Workbook for NISM-Series-VIII: Equity Derivatives Certification Examination
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Workbook for NISM-Series-VIII: Equity Derivatives Certification Examination National Institute of Securities Markets www.nism.ac.in 1 This workbook has been developed to assist candidates in preparing for the National Institute of Securities Markets (NISM) NISM-Series-VIII: Equity Derivatives Certification Examination (NISM-Series-VIII: ED Examination). Workbook Version: April 2014 Published by: National Institute of Securities Markets © National Institute of Securities Markets, 2012 Plot 82, Sector 17, Vashi Navi Mumbai – 400 703, India All rights reserved. Reproduction of this publication in any form without prior permission of the publishers is strictly prohibited. 2 Disclaimer The contents of this publication do not necessarily constitute or imply its endorsement, recommendation, or favouring by the National Institute of Securities Market (NISM) or the Securities and Exchange Board of India (SEBI). This publication is meant for general reading and educational purpose only. It is not meant to serve as guide for investment. The views and opinions and statements of authors or publishers expressed herein do not constitute a personal recommendation or suggestion for any specific need of an Individual. It shall not be used for advertising or product endorsement purposes. The statements/explanations/concepts are of general nature and may not have taken into account the particular objective/ move/ aim/ need/ circumstances of individual user/ reader/ organization/ institute. Thus NISM and SEBI do not assume any responsibility for any wrong move or action taken based on the information available in this publication. Therefore before acting on or following the steps suggested on any theme or before following any recommendation given in this publication user/reader should consider/seek professional advice. The publication contains information, statements, opinions, statistics and materials that have been obtained from sources believed to be reliable and the publishers of this title have made best efforts to avoid any errors. However, publishers of this material offer no guarantees and warranties of any kind to the readers/users of the information contained in this publication. NISM and SEBI do not warrant the totality and absolute accuracy, adequacy or completeness of the information and material and expressly disclaim any liability for errors or omissions in this information and material herein. NISM and SEBI do not accept any legal liability what so ever based on any information contained herein. While the NISM Certification examination will be largely based on material in this workbook, NISM does not guarantee that all questions in the examination will be from material covered herein. 3 About NISM In pursuance of the announcement made by the Finance Minister in his Budget Speech in February 2005, Securities and Exchange Board of India (SEBI) has established the National Institute of Securities Markets (NISM) in Mumbai. SEBI, by establishing NISM, has articulated the desire expressed by the Indian government to promote securities market education and research. Towards accomplishing the desire of Government of India and vision of SEBI, NISM has launched an effort to deliver financial and securities education at various levels and across various segments in India and abroad. To implement its objectives, NISM has established six distinct schools to cater the educational needs of various constituencies such as investors, issuers, intermediaries, regulatory staff, policy makers, academia and future professionals of securities markets. NISM brings out various publications on securities markets with a view to enhance knowledge levels of participants in the securities industry. NISM is mandated to implement certification examinations for professionals employed in various segments of the Indian securities markets. 4 Acknowledgement This workbook has been developed by NISM in close cooperation with the Examination Committee for NISM-Series-VIII: Equity Derivatives Certification Examination (NISM- Series-VIII: ED Examination) consisting of representatives of National Stock Exchange India Ltd. (NSE) and Bombay Stock Exchange Ltd. (BSE). NISM gratefully acknowledges the contribution of all committee members. About the Author This workbook has been developed for NISM by Mr. Manish Bansal and Mr. Ashutosh Wakhare of Value Ideas Investment Services Pvt. Ltd. 5 About the NISM-Series-VIII: Equity Derivatives Certification Examination The examination seeks to create a common minimum knowledge benchmark for associated persons functioning as approved users and sales personnel of the trading member of an equity derivatives exchange or equity derivative segment of a recognized stock exchange. The examination aims to enable a better understanding of various derivatives products available in equity derivatives markets, regulations and risks associated with the products and the exchange mechanisms of clearing and settlement. The examination also covers knowledge competencies related to the understanding of the financial structure in India and the importance of the different rules and regulations governing the Indian securities market, especially those related to the equity derivatives segment. Examination Objectives On successful completion of the examination the candidate should: • Know the basics of the Indian equity derivatives market. • Understand the various trading strategies that can be built using futures and options on both stocks and stock indices. • Understand the clearing, settlement and risk management as well as the operational mechanism related to equity derivatives markets. • Know the regulatory environment in which the equity derivatives markets operate in India. Assessment Structure The NISM-Series-VIII: Equity Derivatives Certification Examination (NISM-Series-I: ED Examination) will be of 100 marks consisting of 100 questions of 1 mark each, and should be completed in 2 hours. There will be negative marking of 25% of the marks assigned to each question. The passing score for the examination is 60%. How to register and take the examination To find out more and register for the examination please visit www.nism.ac.in 6 Table of Contents Chapter 1: Basics of Derivatives................................................................................... 9 1.1 Basics of Derivatives ..................................................................................................... 9 1.2 Derivatives Market – History & Evolution .................................................................... 9 1.3 Indian Derivatives Market ........................................................................................... 10 1.4 Market Participants .................................................................................................... 11 1.5 Types of Derivatives Market ....................................................................................... 12 1.6 Significance of Derivatives .......................................................................................... 12 1.7 Various risks faced by the participants in derivatives ................................................ 13 Chapter 2: Understanding Index ................................................................................ 15 2.1 Introduction to Index .................................................................................................. 15 2.2 Significance of Index ................................................................................................... 15 2.3 Types of Stock Market Indices .................................................................................... 15 2.4 Attributes of an Index ................................................................................................. 18 2.5 Index management ..................................................................................................... 19 2.6 Major Indices in India .................................................................................................. 20 2.7 Application of Indices .................................................................................................. 20 Chapter 3: Introduction to Forward and Futures ........................................................ 21 3.1 Introduction to forward and futures Contracts .......................................................... 21 3.2 Pay off Charts for Futures contract ............................................................................. 29 3.3 Futures pricing ............................................................................................................ 31 3.4 Commodity, Equity & Index Futures ........................................................................... 36 3.5 Uses of futures ............................................................................................................ 37 Chapter 4: Introduction to Options ............................................................................ 47 4.1 Basics of options ......................................................................................................... 47 4.2 Pay off Charts for Options ........................................................................................... 50 4.3 Basics of Option Pricing and Option Greeks ............................................................... 58 4.4 Uses of Options ........................................................................................................... 62 Chapter 5: Option Trading Strategies ........................................................................