introduction to derivatives

Presented ByFenil Shah

18th June, 2011

Content:IntroductionFactors Driving The Growth Of DerivativesTypes of DerivativesParticipantsUnderlying Asset ClassEconomic functionsBenefitsCriticismDerivatives in India

IntroductionDerivatives are synthetic instruments

They derive value from an underlying asset class

Asset classes range from financial instruments to commodities.

Common underlying theme of derivatives is that they are leveraged products.

Factors Driving The Growth Of DerivativesIncreased volatility.

Increased integration with the international markets.

Development of more sophisticated risk management tools.

Types of Derivatives

Futures/Forwards.OptionsSwapsBasketsSwaptions

Derivative Positions and Participants

Naked open position taking a directional call on the markets

Hedge against underlying asset classArbitrage position within an asset class SpeculatorsHedgersArbitrageurs

Underlying Asset Class

Asset classes: financial which includes currencies and commodities

Financial asset classes: Interest rates, equities and currencies

Commodities range from agricultural commodities to minerals and metals

Economic Functions

Leverage

Speculate & make a profit

Hedge or mitigate risk in the underlying

Obtain exposure to the underlying

BenefitsDerivatives facilitate the buying and selling

of risk.

Helps increasing Buying in the underlying.

Create Liquidity in the Market.

CriticismPossible large losses.

Counter-party risk.

Leverage of an economy's debt.

Derivatives in India

The structured derivative market in India is relatively new (about 10 years old)

However derivatives have caught the fancy of the market and exchange traded equity and commodity derivatives are vibrant.

Equity Derivatives in IndiaNifty index futures are the highest traded

contractsSingle stock futures are actively traded for

arbitrage Nifty index options are also traded activelySingle stock options do not trade actively

Factors to Study in Nifty FuturesOpen interestTraded volumes as % to total derivative

volumesBasis spreadMovement of spreadRoll overs Calendar Spreads

Factors to Study in Nifty OptionsChanges in priceOpen interestImplied VolatilityPut call parity

Factors to Study in Single Stock FuturesOpen interestBasis SpreadCost of carryVolumesTop traded single stock futures