of Financial Derivatives. However, the present study is different from the above research studies in terms of both period and the sample chosen. This study emphasis on the growth of financial derivatives in India, the NSE and the BSE are selected as these exchanges are premier stock exchanges in India. The study is based mainly on secondary data, which have been collected from websites of NSE, BSE and SEBI. Methodology:- To carry the study of the growth in Financial Derivatives in India the Cumulative Average Growth Rate (CAGR) method has applied for the four products traded in both stock exchanges in India for entire study period and also year to year growth rate also calculated. Financial Derivative market of NSE is also compared with Cash market of NSE to know the detailed growth of NSE Financial  INTERCONTINENTAL JOURNAL OF FINANCE RESEARCH REVIEW  ISSN:2321-0354 - ONLINE ISSN:2347-1654 - PRINT - IMPACT FACTOR:1.552VOLUME 4, ISSUE 2, FEBRUARY 2016 56    Derivative market. Instruments wise growth also carried out i.e. Index Futures, Index Options, Stock Futures and Stock Options. DATA ANALYSIS Table 1 depicts the total number of derivative contracts traded and Table 2 depicts the turnover both in NSE and BSE from 2000-01 to 2014-15. It could be observed that the total number of contracts have registered 97.7 per cent growth during 2000-01 to 2014-15. From 1,67,315 contracts in 2000-01, the number increased to 2,342,520,000 in 2014-15. As expected the growth rate in number of contracts traded is more in NSE (103.07 per cent) compared to BSE (87.40 per cent). In terms of absolute number of derivative contracts traded, BSE stands no-where near the NSE. While the number in contracts traded BSE in 2000-01 was 76,735 representing a value of .1,653cr, which rose to 50,54,78,869 with a value of .20,362,741.25 cr only in 2014-15, that of the number in NSE rose from 90,850 representing a value of .2,265 cr in 2000-01 to 1,837,041,131 with a value of .55,606,453.39 cr in 2014-15. The number of derivatives contracts in these exchanges reached a milestone of 2,342,520,000 in 2015 since the inception of derivatives. These results are presented in Graph 1 and Graph 2  Growth of Financial Derivatives in terms of No. of Contracts in NSE and BSE Year NSE BSE Total 2000  –  01 90,580 (54.14) 76,735 (45.86) 1,67,315 (100) 2001-02 41,96,873 (97.55) 1,05,607 (2.45) 43,02,480 (100) 2002-03 1,67,68,909 (99.18) 1,38,037 (0.82) 1,69,06,946 (100) 2003-04 5,68,86,776 (99.33) 3,82,258 (0.67) 5,72,69,034 (100) 2004-05 7,70,17,185 (99.31) 5,31,719 (0.69) 7,75,48,904 (100) 2005-06 15,76,19,271 (99.9999) 203 (0.0001) 15,76,19,474 (100) 2006-07 21,68,83,573 (99.19) 17,81,670 (0.81) 21,86,65,243 (100) 2007-08 42,50,13,200 (98.28) 74,53,371 (1.72) 43,24,66,571 (100) 2008-09 65,73,90,497 (99.92) 4,96,502 (0.08) 65,78,86,999 (100) 2009-10 67,92,93,922 (99.999) 9028 (0.001) 679302950 (100) 2010-11 1,03,42,12,062 (99.999) 5,623(0.001) 1,03,42,17,685 (100) 2011-12 1,20,50,45,464 (97.40) 3,22,22,825 (2.60) 1,23,72,68,289 (100) 2012-13 1,13,14,67,418 (81.17) 26,24,59,311 (18.83) 1,39,39,26,729 (100) 2013-14 1,284,424,321 (80.97) 301,942,441 (19.03) 1,586,366,762 (100) 2014-15 1,837,041,131 (78.42) 505,478,869 (21.58) 2,342,520,000 (100) CAGR 103.07 87.40 97.77  INTERCONTINENTAL JOURNAL OF FINANCE RESEARCH REVIEW  ISSN:2321-0354 - ONLINE ISSN:2347-1654 - PRINT - IMPACT FACTOR:1.552VOLUME 4, ISSUE 2, FEBRUARY 2016 57    Table 2.2: Growth of Financial Derivatives in terms of Turnover ( in Cr) in NSE and BSE Year NSE BSE Total 2000  –  01 2,365 (60.36) 1,653 (41.14) 4,018 (100) 2001-02 1,01,926 (98.15) 1,923 (1.85) 1,03,849 (100) 2002-03 4,39,862 (99.44) 2,479 (0.56) 4,42,341 (100) 2003-04 21,30,610 (99.46) 11,620 (0.54) 21,42,230(100) 2004-05 25,46,982 (99.33) 17,074 (0.67) 25,64,056 (100) 2005-06 48,24,174 (99.9998) 8.77 (0.0002) 48,24,183 (100) 2006-07 73,56,242 (99.20) 59,007 (0.80) 74,15,249 (100) 2007-08 1,30,90,478 (98.18) 2,42,308 (1.82) 1,33,32,786 (100) 2008-09 1,10,10,482 (99.89) 11,775 (0.11) 1,10,22,257 (100) 2009-10 1,76,63,665 (99.9987) 234.13 (0.0013) 1,76,63,899 (100) 2010-11 2,92,48,221 (99.9995) 154.00 (0.0005) 2,92,48,375 (100) 2011-12 3,13,49,732 (97.49) 8,08,477 (2.51) 3,21,58,209 (100) 2012-13 3,15,33,004 (81.49) 71,62,523 (18.51) 3,86,95,527 (100) 2013-14 38,211,408.05 (80.56) 9,219,434.42 (19.44) 47,430,842.47(100) 2014-15 55,606,453.39 (73.20) 20,362,741.25(26.80) 75,969,194.64 (100) CAGR 105.23 95.97 102.06 Source: Complied and calculated from the data taken from CAGR: Cumulative Average Growth Rate Graph 2.1: Percentage of growth in NSE and BSE (No of contracts) 020406080100    R   a   t   e   o    f   G   r   o   w   t    h Time Period Percentage of growth of No of Contract in NSE and BSE NSEBSE  INTERCONTINENTAL JOURNAL OF FINANCE RESEARCH REVIEW  ISSN:2321-0354 - ONLINE ISSN:2347-1654 - PRINT - IMPACT FACTOR:1.552VOLUME 4, ISSUE 2, FEBRUARY 2016 58
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