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ARYa school OF MANAGEMENT AND INFORMATION TECHNOLOGY

PATRAPADA, BHUBANEAWR
A SUMMER INTERNSHIP PROJECT
ON
TRADING MECHANISM IN RESPECT OF FUTURE

MODRIKA
PROJECT REPORT SUBMITTED FOR PARTIAL FULFILLMENTOF THE MASTER OF FINANCE AND CONTROL(MFC)
UNDER UTKAL UNIVERSITY, ODISHA
SESSION: 2013-2015
SUBMITTED BY:
SWAGATIKA ACHARYA
ROLL NUMBER:
UNDER THE GUIDENCE AND SUPERVISION OF
INTERNAL GUIDE EXTERNAL GUIDE
MR.SUSHANT KUMAR SATPATHY MR.PARESH
(FACULY IN FINANCE) (ASSISTANT MANAGRE)

UTKAL UNIVERSITY, VANIVIHAR, BHUBANESWAR, ODISHA
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DECLARATION

I SWAGATIKA ACHARYA , student of Master of Finance and Control
, Arya School of Management and Information Technology, Bhubaneswar do
here by that the study entitled TRADING MECHANISM IN RESPECT OF
FUTURE is a project report of my own. I am proud to reclaim that I have
completed my study under the guidance of Mr.Susanta Kumar Satapathy
(faculty ,Finance) along with the faculty members of Arya School of
Management and Information Technology. .All the data and stated in this
submitted might be accepted as fully authentic genuine.

DATE:
Place: Bhubaneswar Swagatika Acharya







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ACKNOWLEDGEMENT

This project bears the imprint of many persons. This study is not the work of an
individual but the numbers of persons are involved in it.
Among this my special thanks are towards my project supervisor and Guide
Mr.Susant Kumar Satapathy (Faculty Finance) and all the members of Arya
School of Management and IT for their valuable guidance, co-operation and
advice.
I would like thanks to Mr.Paresh(of MUDRIKA),whose guidance and assistance
has helped me to make this project success and without whose co-operation
this project may be incomplete.
I am also thankful , to Dr. Manmath Ku . Nayak (director) , and our course
co-ordinator Mr. Sandhya Darshan Dash , Arya School of Mnagement and IT
, for providing me with an opportunity to undertake my summer internship
project of 30 days at MUDRIKA.
Last but not the least I convey my thanks to my beloved parents , friends and
faculty of MFC department and all the members of Arya School of Management
and IT , who helped me directly or indirectly in bringing this project
successfully.
Swagatika Acharya
Arya school of Management and IT
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BHUBANESWAR

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PROJECT SUMMARY


Title of the project : Trading mechanism in respect of future
Area of project : Finance
Organization of the project : MODRIKA
Duration of the project: 6 weeks
External guide : Mr.Paresh
Internal guide : Mr.susanta Kumar Satapathy
Date of submission :








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SL NO CONTENT
PAGE NO
1
CHAPTER -1
INTRODUCTION
OBJECTIVES
METHODOLOGY
LIMITATION


2
CHAPTER 2 (COMPANY PROFILE)
HISTORY
PRODUCT AND SERVICES

3
CHAPTER 3 ( LITERATURE REVIEW)
INTRODUCTION TO STOCK EXCHANGE
INTRODUCTION TO FUTURE
TRADING TERMINOLOGY
TRADING ORDERS
TRADING MECHANISM



4
CHAPTER 4 (DATA ANALYSIS &
INTERPRETATION)
MEASUREMENT IN FUTURE
RISK MANAGEMENT IN FUTURE
SETTLEMENT PROCEDURE

5
CHAPTER 5
FINDING
SUGGESTION
CONCLUSION

6
BIBLIOGRAPHY
ANEXTURE





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CHAPTER-1
INTRODUCTION
INTRODUCTION
OBJECTIVE
METHODOLOGY
LIMITATIONS







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INTRODUCTION

Now a day the technical education plays a vital role in the state of
Orissa. With its ambit, the courses include various theories as well as
practical paper. Like other courses, the modern office management
(MOM), taking the shape in the year 1992, also contain some
practical courses.
The task of preparation of a project report based upon the study
of the Organization. The main purpose of this paper was to provide
practical knowledge and experience to the students of various day-to-
day operations of an Organization.
The project report refers to the study of MODRIKA. The data &
information are collected from Primary and Secondary sources. The
report contains brief details about the Organization observed by the
report writer during the period of fifteen days.
OBJECTIVE







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CHAPTER-2
COMPANY PROFILE
HISTORY
PRODUCT AND SERVICES













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INTRODUCTION TO ORGANISATION
(MODRIKA)

HISTORY
MODRIKA the word derived from Sanskrit word Mudra, which
means currency. The essence of MODRIKA is derived as Art of
Making Money. A decade before we literally relate finance to the
banking Sector. The meaning and complexity of finance has changed
and has been evolved dramatically by the time. This is primarily due
to technology integration and evolution of financial structures
globally.

A broad range of brokerage firms, investment services, financial
consulting firms, foreign and private banks, global insurance
companies, taxation service providers, equity firms and other banking
companies now expanding their operations across the globe. For
young candidates there are bright lucrative opportunities in the fields
of financial advisory services, insurance and banking services,
investment management, financial analysis, stock market consultants,
broking agents, financial planners and economists. Over
a Million Jobs in financial sector available by 2020 in India alone. as
per report by Mc. Kinsey done for GIFT.

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MODRIKA is primarily training and technology solutions provider
for capital markets, and has been operating internationally for over
half a decade. We provide technology driven wealth management
solutions. We develop custom software and financial market technical
analysis systems for financial technology firms, retail brokers, market
makers, exchanges and individual traders. Leveraging nearshore or
offshore outsourcing allows our clients to optimize project budget,
reduce expenses, and maximize both fiscal and organizational goals .


There are some details given below about modrika
Specialties
Algorithmic Trading, High Frequency Trading, Arbitrage, Quant trader
Website
http://www.modrika.com
Industry
Financial Services
Type
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Public Company
Headquarters
The Corenthum Corporate Park Sector-62 Noida, Uttar Pradesh 201301 India
Company Size
51-200 employees
Founded
2008

PRODUCT AND SERVICES:

For young candidates there are bright lucrative opportunities in the
fields of financial advisory services, insurance and banking services,
investment management, financial analysis, stock market consultants,
broking agents, financial planners and economists.
It include following courses:
o Algorithmic Trading
o Quant Trading
o Arbitrageur
o High Frequency Trading
o Technical Analysis
o Portfolio Management
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o Statistician & Mathematician
o Trade Programmer Analyst
o Trading Psychology and performance
o Trading for Beginners
o Preparatory

Modrika also provides services and consultancy to the brokers, hedge
fund institution & financial firms. It is promoted by alumni of I.I.T,
I.S.B (India), MIT, John Hopkins, Chicago Business School, ( USA)
and The Australian National University,( Australia) and supported by
seasons professional from Nomura, Credit Suisse, Barclays and
HSBC. The Promoter group- www.Prophecis.com, manages assets
more than 5 Billion USD.










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CHAPTER-3
LITERATURE REVIEW
INTRODUCTION TO STOCK EXCHANGE
INTRODUCTION TO FUTURE
TRADING TERMINOLOGY
TRADING ORDERS
TRADING MECHANISM










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INTRODUCTION TO STOCK EXCHANGE
ORIGIN & GROWTH OF STOCK EXCHANGE
Indias Stock Market has risen to great heights in the beginning of
19
th
century. Stock Exchange of India in a rudimentary form rose to
1800 with the flotation of Shares by the East India Company & few
commercial banks through a few groups of brokers. In the year 1887,
a number of stock brokers of Bombay geared up them & set up a
voluntary Organization called Native Shares & Stock Brokers
Association, which led to foundation of a regular market for
Securities. Later, it is popularly known as Bombay Stock Exchange
the barometer of Indian Company. Then similar Organizations were
started at Ahmadabad in 1894 at Calcutta in 1908 & at Madras in
1970. By the end of 20
th
century we have 43 recognized Stock
Exchange in our country.
STOCK EXCHANGE
It is a company registered under the Companies Act, 1956 &
represented through a Constitution, namely, Memorandum & Article
of Association (MOU) with the objective to perform the role of a
Stock Exchange within the definition of SCRA (Securities Contract
Regulation Act) .It is a body of individuals, whether incorporated or
not, constituted for the purpose of assisting, regulating or controlling
the business of buying, selling or dealing in Securities.
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ROLE OF STOCK EXCHANGE
Stock Exchange is an integral part of the Capital Market. how does it
function ,what are its objectives and activities , how do its activities
get carried out and regulated and in what way does it help the
investing public under SCRA and SEBI Act are the areas of
discussion.
There are number of incidental or ancillary objectives of a Stock
Exchange but the main objective is to facilitate, assist, control and
regulate the business of buying and selling in Shares, stocks and like
Securities within the meaning of Securities contracts regulation Act,
1956.

(1) Facilitation, Controlling and Regulation:

A Stock Exchange in the interest of Securities market and investing
public, undertakes-
To provide a platform to facilitate the business of buying and
selling of Shares and Securities through the SEBI registered
stock brokers.
To promote & to spread the culture of equity among the
investing public.
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To control & regulate the business of buying & selling of Shares
& Securities through the registered stock brokers.
To ensure investors protection against any default on account of
non fulfillment of trade obligation by a stock-brokers.
To redress the grievances of investors against any stock broker
arising out of any valid transaction /investment in equities or
stocks.
To regulate the issue of Securities such as Initial Public Offer
(IPO) & further issue of capital through Capital Market
mechanism.
To monitor the compliance of listening requirements &
maintenance of corporate governance by the listed companies.
2. Assistance:
The role of assistance that a Stock Exchange performs in the interest
of the Securities market & investing public are-
To assist entrepreneurs/corporate houses to raise capital at a
large scale for establishment/expansion/diversification of
business activities.
To play a significant role in industrial & economic growth of a
country. To promote culture of investment in equities, bonds,
debentures and mutual fund products.
To render assistance, support & services to the investing public.
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To educate the investing public through seminars, workshops &
investors training programs to get them aware of investment in
the Securities market.
To assists in imparting training about Stock Market.
REGULATION OF THE STOCK MARKET
The Post Independence period & the beginning of 1956 saw an
enactment in Parliament an act to govern the function of the Stock
Exchange, namely Securities contract (Regulation) act. This act & the
rules framed there under, governed the functioning of all the Stock
Exchange in the country until SEBI Act 1992 came into force. At
present Stock Exchange are governed under Securities contract
(Regulation) Act 1956 & Securities & Exchange Board of India
(SEBI) Act 1992.Now the SEBI is the watch dog of all the 23
recognized Stock Exchange.
Stock market:
Stock market refers to the market for an old security i.e. those
which have been already issued and listed on a stock exchange
.stock market provide not only free transferability of shares but
also makes continues evaluation of securities in the market.
In brief ,stock exchange constitute a market where securities
issued by the central and state govt. public bodies and joint
stock companies are traded .The stock are listed and traded on
stock exchange which are entitles(a corporation or mutual
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organization)specialized in the business of bringing buyers and
sellers of stocks and securities together .
The purpose of stock exchange is to facilitate the exchange of
securities between buyers and sellers, thus providing a market
place (virtual or real) .the exchange provide real time trading
information on listed securities, facilitating price discovery.

Introduction to futures:
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. To make trading possible, the exchange specifies certain
standardized features of the contract.
These are the contracts in which the price is decided today
and the delivery will take place in future. But Futures are quoted
on a stock exchange .Price are available to all those who want to
buy or sell, because the trading takes place on a transparent
computer system. Futures are specialized forwards which are
supported by a stock exchange.
A futures contract is an agreement between two parties to buy or
sell an asset at a certain time in the future at a certain price.
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Futures contracts are special types of forward contracts in the
sense that the former are standardized exchange-traded
contracts, such as futures of the Nifty index.
Futures, as we know them now, were first traded in the USA
in Chicago.
Futures in India:
Currently in India (as on the date of writing this work Book), all
Futures transactions are settled in Cash. There is no system of
physical delivery.
It is widely expected that we will move to a physical delivery
system soon. However Index based Futures and Options will
continue to be based on Cash Settlement system.




FEATURES OF FUTURES:
The essential features of a Future contract are:
1. Here the contracts between two parties held through an
exchange.
2. In futures the exchange is the legal counterparty to both parties.
3. Price decided today.
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4. quality decided today(quality should be as per the specification
decided by the exchange)
5. Quantity decided today (quantities have to be in standard
denomination specified by the exchange.
6. Tick size (i.e. the minimum amount by which the price quoted
can change) is decided by the exchange.
7. Delivery will take place sometime in Future (expiry date is
specified by the exchange.
8. Margin are payable by both the parties to the exchange.
9. In some cases; the price limits (or circuit filters) can be decided
by the exchange.

ADVANTAGES:
Futures are helping in overcoming the difficulties of forwards in:
Limitations of forwards: Counter party risk or default risk or credit
risk and price not being transparent.
How it overcomes these difficulties?
An exchange (or its clearing corporation) becomes the legal
counterparty in case of futures. Hence, if you buy any futures contract
on an exchange, the exchange (or its clearing corporation) becomes
the seller.
If the other party (the real seller) does not deliver on the expiry date,
you do not have to worry. The exchange (or its clearing corporation)
will guarantee you the delivery. Further, prices of all Futures quoted
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on the exchange are known to all players. Transparency in prices is a
big advantage over forwards.
Future Contract:

Futures contracts are standardized with respect to the delivery
month; the commoditys quantity, quality, and delivery location; and
the payment terms. The fact that futures contracts terms are
standardized is important because it enables traders to focus their
attention on one variable, namely price. Standardization also makes it
possible for traders anywhere in the world to trade in these markets
and know exactly what they are trading. This is in sharp contrast to
the cash forward contract market, in which changes in specifications
from one contract to another might cause price changes from one
transaction to another. One reason futures markets are considered a
good source of commodity price information is because price changes
are attributable to changes in the commoditys price level, not
changes in contract terms. In contrast to a forward cash contract
market,

These futures contracts offers to the one who is trading them the
possibility of substantial earnings through locking up a reduce sum of
money. Of course, the risk taken in such a transaction exists, and it
cannot be ignored. The bigger it is the chances of winning increase,
on one hand, but also the chances of losing, on the other hand. The
big diversity of these derived products (they are called this way
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because they have at their base an active support projections,
interest rates, stock indexes, etc.)And especially their flexibility
allows the investors not only substantial reducing the risk that is taken
at trading such a product and in some cases even avoiding it in some
strategies well theorized and correctly applied in practice.
Once the launching towards trading the first futures contract
at the
Monetary, Financial and Commodity Exchange Sibiu, in 1997, the
investors from the Romanian financial market and all the Romanian
businessmen have the possibility to take advantage of these offered
products, regardless if their purpose is realizing some immediate
profits or just protecting against the risks that float over their own
businesses.
The futures contract is a standardized agreement among two
partners a seller and a buyer to sell and to buy a certain asset
(projections, interest rates, financial and stock indexes), at a price set
at the point of closing the transaction and with the execution of the
contract at a future date called deadline. In other words, by this kind
of contract, the seller commits himself to sell, and the buyer to buy
the asset from the contract at a future date (deadline), but at a price set
at the point of closing the deal.
Futures exchanges provide:
Rules of conduct which traders must follow or risk expulsion;
An organized market place with established trading hours by
which traders must abide;
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Standardized trading through rigid contract specifications,
which ensure that the commodity being traded in every contract
is virtually identical;
A focal point for the collection and dissemination of information
about the commoditys supply and demand, which helps ensure
all traders have equal access to information;
A mechanism for settling disputes among traders without
resorting to the costly and often slow U.S. court system; and
Guaranteed settlement of contractual and financial obligations
via the exchange clearinghouse.

There are four derivative products available in India market as:
Index Futures(Sensex and Nifty) and Individual stock Futures
Index Option(Sensex and Nifty) and Individual Stock Options.

Index futures:
SENSEX is the share index for BSE (30 cos.)
NIFTY is the share index for NSE (50 cos.)
CONTRACT SPECIFICATIONS for Index Futures contracts:
Security Symbol: BSX (For BSE SENSEX)
Contract Multiplier: 50 (For BSE SENSEX)
Contract Period 1, 2, 3 months
Tick size 0.05 index points
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Price Quotation index points
Trading Hours 9:55 a.m. to 3:30 p.m.
Last Trading/Expiration Day Last Thursday of the contract month.
If it is holiday, it expires immediately preceding business day. Note:
Business day is a day during which the underlying stock market is
open for trading.
Final Settlement: Cash Settlement. On the last trading day, the
closing value of the underlying index would be the final settlement
price of the expiring futures contract.

TYPE OF TRANSACTIONS POSSIBLE IN FUTURE:
What types of transactions are possible in futures?
Opening buy means - creating a long position
Opening sell- means-creating a short position
Closing buy-means- offsetting (fully or partly) an earlier Short
position
Closing sell-means-offsetting (fully or partly) an earlier long position
and equal and opposite transaction-means-square up.

LIMITATIONS OF FUTURES:
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Futures suffer from lack of flexibility. For example: Suppose you
want to buy 103 share of ACC cement for a future delivery date of
14thjune, you cannot.
The exchange will have standardized
specifications for each contract. Thus you may find that you can
buy ACC futures in lots of 1200 only .you may find that expiry date
will be the last Thursday of the every month.
Thus, while forwards can be structured according to the convenience
of the trading parties involved, futures specifications are standardized
by the exchange

FUTURES TRADING TERMINOLOGIES

Trading futures contracts requires that you become familiar with
the terminology used in the trade. The list below provides a short
definition of some of the terms used in the trade:
Long: A buyer of a futures contract. Someone who buys a future
Contract is often referred to as being long that particular contract.
Short: A seller of a futures contract. Someone who sells a futures
contract is often referred to as being short that particular contract.
Bull: A person who expects a commoditys price to increase. If you
are bullish about wheat prices you expect them to increase.
Bear: A person who expects a commoditys price to decline. If you
are bearish about wheat prices you expect them to decline.
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Market order: An order to buy or sell a futures contract at the best
available price. A market order is executed by the broker
immediately. Sell on July KCBT wheat, at the market is an example
of a market order.
Limit order: An order to buy or sell a futures contract at a specific
price or at a price that is more favorable than the price specified. For
example, Buy one March KCBT wheat at $3.30 limit means buy
one March KCBT wheat contract at $3.30 or less. In this example, the
order will not be executed at a price higher than $3.30.
Stop order: An order which becomes a market order if the market
reaches a specified price. A stop order to buy a futures contract would
be placed with the stop price set above the current futures price.
Conversely, a stop order to sell a futures contract would be placed
with the stop price set below the current futures price.

The terminology used in futures
A bull market or the markets under the sign of the bull
represent the market in which the prices are increasing. When a
market is called bullish, there is a perspective that the prices will
increase.
A bear market or the markets under sign of the bear represent
the market in which the prices are decreasing. Therefore, a bearish
market gives a pessimist perspective and the operators consider that
the prices are decreasing.
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The long position: if a futures contract is bought, the buyer has
a long position. The operator initiates long positions when a future
increasing of the futures price is expected. The hedger will initiate
long positions when it is exposed to the increasing of the price of the
asset.
The short position: somebody who will sell futures contracts
that he didnt previously have is short, or he has open short positions.
This concept is not to be confused with the one in which somebody
who initially had a long position by buying some futures contracts,
and then he sells them to compensate his position on the market. The
operator initiates short positions when he anticipates the decreasing of
the futures price. The hedger initiates short positions when he is
exposed to the decreasing of the price of the merchandise or of the
asset.
The marking at the market of futures contracts makes that the
account is daily credited and debited, relating to the evolution of the
price of the open positions. The loss or the profit, resulted by
marking the market makes that the sum existing in the account to
oscillate, but this cannot decrease under the level of the safety margin.
The appeal in margin: the situation in which the sum from the
margin account decreases under the level existing in the account, the
holder of the account (name of account) receives an appeal in margin
for the difference between the initial level of the margin and the sum
existing in the account. The holder has to respond with adding funds
until the beginning of the next trading session, so all the naked
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position are sold out forcibly until the sum from the account reaches
the initial level of the margin.

The delivery of the merchandise or of the currencies to the
exchanges around the world is optional. In USA, 98% of the futures
contracts are sold out on the market and only 2% have as a result
physical delivery or selling out the merchandise. For some futures
contracts, as those for synthetic articles a stock index, currency
index there isnt a possibility of physical delivery. The positions are
closed by selling out and paying the differences.






Trading orders

All the trading on this market is realized on the base of some pre
established orders of the clients of the societies of exchange. There
are three types of fundamental orders: selling order, buying order,
spread orders. However, these orders vary in many categories.
Relating to the validity of an order: orders valid one day only and
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orders with validity set by the investor; relating to the price of the
transaction there are two types of orders: price market orders and set
price orders.
Market order is the order given to the agent to realize
immediately a transaction at the price market that is going to be at the
point of execution, this being the best price.
Limit orders divide themselves in two categories at limit and
stop limit and each of them can be bought or sold.
Spread order represents the order of buying a futures contract
and to sell simultaneously another futures contract on the same
merchandise or a similar one, at a different price.
These types of spread orders gave birth to some types of special
transactions called spread transactions. Spread transaction is realized
by buying and selling simultaneously two related futures contracts.
This type of transaction is initiated hoping that the difference of price
among the two contracts will be changed in its profit before
compensating the transaction.

The difference between the contracts is called spread.
Lets suppose that, following the spread among the contracts,
we expect that the prices of the futures contracts for dollars and Euros
to grow, but not the same. So, we think that the spread among the two
contracts will be modified. We could buy the contract of which
growth we estimate to be higher (euro) and to sell the other one
(dollars). This means to use a spread transaction. Lets suppose that
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the euro price grows bigger. When we close the spread transaction,
we will obtain more money by selling the euro contracts than by
losing from re-buying the dollar contracts. The profit obtained by this
transaction is equal with the changing of the spread among the two
contracts, shown in the below drawing by the grey colored zone.

Limits on the number of futures contracts that can be traded:
There are limits fixed by SEBI on the exposure that can be taken by
each investor or broker. However, these limits are quite high for
common investors.
While the numbers of shares of the company are taken into account
while fixing such limits, in theory there is no correction between the
two especially in cash settled system.
Thus the daily volume in futures markets may be higher than daily
volume in cash markets.
It is also possible that share are not available in the cash market (there
being no sellers at that time) while futures on such share are freely
traded.
In most markets, it will be correct to say that the volume of futures
contracts can exceed the supply of the underlying asset.
Kind of broker members operate in the market:
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There are two kinds of basic members, viz. clearing members and
trading members. Clearing members can clear trades with the clearing
corporation. Trading members are provided with terminals for
trading.
Clearing members can be of two types viz. clearing-cum-trading
members (members who are allowed to clear as well as trade) and
Professional clearing members (members who can only clear and not
trade).







Order Matching Rules:
Order Matching will take place after order acceptance wherein
the system searches for an opposite matching order. If a match is
found, a trade will be generated. The order against which the trade has
been generated will be removed from the system. In case the order is
not exhausted further matching orders will be searched for and trades
generated till the order gets exhausted or no more match-able orders
are found. If the order is not entirely exhausted, the system will retain
the order in the pending order book. Matching of the orders will be in
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the priority of price and timestamp. A unique trade-id will be
generated for each trade and the entire information of the trade is sent
to the members involved.

ONLINE TRDING ORDERS
Kind of orders are:
Market order- order will be executed at best market prices available
Limit order- order will be executed when the market price reach the
specified limit.
Stop loss order- order will be unwound when the market price reach
the specified limit
Good till day- order will be kept in the trading system till end of the
day.


KIND OF DEAL POSSIBLE:
When a trade is executed between two clients of the same broker and
reported on the trading system, it is called as a cross deal:
When a trading is executed between two members- brokers and then
reported on the trading system, it is called as a negotiated deal:
MAXIMUM BROKERAGE CHARGEABLE:
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As per the securities contract Regulation act, maximum brokerage
permitted is 2.5% of the value of securities. In derivatives market, the
notional contract value would be the value to be considered for the
purpose.
FORM OF BASE CAPITAL EXCHANGE:
Broker members can deposit their base capital in cash, fixed deposits
and approved securities in proportions specified by the exchange.

Kind of commodities easy to traded under Future:
Commodities which posses the following characteristics are easy to
trade:
Standardization
Fungibility
large no of buyers and sellers
volatile prices
Uncertain demand and supply conditions.





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Trading mechanism in futures markets:
ORIGIN OF FUTURE TRADINGS

Futures trading have a long history, both in the U.S. and around the
world.
Futures trading on a formal futures exchange in the U.S. originated
with the formation of the Chicago Board of Trade (CBT) in the
middle of the Nineteenth Century. Grain dealers in Illinois were
having trouble financing their grain inventories. The risk of grain
prices falling after harvest made lenders reluctant to extend grain
dealers credit to purchase grain for subsequent sale in Chicago. To
reduce their risk exposure, grain dealers began selling To Arrive
contracts, which specified the future date (usually the month) a
specified quantity of grain would be delivered to a particular location
at a price identified in the contract. Fixing the price in advance of
delivery reduced the grain dealers risk exposure and made it easier to
obtain credit to finance grain purchases from farmers. The To
Arrive contracts were a forerunner of the futures contracts traded
today.
Although dealers found it advantageous to trade what essentially were
forward cash contracts in various commodities, they soon found these
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forward cash contract markets inadequate and formed futures
exchanges.
The first U.S. futures exchange was the Chicago Board of Trade
(CBT), formed in 1848. Other U.S. exchanges also have their origin
in the last half of the 1800s.
For example, the Kansas City Board of Trade (KCBT) traces its
roots to January 1876 when a precursor to todays hard red wheat
futures contract was first traded. Similarly, a forerunner of the
Chicago Mercantile Exchange (CME) was formed in 1874 when the
Chicago Product Exchange was organized to trade butter. In each case
the exchanges were formed because commercial dealers in corn,
wheat and butter needed a mechanism whereby they could reduce
some of their unwanted price risk, which hampered the day-to-day
management of their business. Sellers wanted to rid themselves of the
price risk associated with owning inventories of grain or butter and
buyers wanted to establish prices for these same products in advance
of delivery. In recent years futures contracts have proliferated,
particularly in the financial arena, as businesses become more aware
of the price risks they face and seek ways to reduce those risks.

TRADING MECHANISMS:

The trading mechanism of futures markets is realized in places
specially arranged for this activity, places called rings (pits). In our
country, at BMFM Sibiu, the trading took place in rings taking into
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account the trade assets. However, in 2000, BMFMS introduced the
electronic system of trading of futures and option contracts. The new
system represents a national premiere, and it is available from the
distance too, from any part of the country. The new software
SAGGITARIUS was created integral by the department of
informatics and trading at the Exchange and Romanian House of
Compensation, bring more premiers. The most important novelty is
represented by the replacement of the margin system with an
evaluation system of the risk that takes into consideration all the
naked positions of a futures or option contract. Relating to this, the
risk of a contract is evaluated, that can reach to zero.
The base rule in futures markets is to buy at a low price and to sell at
a high price, regardless the order.








Futures are allowed TO TRADE under what underlings?
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Currently in India Futures are allowed on 2 indices (viz. Sensex and
nifty) and on 31 individual stocks.
These individual stocks are carefully selected on various parameters.

The underlying for the INDEX futures is the corresponding BSE
Index. For e.g. the underlying for SENSEX futures is BSE
Sensitive Index of 30 scripts, popularly called the SENSEX.




Contract multiplier & Tick Size
The contract multiplier is the minimum number of the
underlying - index or stock that a participant has to trade while
taking a position in the Derivatives Segment. The contract
multiplier for SENSEX is 50. This means that the Rupee
notional value of a Sensex futures contract would be 50 times
the contracted value. (Practically it is known as lot size).
Tick Size : This means that the minimum price fluctuation in the
value of futures, if tick size is 0.05 in rupee terms this translates
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to tick size X Contract multiplier = 0.05 X50 =Rs.2.50 for
Sensex index .
Measurements in future market:
Beta and its used:
Beta is a measure of how sensitive a particular stock (or a particular
portfolio of stocks) is with respect to a general market index. For
example, if reliance has a beta of 1.15 with respect to the Sensex, the
implication is that reliance fluctuation will be 1.15 times the fluctuation in
the Sensex move up by 10%, Reliance will move up by 11.5%.
Beta is widely used for hedging purpose. If you have Reliance shares
worth Rs. 10lakhs and you want to hedge your portfolio using Sensex
Futures, you will typically sell Rs. 11.50lakhs of Sensex Futures. Therefore
if Sensex moves down by 10%, Reliance will move down by 11.5%. On the
Sensex Futures, you will gain Rs. 1.15lakhs (10% of Rs. 11.5lakhs) while on
Reliance, you will lose Rs. 1.15lakhs (11.5%of Rs. 10lakhs).
High beta stocks are termed aggressive stocks, while low beta
stocks are termed defensive stocks.
Hedge ratio is related to beta and can be understood as the
number of Futures contracts required to b sold to create a
perfect hedge.

VOLATILITY IN FUTURE MARKET:
Volatility is the extent of fluctuations in stock price (or prices of other
items like commodities and foreign exchange). Volatility is not related to
directions of the movement. Thus, volatility can be high irrespective of
whether the stock price is moving up or down.
A market index (like the Sensex) would generally be less volatile
than individual stocks (like Satyam).The level of volatility will dictate the
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level of margins. Higher volatility will results in higher margins and vice-
versa.
Daily volatility, if known can b used to calculate volatility for any given
period. For example, periodic volatility will be daily volatility multiplied by
the square root of the number of days in that period.
For example, Annual Volatility is generally taken as the square root of 256
(working days approximately) i.e. 16 times the daily volatility.
Valuation of future contracts:
Contract value is the price futures Unit multiplied the lot size. The
lot size also referred as the Contract multiplier.
For example, if Sensex Futures are quoting at 3400 and the contract
Multiplier is 50 units. The value of the one future contract will be Rs.
170000.
Profit on a futures contracts at the point of entering into transaction:
The profit on the futures contract at the point of entering into
transaction is zero. Profit or loss will develop only after passage of time .If
Futures prices move up, the buyer will make a profit vice versa.
What does the Exchange do in Futures?
The exchange decides the specifications of each contract.
For example, it would decide that Sensex Futures will have a lot size of 50
units. It would decide that Futures would expire on the last Thursday of
every month, etc.
The exchange will also collect Margins from both buyers and sellers to
ensure that trading operates smoothly without defaults.
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The exchange does not buy or sell any shares or Index futures or
commodities. It does not own any share or index futures or commodities
which might be traded on the exchange.
For example, an exchange where gold futures are traded might not own
any gold at all. It is not necessary that trading in commodities also should
happen in those exchanges where commodity futures are trade. .For
example, an exchange where gold futures are traded might not allow
trading in physical gold at all.
The exchange is supposed to carry out on-line surveillance of the
derivatives segment.

Lot size of futures:
Lot size differs from stock to stock and index to index. For example, the
lot size for Sensex Futures and Options is 50 units, while the lot size for
ACC Cement Futures and options is 1200 units.
Time of buy or sell of futures:
Futures can be bought or sold in various circumstances. But the simplest
of these circumstances could be:
Buy futures when you are Bullish(means you expect the market to
rise)
Sell futures when you are Bearish(means you expect the market to
fall)
Who decided the price of futures?
Price of futures is discovered during trading in the market. For example,
who decides the price of Infosys in the regular cash market? It is
discovered based on trading between various players during market
hours. The same logic applies to futures and options.
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Who decides the net worth criteria for broke members?
Net worth criteria for clearing members has been provided by SEBI
(Security Exchange Board of India), while net worth criteria for trading
members is decided by stock exchange.


Concept of Basis:
The difference between spot price and futures price is known as
basis. Although the Spot price and Futures prices generally move in
line with each other, the basis is not constant. Generally basis will
decrease with time and on expiry.

Contango:
When under normal market conditions, future contracts are priced above
the spot price. This situation is known as the Contango.
Backwardation:
When future price prevails below the spot price, such a situation is known
as backwardation. This situation may arise when there is a less supply of
goods and in future it is expected new goods will enter the market, mainly
agricultural products.
Determination of prices of
futures:
Price is determined based on forces of demand and supply and are
discovered during trading hours.
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Price of futures is derived from the price of the underlying. For example,
price of ACC Cement futures will depend upon the price of ACC Cement in
the cash market. You can expect Futures price to raise when ACC Cement
price rises and vice-versa.
A theoretical model called Cost of Carry model Provides that prices of
futures should be equal to spot Prices (i.e. cash market prices) plus
interest (also called cost of carry). If this price is not actually found in the
market, arbitrageurs will step in and make profits.


Risk management IN FUTURE:
Risk management is a process whereby the company (could be
broker, institution, stock exchange) lays down a clear process of
how its risk should be managed. The process will include:
Identifying risk
Deciding how much credit should be given to each client
Deciding the frequency of collection of margins.
Deciding how much risk is acceptance
Controlling risk on continuous basis
Monitoring risk taken on continuous basis
KINDS OF RISKS DO PARTICIPANTS IN FUTURE MARKET:
Some examples are as follows:
Counterparty (or default) risk- very low or almost zero because the
exchange takes on the responsibility
Operational risk- It is the risk that operational systems might fail.
Legal risk- risk that objections might be raised regularly framework
might disallow some activities.
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Market risk- risk that market price may move up or down
Liquidity risk- risk that unwinding of transactions might be difficult
if the market is illiquid.







How Futures can help the investors who face risk in equity market?
Risks faced by investors are categorized into two types. They are
1) systematic Risk and
2) Non systematic Risk.
A systematic risk arises from developments which affect the entire
system (for Example the entire stock market might be affected by a
major earthquake or war).such risks can b minimized through index
Futures. If you sell Index Futures and the market drops, you will make
profits. You might make losses on your shares and thus your profits
from index futures will give you much needed protections.

Unique risks are specific to each share. Thus the market might go up,
while a particular share might move down. To protect against unique
(or unsystematic risks), you should diversify your portfolio. If you hold
shares of many companies, it might happen that some move up and
some move down, thus protecting you.

When will I make profits?
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If you have bought futures and the price goes up, you will make profits.
If you have sold futures and the price goes down, you will make profits

SETTLEMENT PROCEDURE

MARGIN ON FUTURE
SETTLEMENT AND SQUARE UP

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MARGIN IN FUTURE:
Type of margin are payable on Futures?
Both buyers and sellers of Futures should pay an initial margin to the
exchange at the point of entering into Futures contracts. This initial
Margin is retained by the exchange till these transactions are squared up.
Further, market to market margins are payable based on closing prices at
the end of each trading day. These margins will be paid by the party who
suffered losses and will be received by the party who made profits. The
exchange thus collects these margins from the losers and pays them to
the winners on a daily basis.

What is margin money?
The aim of collecting margin money from the client / broker is to
minimize the risk of settlement default by either counterparty. The
payment of margin ensures that the risk is limited to the previous
day's price movement on each outstanding position. However, even
this exposure is offset by the initial margin holdings.
Margin money is like a security deposit or insurance against a
possible future loss of value. Once the transaction is successfully
settled, the margin money held by the exchange is released / adjusted
against the settlement liability.

Different types of margin:
There are different types of margin like initial margin, variation margin
(commonly called market - to - market or M -T- M) and additional margin,
if any.

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Settlement procedure:
Cash settlement:
Cash settlement means that one of the parties will pay the other party
the difference in cash. For example, if you bought Sensex Futures for
3350 and the closing price on the last Thursday was 3360, you will be paid
profit of 10 by the exchange. The exchange will collect the 10 from the
party who sold the Futures, because that party would have made a loss of
10.
In reality, the amount would not be 10, because the number of Sensex
Units in a contract would be considered. One Sensex contract is made up
of 50 Units. Therefore, a profit of 10 above would translate into a profit
of rs.500 (50 Sensex units 10).
Thus, Cash settlement means settlement by payment /receipt in cash of
difference between the contracted price and the closing price of the
underlying on the expiry day.
In this Cash settled system, you can buy and sell Futures on ACC cement,
you do not have to hold ACC Cement share.
How it helps?
Cash settlement allows parties to trade in futures, even when they are
not interested in delivery of the underlying. For example, you could buy
and sell silver Futures without actually buying silver or selling silver at any
time.




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DELIVERY BASED SETTLEMENT:
In delivery based settlement, the seller of Future delivers to the Buyer
(through the exchange) the physical shares, on the expiry day.
For example; if you have bought 1200 ACC Cement futures at Rs. 250
each, then you will (on the day of expiry) get 1200 shares of Satyam at
the contracted futures price of Rs.250.it might happen that on the day of
expiry, ACC Cement was actually quoting at Rs. 280.In that case, you
would still get ACC Cement at Rs.250, effectively generating a profit of
Rs.30 for you.

How is the final settlement price determined?
The closing value of underlying Index of the cash market is taken as
the final settlement price of the futures contract on the last trading
day of the contract for settlement purposes.










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How businessmen use futures?
To become clear about this lets take an example:
Suppose you are a trader of rice. You expect to buy rice in the next
month. But you are afraid that price of rice could go up within the next
one month. You can use rice futures by buying rice futures today itself,
for delivery in the next month. Thus you are protecting yourself against
price increase in rice.
On the other hand, suppose you are trader of jewelry and you will be
selling some jewelry next month. You are afraid that price of gold could
fall within the next one month. You can use gold Future by selling Gold
Futures. Thus, if the price of jewelry and gold falls, you will make a loss on
jewelry but make a profit on gold Futures.
If you are an important and you need dollars to pay for your imports in
the next month. You are afraid that dollar will appreciate before that. You
should buy futures on dollars. Thus even if the dollar appreciates, you will
still be able to get dollar at prices decided today.
If you are an expert and you are expecting dollar payments in the next
month. You are afraid that dollar might depreciate in that period. You can
sell futures on dollars. Thus even if the dollar depreciates, you will still be
able to get dollar converted at the prices decided today.
What will be each person role on it?
Speculators provide liquidity and volume to the market.
Hedgers provide depth.
Arbitrageurs assist n a proper price discovery and correct price
abnormalities.
Speculators are willing to take risk.
Hedgers want to give away risks (generally to the speculators).
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Bid price and ask price:
Bid price are those provided by buyers who want to buy shares or other
products at these Bid prices.
Ask price are those quoted by sellers who want to sell shares or futures or
other products at these ask price.
The difference between bid and ask price is called as the bid-offer spread
and also sometimes referred to as the jobbing spread. In highly liquid
markets, the bid offer spread is small. In illiquid markets, the spread is
high.
The difference between bid and ask price is also called impact cost. If
liquidity is poor impact cost high and vice versa.

Impact cost:
Impact cost is the cost you end up paying because of movement in the
market price resulting from your order .For example, if the market price
of Infosys, is Rs. 3410 and you place an order to buy 100000 shares of
Infosys, the market price may go up and your average cost of buying may
come to say Rs.3417.This difference of Rs.7is the impact cost.






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Maturity of the futures contract:
Presently, SEBI has permitted Exchanges to offer futures products of
1 month, 2 months and 3 months maturity only on a rolling basis- e.g.
say for May, June and July months. When the May contract expires
there will be a fresh contract month available for trading viz. the
August contract. These months are called the Near Month, Middle
Month and Far Month respectively.
On 9th June 2000, when Equity Derivatives were first introduced in
India at the Bombay Stock Exchange, we started with the three monthly
series for June, July and August 2000.
EXPIRY OF FUTURES:
Futures contracts will expire on a certain pre-specified date .In
India, futures contracts expire on the last Thursday of every month. For
example, a June Future contract will expiry on last Thursday of June .In
this case, June is referred to as the Contract month.
If the last Thursday is a holiday, Futures and Options will expire on the
previous working day.
On expiry, all contracts will be compulsorily settled .settlement can be
affected in cash or through delivery.
How many month Futures are available at any point of time?
Exchange has currently introduced three series in Futures and Options.
For example during the month of June on any day on or before last
Thursday, you will find three series available viz. June, July and August.

The June series will expire on the last Thursday of June. On the next
working day, the September series will open. Thus, on a rolling basis,
three series will made available.
Square up of futures:
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How can I square up futures?
If you have bought a future contact, you can sell it and thus a square up.
If you sold a Future contract you can buy it back and square up. If you do
not square up till the day of expiry, it will be automatically squared up by
the exchange. You need not square up with the same party from whom
you bought or sold. You can simply buy or sell through the computerized
trading system. In practice, most Future contracts are squared up before
expiry date and hence never result in delivery.
Leverages in the context of derivatives:
You need not invest the entire value of when you buy a future or option,
whereas in the cash market, you need to invest the whole amount. While
in futures, you invest an initial margin amount, in the case of option you
will invest the amount of options, you will invest the amount of option
premium as a buyer, or provide a certain margin as a seller.
Thus in derivatives, you can take a larger exposure with a lower
investment requirement.
This practice increases your risks and returns substantially. For Example if
you buy ACC Cement shares and it go up by 20 %, you earn 20% on your
investment. But if you buy ACC Cement futures which go up by 20%, you
will earn much more. If, for example, you paid a margin of only 10%, you
will earn 200 youre your 10% margin invested.





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