Hedging With Option Strategy

COCHIN STOCK EXCHANGE LTD
“A Study on Hedging with Index Options using

S&P CNX NIFTY Index with special reference to
Cochin Stock Exchange Ltd”
PROJECT REPORT
PROJECT DONE BY
ANPU MATHEW SIMON
UNDER THE GUIDANCE OF

SONY JOSEPH
(FACULTY)
SB COLLEGE, BIMS, Changanacherry
Berchmans Institute of Management Studies, Changanacherry 2008-2010 1

Introduction

1.1 Introduction
Capital market plays as important role in the economic development a country. It is a

major segment of the financial system of the country. Main function of a capital market is
to converts savings of the people towards profitable investments. “Capital market refers
to the institutional arrangements for facilitating the borrowing and lending of long term
funds”. The capital market is the market for securities, where companies and
governments can raise long-term funds. It is a market in which money is lent for periods
longer than a year. The capital market includes the stock market and the debenture
market. The capital markets consist of the primary market and the secondary market. The
primary markets are where new stock and bonds issues are sold to investors. The
secondary markets are where existing securities are sold and bought from one investor or
speculator to another, usually on an exchange.
Risk is a characteristic feature of all commodity and capital markets. Investing in

securities is profitable as well as exciting. It is indeed rewarding but involves a great deal
of risk. There is no return without risk. Higher the risk, higher the return. Lower the risk,
lower the return. Neither is desirable. A certain level of risk is desirable and should be
taken particularly when tools that minimize the risk are available. Risk and returns in the
case of an investment are like the two sides of the same coin. Though high returns are the
basic motive behind investment, the dodgy element of risk cannot be overlooked. Now,
future is uncertain, so one has to protect oneself from future uncertainties. So one hedges
against possible uncertainties and mitigates risk by counterbalancing. Hedging refers to a
method of reducing the risk of loss caused by price fluctuation. Portfolio managers and
corporations use hedging techniques to reduce their exposure to various risks. Derivatives
are an important tool used for hedging. Derivatives include options, futures, swaps etc.

Derivatives treated as one of the remarkable developments in the financial markets.

Derivatives are financial instruments which help in reducing the impact of business risks.
Derivative is a mechanism for covering against risks. Derivative is a product whose value
is derived from the value of one or more basic variables, called bases (underlying asset,
index, or reference rate), in a contractual manner. The most commonly used derivatives
contracts are forwards, futures and options. The importance of derivative is that it helps
in transferring risk. Making clearer it can't eliminate risk but can transfer. Derivatives act
as a risk management tool.
Derivatives allow investors to leverage relatively small amounts of funds over a wide
class of assets and thus diversify their portfolios. Derivative prices reveal information to
investors and provide more stability to the financial markets. The risk associated with
derivatives depends upon how these securities are used in a particular market and
economic environment. Though the derivative market(s) exist where standardized
derivative are traded on formal, legally recognized and legally unrecognized markets
where many privately negotiated customized financial contracts (derivative) are traded,
which are known as Over the Counter (OTC) derivatives. Such OTC traded financial
contracts expose markets to a great amount of financial, operational, counterparty,
liquidity and legal risk.
The emergence of the market for derivative products, most notably forwards, futures and
options can be traced back to the willingness of the risk averse economic agents to guard
themselves against uncertainties arising out of fluctuations in asset prices. By their
nature, the financial markets are marked by a very high degree of volatility. Through the
use of derivative products it is possible to partially of fully transfer the price risks by
locking in asset prices. As instruments of risk management, these generally do not
influence the fluctuations in asset prices on the profitability and cash flow situation of
risk averse investors.

1.2 Statement of the Problem
Every investment is characterized by risk and return. An investment whose returns are
fairly stable is considered to be a low risk investment , where as an investment whose
returns fluctuate significantly is considered to be a high risk investment. Capital market is
one of the most risky places for investment. But the return from the capital market
investment is always high. Therefore share become an attractive area for investment.
Traditionally rising markets (bullish) have been profit making times and falling markets
(bearish) have given risk to losses for ordinary investors. This is because on a cash
market the only way of capitalizing on a bearish view is to short stock with an intention
to buy it back when the prices have fallen. However, due to the uncertainties this is not a
viable proposition unless the investors already hold a stock or have some way of
borrowing the stock in order to short it.
An investor is able to make money expecting the market or a particular stock to go up or

down by two different ways; by simple thinking and analyzing using probability.
According to studies both the ways are proved to be risky.
When considering the investment in Derivatives, the options are less, so the probability
of loosing investment is also less. The derivatives especially the financial derivatives are
now a days emerging trend in the financial market. Derivative products initially emerged
as hedging devices against fluctuations in commodity prices, and commodity-linked
derivatives remained the sole form of such products for almost three hundred years. The
financial derivatives are used to minimize the losses of investors. The risk taking
investors who are ready to take risk can maximize their profit by using derivatives.
Derivative market provides a few ways to do this by allowing us to do transactions that
provides payoff, which are the same as or similar to short selling. Derivative instruments
thus offer several avenues or gaining even in the bearish market. This flexibility is one of
the features that make this market so attractive for the investors.

Futures and Options are now traded on many exchanges throughout the world. A hedge is
any act that reduces the price risk of an existing or anticipated position in the cash
market. An Option contact involves a right to buy or a right to sell an asset of certain time
in the future for a certain price. There are two types of Options: Call Option and Put
Option. A Call Option gives the holder the right to buy an asset by a certain date for a
certain price. A Put Option gives the holder to sell an asset by a certain date for certain
price. A put optimal portfolio is a group of securities, which gas the maximum return and
minimum risk.
The main focus of the study is to find out the effectiveness of Index Options as a hedging
technique. As the share market is volatile i.e. Changes may happen at any time, the risk
and return are equally uncertain so the investor has always of fear in his mind. The risk
and uncertainty need to be minimized. Hence the present stock seeks to reduce the risk
uncertainty using hedging technique trading. In a highly unpredictable market such as the
stocks, hedging plays a crucial role in protecting an investor against losses resulting from
unforeseen price or violating changes after a detailed study, the researcher is convinced
of the significance of Hedging as it helps reduce risk in an effective manner.
1.3 Objectives
• To have an understanding about the derivative market and instruments.

• To understand the various risks associated with investments and the risk
minimizing techniques.
• To know the effectiveness of Hedging.
• To know the role of Index Options in Hedging.
• To know how to make profit even in the falling (bearish) market.

Industry Profile

2.1 Industry Profile
The capital market is a market for financial assets, which have longer or indefinite
maturity. Generally, it deals with long-term securities which have maturity period of
above one year. The capital market may be further divided into three namely.
1. Industrial securities market
2. Government securities market
3. Long-term loan market
The industrial market, which deals with shares and debentures, can further be divided
into:
• Primary market
• Secondary Market
2.1.1 New issue market (Primary market)
Stocks available for the first time are offers through new issue market. The issuer may be
new company or an existing company. These issues may be of new type or the security
used in the past. In the new issue market the issuer can be considered as a manufacturer.
The issuing houses, investment bankers’ and brokers act as the channel of distribution for
the new issue.
The Functions
The main service function the primary market ate organization underwriting and
distribution. Organization deals with the origin of the new issue. The Proposal is
analyzed in terms of nature of security, the size of the issue and flotation method of issue.
Underwriting contract makes the share predictable and removes the element of
uncertainty in the subscription. This carried out with the help of the lead managers and
brokers to the issue

2.1.2 Secondary market
Secondary Market refers to a market where securities are traded after being initially
offered to the public in the primary market and / or listed on the stock Exchange.
Majority of the trading is done in the secondary market. Secondary market comprises of
equity markets and the debt markets. For the general investor, the secondary market
provides and efficient platform for trading of his securities. For the management of the
company, Secondary equity markets serve as a monitoring and control conduit – by
facilitating value-enhancing control activities, enabling implementation of incentive-
based management contracts, and aggregating information (via price discovery) that
guides management decisions.
Stock exchange
Stock Exchange is an organized marketplace where securities are traded. These securities
are by the government, semi-government Bodies, Public sector undertakings and
companies for borrowing funds and raising resources. Securities are defined as monetary
claims and include stock, shares, debentures, bonds etc. If these securities are marketable
as in the case of Government stock, they are transferable by endorsement and are like
movable property. Under the securities Contract Regulation Act of 1956, securities
trading are regulated by the Central Government and such trading can take place only in
Stock Exchange recognized by the Government under this Act. At present there are 23
recognized stock Exchanges in India. Of these major Stock Exchange, like Mumbai,
Calcutta, Delhi, Chennai, Hyderabad, Bangalore etc. are permanently recognized while a
few are temporarily recognized.

Functions of Stock exchange
1. Maintains Active Trading

Shares are traded on the stock exchanges, enabling the investors to buy and
sell securities. The prices may vary from transaction to transaction. A continuous trading
increases the liquidity or marketability of the shares traded on stock exchanges.
2. Mobilizing savings for Investment

When people draw their savings and investment in shares, it leads to a more
rational allocation of resources because funds, which could have been consumed, or kept
in idle deposits with banks, are mobilized and redirected to promote business activity
with benefits for several economic sectors such as agriculture, commerce and industry
resulting in a stronger economic growth and higher productivity levels.
3. Facilitating company growth

Companies view acquisitions as an opportunity to expand product lines,
increase distribution channels, hedge against volatility, increase its market share, or
acquire other necessary business assets
4. Fixation of prices
Price is determined by the transactions that flow from investor’s demand and
supplier’s preference. Usually the traded prices are made known to the public. This helps
the investors to make better decisions.
5. Creating investment opportunities for small investors

As opposed to other businesses that require huge capital outlay, investing
in shares is open to both the large and small stock investors because a person buys the
number of shares they can afford.

6. Barometer of the economy

Share prices tend to rise or remain stable when companies and the economy in general
show signs of stability and growth. An economic recession, depression, or financial crisis
could eventually lead to a stock market crash.
7. Ensures safe fair dealing

The rules, regulations and by laws of the stock exchanges provide a measure of safety to
the investors. Transactions are conducted under competitive conditions enabling the
investors to get a fair deal.
8. Dissemination of information
Stock Exchanges provide information through their various publications.
They publish the shares prices traded on daily basis along with the volume traded.
2.1.3 National Stock Exchange (NSE)
With the liberalization of the Indian economy, it was found inevitable to lift the Indian
stock market trading system on par with the international standards. On the basis of the
recommendations of high powered Pherwani Committee, the National Stock Exchange
was incorporated in 1992 by Industrial Development Bank of India, Industrial Credit and
Investment Corporation of India, Industrial Finance Corporation of India, all Insurance
Corporations, selected commercial banks and others.
Trading at NSE can be classified under two broad categories:
(a) Wholesale debt market and
(b) Capital market.
Wholesale debt market operations are similar to money market operations - institutions
and corporate bodies enter into high value transactions in financial instruments such as
government securities, treasury bills, public sector unit bonds, commercial paper,
certificate of deposit, etc.

There are two kinds of players in NSE:

(a) Trading members
(b) Participants.
Recognized members of NSE are called trading members who trade on behalf of
themselves and their clients. Participants include trading members and large players like
banks who take direct settlement responsibility.
Trading at NSE takes place through a fully automated screen based trading mechanism,
which adopts the principle of an order driven market. Trading members can stay at their
offices and execute the trading, since they are linked through a communication network.
The prices at which the buyer and seller are willing to transact will appear on the screen.
When the prices match the transaction will be completed and a confirmation slip will be
printed at the office of the trading member.
2.1.4 Over The Counter Exchange of India (OTCEI)

The traditional trading mechanism prevailed in the Indian stock
markets gave way to many functional inefficiencies, such as, absence of liquidity, lack of
transparency, unduly long settlement periods and binami transactions, which affected the
small investors to a great extent. To provide improved services to investors, the country's
first ring less, scrip less, electronic stock exchange OTCEI - was created in 1992 by
country's premier financial institutions – UTI, ICICI, and IDBI etc.
Trading at OTCEI is done over the centers spread across the country. Securities traded on
the OTCEI are classified into:
• Listed Securities - The shares and debentures of the companies listed on the OTC
can be bought or sold at any OTC counter all over the country and they should not
be listed anywhere else
• Permitted Securities - Certain shares and debentures listed on other exchanges and
units of mutual funds are allowed to be traded
• Initiated debentures - Any equity holding at least one lakh debentures of particular
scrip can offer them for trading on the OTC.

2.1.5 Bombay Stock Exchange (BSE)
The Stock Exchange, Mumbai, popularly known as "BSE" was established in 1875 as
"The Native Share and Stock Brokers Association". It is the oldest one in Asia, even
older than the Tokyo Stock Exchange, which was established in 1878. It is a voluntary
non-profit making Association of Persons (AOP) and is currently engaged In the process
of converting itself into demutualised and corporate entity. It has evolved over the years
into its present status as the premier Stock Exchange in the country. It is the first Stock
Exchange in the Country to have obtained permanent recognition in 1956 from the Govt.
of India under the Securities Contracts (Regulation) Act, 1956.
The Exchange, while providing an efficient and transparent market for trading in
securities, debt and derivatives upholds the interests of the investors and ensures
redresses of their grievances whether against the companies or its own member- brokers.
It also strives to educate and enlighten the investors by conducting investor education
programmes and making available to them necessary informative inputs.
A Governing Board having 20 directors is the apex body, which decides the policies and
regulates the affairs of the Exchange. The Governing Board consists of 9 elected
directors, who are from the broking community (one third of them retire every year by
rotation), three SEBI nominees, six public representatives and an Executive Director &
Chief Executive officer and a Chief Operating Officer. The Executive Director as the
Chief Executive Officer is responsible for the day-to-day administration of the Exchange
and he is assisted by the Chief Operating Officer and other Heads of Departments.

Company profile

2.2.1 Cochin Stock Exchange (CSE)
Cochin Stock Exchange limited (CSE) is one of he premier sock exchanges in India.
Established in the year 1978, the exchange has undergone tremendous transformation
over the years. The Exchange had a humble beginning with just 5 companies listen in
1978-79, and had onl7 14 members. The trading operation on the Exchange commenced
in 1980, which were till then carried out through the brokers located outside Kerala.
Today, the Exchange has 240 listed companies and 508 members.
In 1989 the company went for computerization of its offices. In order to keep with the
pace with the changing scenario in the capital market CSE took various initiatives
including trading in dematerialized shares. CSE introduced the facility of computerized
trading called “Cochin Online trading” (COLT) on March 17, 1997. CSE is one of the
promoters of the Interconnected Stock Exchange of India (ISE). The objective was to
consolidate the small fragmented and less liquid markets into a national level integrated
liquid markets.
With the enforcement of efficient margin system and surveillance, CSE has successfully
prevented defaults. “Introduction of fast track system made CSE the stock exchange with
shortest settlement cycle in the country at that time. By the dawn of the new century, the
regional exchange faced the serious challenges from the NSE &BSE. To face this
challenge CSE promoted a 100% subsidiary called the Cochin Sand Stock Brokers Ltd
(CSBL) and started trading in the National Stock Exchange (NSE) and Bombay Stock
Exchange (BSE). CSBL is the first subsidiary of a Sock Exchange to get membership in
both NSE&BSE, and become a participant in the Central Depository Service Ltd
(CDSL). The CSE has been playing a vital role in the economic development of the
country and the state.

2.2.2 Organization structure of CSE.
Board of Directors
Executive Director
Legal Systems CDSL Settlement Surveillance
Administration &
Legal & Secretarial
Personnel
Listing Marketing & Finance

Public Relations
2.2.3 Legal framework of the organization
The Cochin stock exchange is directly under the control and supervision of Securities &
Exchange Board of India (the SEBI), and is today a demutualised entity in accordance
with thee Cochin Stock Exchange (Demutualization) Scheme. 2005 approved and
notified by SEBI on 29th of August 2005

2.2.4 Membership profile
Cochin Stock Exchange Currently has 508 members. All the members of CSE have a
share each value of Rs100 thus making the issued, subscribed and paid up capital of
Rs.50800. Thus authorized capital of CSE is Rs.100000with the total membership limited
to 1000.
As per the SEBI norms CSE charges an initial deposit of Rs.2 lakhs from each member.
Based on the volume of trade each member is to contribute additional deposits. Along
with this an annual subscription fee of Rs.200 for individual members and Rs.500 for
corporate members will be charged by CSE. The members are appointing their assistants
are sub brokers based on the guidelines given by the SEBI. During the 5 years
membership each members have to pay Rs.5000 annually to SEBI as advance payment
on or before 1st October of each financial year.
From the 6th to the 10th year of membership of the total amount payable is Rs.5000 which
is payable at the beginning of the 6th year (counted as payment of Rs.1000 per year).
2.2.5 Management of Cochin Stock Exchange
The policy decisions of the CSE are taken by the Board Of Directors. The Board is
constituted with 12 members of whom less than one-fourth are elected from amongst the
trading member of CSE, another one fourth are Public Interest Directors selected by
SEBI from the panel submitted by the Exchange and the remaining are Shareholder
Directors. The Board appoints the Executive Director who functions as an ex-officio
member of the Board and takes charge of the administration of the Exchange.
The Exchange is professionally managed, under the overall direction of the Board of
Directors. The Board consists of eminent professionals from fields such as judiciary,
administration and management, who are known as Public Interest Directors. The Public
Interest Directors constitute one fourth of the total strength of the Board
.The representation of brokers of the Exchange is limited to one fourth of the total
strength of the Board .The remaining are representatives of shareholders without trading
rights, called the Shareholder Directors.
2.2.6 Cochin Stock Brokers Limited.

Rapid changes taking place in the capital market has dwindled the importance of
Regional Stock Exchange. With the introduction of online trading by NSE and BSE
investors could trade online from any remote location of the through a broker terminal.
Taking into consideration all this developments and considering the future, the sock
exchange decoded to start a 100% subsidiary called Cochin Stock brokers Limited
(CSBL).
This enabled the CSE to acquire membership of other stock exchange through its
subsidiary. CSBL was incorporated on 28-12-1999 and later it got membership in NSE &
BSE. The CSBL started its operation in full swing from February 2001.
At present the CSBL offers trading in BSE&NSE with more than 50 registered brokers
and this have been increasing day by day. Each member is given separate terminal for
online trading. The staff in the exchange provides the necessary help for various matter
involved in the trading activities.
2.2.7 Products & Services

Cochin Stock Brokers ltd (CSBL), a wholly owned subsidiary company of Cochin Stock
Exchange is a corporate member of both NSE and BSI, and provides trading facilities on
here exchange through the brokers if exchange.
The subsidiary offers a wide range of products and services.

1. Trading on National Stock Exchange
2. Trading on Bombay Stock Exchange
3. Internet Trading (WEBS)
4. Depository Participant
5. IPO (Initial Public Offer) Primary Market binding.
6. Issue of new Shares.
2.2.8 Departmental profile

The Cochin Stock Exchange carries on its functions through seven main department s.
There exist a very cordial relationship between each department in CSE and the day to
day operations are well delegated to each department through the staff member at various
levels. The council of management is the apex body, which coordinates all the operations
of the exchange. The executive director gives the guideline to the heads of various
department s.
The various functional department Stock under Cochin Stock Exchange are:
 Finance department
 Administration department
 Surveillance department
 Legal department
 Systems department
 Settlement Department
 Listing
Finance Department
This department takes care of the various financial transactions of CSI thus acting as the
life line of the organization. The department is headed by a Finance officer and assisted
by Deputy Manager and several senior and junior officers
Administration Department
A legal officer with two deputy manager for administration and complains and
management information system heads the department two senior officers looking after
public relations and administration form part of administration

Surveillance Department
The Exchange has setup Surveillance Department to keep close watch on price
movements of scrip, detect market abuses like price rigging, monitor abnormal price and
volumes which are not consistent with normal trading pattern etc. The main objectives of
the department are top be provide a free and fan market, to arrest unsystematic risk form
entering into the system and to manage risks. The surveillance function at the exchange
has assumed greater importance in the last few years. SEBI has directed the stock
exchanges to set up a separate surveillance dep0artment with staff exclusively assigned
for this function.
Legal Department
CSE has a full - fledged Legal Department, by Manger-Legal and is primarily engaged in
advising the management in the merits and demerits of legal issues involving the
exchange
A major function under taken by the department is to ensure that the various rules,
regulations and directives of SEBI with regard to trading in the Capital Market by brokers
and sub brokers are brought to the notice to members and the investing public.
System department
It is the heart of the various operations of CSE. The department provides stock the
necessary technical supports for screen based trading and the computerized functioning
of all other department.
The various activities of the department include:-
• Developments of various software needed for functioning of the exchange
• Maintenance of Multex software, which provides online trading NSE and BSE.
• Maintenance of an effective network of computers for the smooth
functioning of the exchange.

The major back office system soft wares used are NESS and BOSS for NSE and BSE
trade calculations respectively. These soft wares are developed in house by CSE. These
soft wares are used organization maintain the entire records of all the trades that occur
each day. It also does the require calculations for deductions and also crease kinds of
reports needed by the brokers and their clients.
Now a days CSE using CBRS (Core Broking Software). The clients and members are
directly used by CBRS system.
Listing department
Listing means admission of the securities of a company to trading privileges on a Stock
Exchange. The principal objectives of listing are to provide ready marketability and
important liquidity and free negotiability to stock and shares; ensure proper supervision
and control of dealings therein, and protect the Interests of shareholders and of the
general investing public.
Settlement Department
Settlement department is a key department of the CSE. It is dealing with cash and
securities. It helps the broker in setting the matters related to their pay in and payout,
recovery of dues and selling the matters related to the bad deliveries. This department is
headed by a Deputy Manager and assisted by two senior officers who look the operations
involved in the settlement activities in CSE. CSE following T+2 settlement system
(where T-dates of transaction)

DERIVATIVES
3.1 DERIVATIVES

A derivative is, as the name suggests, a financial contract whose value is derived from the
value of another asset. The underlying asset can be securities, commodities, bullion,
currency, live stock or anything else. In other word, Derivative means a Forward, Future,
Option or any other Hybrid contract of pre determined fixed duration, linked for the
purpose of contract fulfillment to the value of a specified real or financial asset to an
index of securities.
The basic concept of derivative is a simple ancient one, with evidence that the Romans
used them thousands of years ago, and that they have roots in Japan and Netherlands
dating back to the early sixteenth century (Market History). A common example is a
farmer use forward contract, type of derivative, to sell wheat before the harvest at a
predetermined fixed price. The derivative in this case is used to protect the farmer against
an expected decrease of the price in wheat, thus reducing g his exposure organization
market risk (link organization market risk). On the other hand, the buyer accepts the risk
associated with the fixed price and faces the possibility of either financial gain or loss,
depending on the difference between the fixed price and the actual price at the time of
harvest. Consequently, one may think of derivatives as tool to buy and sell risk ‘
In finance, a derivative security is a contract that specifies the rights and obligations
between the issuer of the security is a contract that specifies the rights and obligations
between the issuer of the security is a contract that specifies the rights sand obligations
between the issuer of the security and the holder to receiver or deliver future cash flows
(or exchange of other securities or assets) based on some future event/ Derivative can
have a large number of properties, so that its value depends on many factors. The terms
and payments can be derived from the price of a security or commodity, an event, or
something else. Derivatives that are fully standardized like Futures and Options are
generally traded through a securities exchange or future exchange.
3.1.1 Definition of Derivatives

Derivative is a product whose value is derived from the value of

one or more basic variables, called bases (underlying asset, index, or reference rate), in a
contractual manner. The underlying asset can be equity, forex, commodity or any other
asset. Example of derivatives includes futures and options. Advanced investors
sometimes purchase or sell derivates to manage the risk associated with the underlying
security, to protect against fluctuations in values, or to profit from periods of inactivity or
decline. These techniques can be quite complicated and quite risky. Derivatives can be
used to mitigate the risk of economic loss arising from changes in the value of the
underlying. This activity is known as hedging. Alternatively, derivatives can be used by
investors to increase the profit arising if the value of the underlying moves in the
direction they expect. This activity is known as speculation.
Derivatives - contracts that gamble on the future prices of assets—
are secondary assets, such as options and futures, which derive their value from primary
assets, such as currency, commodities, stocks, and bonds. With securities Laws (Second
Amendment) Act, 1999, Derivatives has been include in the definition of Securities. The
term Derivative has been defined in Securities Contracts (Regulations) Act, as:-
a. “Security derived from a debt instrument, share loan whether secured or
unsecured, risk instrument or contract for difference or any other from of
security”.
b. “Contract which derives its value from the prices, or index of prices, of
underlying securities”.

3.1.2 Types of Derivatives instruments
Derivative contracts have several variants. The most common

variants are forwards, futures, options and swaps. All derivatives can be divided into two
broad classes: linear and nonlinear. The distinction lies in how the derivatives function
relates to the underlying asset value. Within this to classes are four general types of
derivatives
Furthermore, derivatives may be grouped as exchange –traded or
over the counter (OTC). Exchange derivatives, which included furthers, are traditional,
highly standardized contracts that readily provided liquidity and minimize credit risk. On
other hand, OTC derivatives are customized to meet the need of the user. For what swaps
are example of OTC derivatives. Options can be either exchange traded or OTC.
Following are the types of derivative products.
a. Futures
Future Contracts organized/standardized contracts, which are traded

on the exchanges. These contracts can be defined as “a standardized, exchange traded
agreement specifying a quality and price of particular type of commodity (Soybeans,
gold, oil, etc.) to be purchased or sold at predetermined date in the future”. On contract
date, delivery and physical possession take place unless contract has been closed out.
Futures are also available on various financial products and indexes today.
Futures markets were design to solve the problem that exists in

forward market. A future contracts an agreement between two parties to buy or sell asset
at certain time in the future at a certain price but unlike forward contracts, futures
contracts are standardized and exchange traded. To facilitate liquidity in the futures
contracts, the exchange specifies certain standards features of the contracts. It is a
standardized contracts with standard underline instrument, a standard quantity and quality
of the underlying instrument that can be delivered, ( or which can be used for references
purpose in settlement 0 and a standard timing of such settlement,. A futures contract may
be offset prior to maturity by entering into an equal and opposite transactions. More than
99% of futures transactions are offset this way.

The standardized items in a futures contract are:

1. Quantity of the underlying
2. Quality of the underlying
3. The date and month of delivery
4. The units of price of quotation and minimum price charge
5. Location of settlement
Every futures contract is a forward contract, that they
 Are entered into through exchange, traded on exchange and clearing

Corporation/ house provide the settlement guarantee for trades.
 Are standard quantity; standard quality (In case of commodities)
Future contract is thus a forward contract, which trades on an exchange. S & P CNX
Nifty futures are traded on National Stock Exchange. This provides them transparency,
liquidity anonymity of trades, and also eliminates the counter party risk due to the
guaranty provided by National Securities Clearing Corporation limited. A futures
contract is one where there is an agreement between two parties to exchange any asset,
currency, or commodity for cash at a certain future date, at an agreed price. There is no
reference to an agreement ‘between two parties’ – this because futures contracts are often
entered into through an intermediary (the exchange and seller to clearing house), which
acts as the buyer to each seller and seller to each
The Securities & Exchange Board of India (SEBI) regulates trading

in futures. SEBI exists to guard against traders controlling the market in an illegal or un
ethical manner, and to prevent to fraud in the futures market.

b. Forward
A forward contract is one to one bi- partite contract, to be performed in the future, at the
terms decided today. Forward contracts offer tremendous flexibility to the parties design
the contract in terms of the price, quality (in case if commodities), delivery time and
place but it suffers from poor liquidity and default risk.
Forward contract different from a spot transaction, where payment of
price and delivery of commodity concurrently takes place immediately the transaction is
settled. In a forward contract the sale /purchase transaction of an asset is settled including
the price payable, not for delivery/ settlement at spot, but a specified future date. India
has strong dollar rupee forward market with contracts being traded for one, two …six–
month expiration. Daily trading volume on this forward market is around $ 500 million a
day. This contract includes currencies, stocks, swaps etc. Indian users of hedging services
are also allowed to buy derivatives involving other currencies on foreign markets.
c. Swaps
A swap, another type of liner derivatives, is a contract that allows two parties to
exchange, or swap, payments for a period of time based on some notional principle
amount. Swaps are private agreement between two parties to exchange cash flows in the
futures according to the pre-arranged formulae. The notional principle amount is not
swapped, only the payment flows are exchange. i.e., Swaps are exchange of stream
payment over agreed period. They can be regarded as a portfolio of forward contracts.
Swaps are two types:
1. Currency Swaps: In currency swaps, currency potions are exchanged in the

beginning, which are reversed.
2. Interest Rate Swaps: In interest rate swap only fixed interest obligation are
exchanged with floating exchange rate obligations without exchanging the
principle amount.
The purpose of swap transactions is to take advantage of relative cost reduction.

d. Options
Options are the standardized financial contracts that allows the buyer (holder) of the
options, i.e. the right at the cost of option premium, not the obligation, to by (call
options) or space sell (put options) a specified asset at a price on or before a specified
date through exchanges under stringent financial securities against default. Options are
instruments whereby the right is given by the option seller to option buyer to buy or sell
asset at a specific prince price on or before a specific date.
e. Swaptions
Swaptions are options to buy or sell a swap that will become operative at the expiry of
the options. Thus a swaption is an option on a forward swap. Rather than have calls and
puts, the swaptions market has receiver swaptions and payer swaptions. A receiver
swaption is an option to receive fixed and pay floating. A payer swaption is an option to
pay fixed and receive floating.
f. Warrants
Options generally have lives of up to one year; the majority of options traded on options
exchanges having a maximum maturity of nine months. Longer-dated options are called
warrants and are generally traded over-the-counter.
g. LEAPS
The acronym LEAPS means Long-Term Equity Anticipation Securities. These are
options having a maturity of up to three years.

3.2 Index derivatives
Index derivatives are derivative contracts which have the index as the underlying. The
most popular index derivatives contracts over the world are index futures and index
options. NSE's market index, the S&P CNX Nifty was scientifically designed to enable
the launch of index-based products like index derivatives and index funds. The first
derivative contract to be traded on NSE's market was the index futures contract with the
Nifty as the underlying. This was followed by Nifty options, derivative contracts on
sectoral indexes like CNX IT and BANK Nifty contracts. Trading on index
derivatives were further introduced on CNX Nifty Junior, CNX 100, Nifty Midcap 50
and Mini Nifty 50. S&P CNX Nifty Options. NSE introduced trading in index options on
June 4, 2001. The options contracts are European style and cash settled and are based on
the popular market benchmark S&P CNX Nifty index.
Futures contract based on an index i.e. the underlying asset is the index, are known as
Index Futures Contracts. For example, futures contract on NIFTY Index and BSE-30
Index. These contracts derive their value from the value of the underlying index.
Similarly, the options contracts, which are based on some index, are known as Index
options contract. However, unlike Index Futures, the buyer of Index Option Contracts has
only the right but not the obligation to buy / sell the underlying index on expiry. Index
Option Contracts are generally European Style options i.e. they can be exercised /
assigned only on the expiry date. An index in turn derives its value from the prices of
securities that constitute the index and is created to represent the sentiments of the market
as a whole or of a particular sector of the economy. Indices that represent the whole
market are broad based indices and those that represent a particular sector are sectoral
indices.

In the beginning futures and options were permitted only on S&P Nifty and BSE Sensex.
Subsequently, sectoral indices were also permitted for derivatives trading subject to
fulfilling the eligibility criteria. Derivative contracts may be permitted on an index if 80%
of the index constituents are individually eligible for derivatives trading. However, no
single ineligible stock in the index shall have a weightage of more than 5% in the index.
The index is required to fulfill the eligibility criteria even after derivatives trading on the
index have begun. If the index does not fulfill the criteria for 3 consecutive months, then
derivative contracts on such index would be discontinued.
By its very nature, index cannot be delivered on maturity of the Index futures or Index
option contracts therefore, these contracts are essentially cash settled on Expiry.
3.3 Derivatives in Indian context
Keeping in view, the experience of even strong and development economies the world
over, it is no denying the fact hat financial market it extremely volatile in nature. India’s
financial market is not an exception to this phenomenon. The attendant risk arising out of
the volatility and complexity of the financial market is an important concern for financial
analysis. As a result, there us a logical need for those financial instruments which allow
fund managers to better manage or reduce these risks. Out of various risks, credit risk and
interest rate risk are the two core risks, which are commonly acknowledged by various
categories of financial health of business organization, especially banks.
With gradual liberalization of Indian financial system and the growing integration among
market stock, the risks associated with operations of banks and all India financial
institutions have become increasingly complex requiring strategic management. In
keeping with spirit of the guidelines on Asset-Liability Management system to deal with
credit and market risk is also the need of the hour. Fr enabling he banks and the financial
institutions, among others, to mange their risk effectively the concept of derivatives come
into the picture.

The term “Derivative” indicates that it has no independent value i.e. its value is entirely
“derived” from the value of the underlying asset. The underlying asset can be securities,
commodities, bullion currency, livestock or anything else.
In other words Derivative means forward, future, option or any other hybrid contract of
pre-determined fixed duration, linked for the purpose of contract fulfillment to the value
of a specified real or financial asset or to an index of securities
3.3.1 Development of derivatives market in India
The first step towards introduction of derivatives trading in India was the promulgation of
the Securities Laws (Amendment) Ordinance, 1995, which withdrew the prohibition on
Options in securities. The market for derivatives, however, did not take off, as there was
no regulatory framework to govern trading of derivatives. SEBI set up a 24–member.
Committee under the Chairmanship of Dr.L.C.Gupta on November 18, 1996 to develop
appropriate regulatory framework for derivatives trading in India. The committee
submitted its report on March 17, 1998 prescribing necessary pre–conditions for
introduction of derivatives trading in India. The committee recommended that derivatives
should be declared as ‘securities’ so that regulatory framework applicable to trading of
‘securities’ could also govern trading of securities. SEBI also set up a group in June 1998
under the Chairmanship of Prof. J.R.Varma, to recommend measures for risk
containment in derivatives market in India.
Derivatives trading commenced in India in June 2000 after SEBI granted the final
approval to this effect in May 2000. SEBI permitted the derivative segments of two stock
exchanges, NSE and BSE, and their clearing house/corporation to commence trading and
settlement in approved derivatives contracts. To begin with, SEBI approved trading in
index futures contracts based on S&P CNX Nifty and BSE–30(Sensex) index. This was
followed by approval for trading in options based on these two indexes and options on
individual securities.

The trading in BSE Sensex options commenced on June 4, 2001 and the trading in
options on individual securities commenced in July 2001. Futures contracts on individual
stocks were launched in November 2001. The derivatives trading on NSE commenced
with S&P CNX Nifty Index futures on June 12, 2000. The trading in index options
commenced on June 4, 2001 and trading in options on individual securities commenced
on July 2, 2001. Trading and settlement in derivative contracts is done in accordance with
the rules, byelaws, and regulations of the respective exchanges and their clearing
house/corporation duly approved by SEBI and notified in the official gazette. Foreign
Institutional Investors (FIIs) are permitted to trade in all Exchange traded derivative
products.
The following factors have been driving the growth of financial derivatives:
• Increased volatility in asset prices in financial markets,
• Increased integration of national financial markets with the international markets,
• Marked improvement in communication facilities and sharp decline in their costs,
• Development of more sophisticated risk management tools, providing economic
agents a wider choice of risk management strategies, and
• Innovations in the derivatives markets, which optimally combine the risks and
returns over a large number of financial assets, leading to higher returns,
reduced risk as well as trans-actions costs as compared to individual financial
assets.
3.3.2 Issues and opportunities in Indian Derivative Market
In India, there has been a phenomenal growth in derivative market in the last few years.
However, there is still a long way to go. Institutional participation is still very low for a
number of reason, the prime one among them is the position limit cap imposed by the
regulator of FIIs. Each FIIs grows exposure in an Index product is restricted to a
maximum of 15% of the open interest of Rs. 100 Cr. The limit for single stock product is
20% of the market wide limit or Rs.50 Cr. Whichever is lower.

Since a FII having a large exposure to Indian market can only hedged a portion of his
exposure because of the restrictive limit specified. Many FII prefer not to hedge their
exposure at all rather than a hedged a small portion of their portfolio. These restrictive
limits were laid down in 2002, which need to be revised since market conditions have
changed a lot. More over there are number of FIIs who are active participant abroad and
wish to play in Indian market are unable to get FII registration under current regulation.
Thus it is essential that position limit of FIIs be increased and wider set of participant to
increase the depth of the market and improve pricing mechanism are allowed.
Trading in Options, which has remained relatively low will also increase. FII investment
in spot equities will also move up if they get the confidence of hedging their positions in
a liquid derivative market. Domestic players have negligible participation in derivative
market because existing regulations do not permit them to use derivatives to hedge their
portfolios.
Another hurdle towards the growth of derivatives is over all the cap on the total gross
position in any underlying asset, which is currently set at the lower of 30 times average
daily volume in the stock of 10% free float. It is very essential that this limit also be
revised.
Indian debt markets are used to trading on an YTM basis whereas interest rate futures are
settled on the basis of Zero Coupon Yield curve. It is because of this reason that interest
rate futures have not become popular till date. Banks which are major players in fixed
income market have been permitted to use futures only for hedging. This poses a
restriction on their participation. Also there is a need for clarity regarding accounting and
taxation of derivative.

3.3.3 Structure of derivatives market in India
Derivative trading in India can takes place either on a separate and independent
derivative exchange or on separate segment of an existing stock exchange. Derivative
exchange/ segment function as a Self Regulatory Organization (SRO) and SEBI acts as
the oversight regulator. The clearing and settlement of all trades on the derivative
exchange/ segment would have to be through a clearing corporation/ house, which is
independent in governance and membership from the derivative exchange/ segment.
3.3.4 Various types of membership in the derivatives market

• Trading Member (TM) – A TM is a member of the derivatives exchange and can
trade on his own behalf and on behalf of his clients.
• Clearing Member (CM) –These members are permitted to settle their own trades
as well as the trades of the other non-clearing members known as Trading
Members who have agreed to settle the trades through them.
• Self-clearing Member (SCM) – A SCM are those clearing members who can clear
and settle their own trades only.
3.3.5 Introduction to Index Numbers

An Index number measures the change in a set of values over a period of time. A stock
Index number records the change in value of set stocks. An Index is a barometer for
market behavior. It is treated to be a bench mark of portfolio performance. In this study
researcher took the data from NSE and it’s index called S&P CNX NIFTY.
Popular Indices in India
• S&P CNX 500

• S&P CNX NIFTY
• S&P CNX NIFTY JUNIOR
• BSE-30 SENSEX
• BSE-100 NATEX

Trading Systems
NSE’s trading system for its futures and options segment is called NEAT F&O. It is
based on the NEAT system for the cash segment.
BSE’s trading system for its derivatives segment is called DTSS. It is built on a platform
different from the BOLT system though most of the features are common.
3.3.6 Minimum contract size
It has been specified that the value of a derivative contract should not be less than Rs. 2
lakh at the time of introducing the contract in the market. The contract size is frequently
updated depending upon the current market price of the underlying. The standing
committee on Finance, a parliamentary committee, at the time of recommending
amendment to Securities Contract (Regulation) Act, 1956 had recommended that the
minimum contract size of derivative contracts traded in the Indian markets should be
pegged not below two lakhs. Based on this recommendation SEBI has specified that the
value of a derivative contract should not be less than two lakh at the time of introducing
the contract in the market. In February 2004, the Exchanges were advised to re-align the
contracts sizes of existing derivative contracts to two lakhs. Subsequently, the Exchanges
were authorized to align the contracts sizes as and when required in line with the
methodology prescribed by SEBI.
3.3.7 Lot size of a derivative contract
Lot size refers to number of underlying securities in one contract. The lot size is
determined keeping in mind the minimum contract size requirement at the time of
introduction of derivative contracts on a particular underlying.
For example, if shares of XYZ Ltd are quoted at Rs.1000 each and the minimum contract
size is Rs.2 lacs, then the lot size for that particular scrip’s stands to be 200000/1000 =
200 shares i.e. one contract in XYZ Ltd. covers 200 shares.

3.3.8 Types of Traders in a Derivatives Market
Hedgers, speculators and arbitrators are the types of traders in derivatives market.
Hedgers:
Hedgers are those who protect themselves from the risk associated with the price of an
asset by using derivatives. A person keeps a close watch upon the prices discovered in
trading and when the comfortable price is reflected according to his wants, he sells
futures contracts. In this way he gets an assured fixed price of his produce.
In general, hedgers use futures for protection against adverse future price movements in
the underlying cash commodity. Hedgers are often businesses, or individuals, who at one
point or another deal in the underlying cash commodity.
Take an example: A Hedger pay more to the farmer or dealer of a produce if its prices go
up. For protection against higher prices of the produce, he hedges the risk exposure by
buying enough future contracts of the produce to cover the amount of produce he expects
to buy. Since cash and futures prices do tend to move in tandem, the futures position will
profit if the price of the produce rise enough to offset cash loss on the produce.
Speculators:
Speculators are some what like a middle man. They are never interested in actual owing
the commodity. They will just buy from one end and sell it to the other in anticipation of
future price movements. They actually bet on the future movement in the price of an
asset. They are the second major group of futures players. These participants include
independent floor traders and investors. They handle trades for their personal clients or
brokerage firms. Buying a futures contract in anticipation of price increases is known as
‘going long’. Selling a futures contract in anticipation of a price decrease is known as
‘going short’. Speculative participation in futures trading has increased with the
availability of alternative methods of participation.

Speculators have certain advantages over other investments they are as follows:
If the trader’s judgment is good, he can make more money in the futures market faster
because prices tend, on average, to change more quickly than real estate or stock prices.
Futures are highly leveraged investments. The trader puts up a small fraction of the value
of the underlying contract as margin, yet he can ride on the full value of the contract as it
moves up and down. The money he puts up is not a down payment on the underlying
contract, but a performance bond. The actual value of the contract is only exchanged on
those rare occasions when delivery takes place.
Arbitrators:
According to dictionary definition, a person who has been officially chosen to make a
decision between two people or groups who do not agree is known as Arbitrator. In
commodity market Arbitrators are the person who takes the advantage of a discrepancy
between prices in two different markets. If he finds future prices of a commodity edging
out with the cash price, he will take offsetting positions in both the markets to lock in a
profit. Moreover the commodity futures investor is not charged interest on the difference
between margin and the full contract value.
3.4 Risks in Investments
The dictionary meaning of risk is the possibility of loss or injury. It is the possibility of
the actual outcome being different from expected outcome. Risk is composed of the
demands that bring in variations in returns of income. Risk means the variations in
returns of income. Risk is an important consideration in holding any portfolio. Risk in
holding securities is generally associated with possibility that realized returns will be less
than the returns that were expected. The main forces contributing to risk are price and
interest. Risk also influenced by external and internal considerations. The source of such
disappointment is the failure of dividends (interest) and/or the security’s price to
materialize as expected. Forces that contribute to variations in return price or dividend

(interest) constitute elements of risk. Some influences are external to the firm, cannot be
controlled, and affect large numbers of securities. Other influences are internal to the firm
and are controllable to a large degree. . In investments, those forces that are
uncontrollable, external and broad in their effect are called sources of systematic risk.
Conversely, controllable internal factors somewhat peculiar to industries and/or firms are
refereed to as sources of unsystematic risk. The total variability return of a security
represents the total risk of that security. Systematic risk and unsystematic risk are the two
components of total risk .Thus,
Total risk = Systematic risk +Unsystematic risk.
3.4.1 Systematic Risk
These are risk associated with the economic, political, sociological and other macro level
changes. They effects and entire market whole and cannot be controlled or eliminated
merely by diversifying one’s portfolio. These risks are undiversifiable. It affects the
entire market. Systematic risk is further sub divided into interest rate risk, market risk,
and purchasing power risk.
Interest rate risk
Rising the current market interest rates are bad news for fixed income investments
because bond prices generally move in the opposite direction of interest rates. As the
prices of bonds in a fund adjust to a rise in interest rates, the fund's share price may
decline. Interest-rate risk refers to the uncertainty of future market values and of the size
of future income, caused by fluctuations in the general level of interest rates
Market risk
Variability in return on most common stocks that is due to basic sweeping changes in
investor expectations are referred to as market risk. Market risk is caused by investor
reaction to tangible as well as intangible events. Expectations of lower corporate profits

in general may cause the larger body of common to fall in price. Investors are expressing
their judgment that too much is being paid for earnings in the light of anticipated events.
The basis for the reaction is a set of real, tangible events political, social, or economic.
Intangible events are related to market psychology. Market risk is usually touched off by
a reaction to real events, but the emotional instability of investors acting collectively
leads to a snow balling over reaction
Purchasing Power Risk
Purchasing-power risk is the uncertainty of the purchasing power of the amounts to be

received. In more understandable terms, purchasing-power risk refers to the impact of
deflation on an investment.
3.4.2 Unsystematic Risks
Unsystematic risk is the portion of total risk that is unique or peculiar to a firm or an
industry, above and beyond that affecting securities markets in general. Factors such as
management capability, consumer preferences, and labor strikes can cause unsystematic
variability of returns for a company’s stock. Factors such as management capability,
consumer preferences, labour, etc. contribute to unsystematic risk. Unsystematic risks are
controllable by nature and can be considerably reduced by sufficiently diversifying one’s
portfolio.
Following are the type of unsystematic risks
Financial risk
Financial risk is associated with the way in which a company finances its activities. We
usually gauge financial risk by looking at the capital structure of a firm. The presence of
borrowed money of debt in the capital structure creates fixed payment in the form of
interest that must be sustained by the firm. The presence of these interest commitments

fixed interest payments due to debt of fixed-dividend payments on preferred stock causes
the amount of residual earnings available for common stock dividends to be more
variable than if no interest payments were required. Financial risk is avoidable risk to the
extent that managements have the freedom to decide to borrow or not to borrow funds. A
firm with no debt financing has no financial risk.
Business risk
Business risk is that portion of the unsystematic risk caused by the operating environment
of the business. This arises from the inability of a firm to maintain its competitive edge
and the growth or stability of the earnings. Variation that occurs in the operating
environment is reflected on the operating income and expected dividends. The variation
in the expected operating income indicates the business risk.
Business risk can be divided into two broad categories: external and internal. Internal
business risk is associated with the operating efficiency of the firm. They are fluctuations
in the sales, effectiveness of R&D department, good personnel management department,
content of fixed cost in cost of production, product variety etc
External business risk is the result of operating conditions imposes upon the firm by
circumstances beyond its control. They are political conditions, business cycle, social and
regulatory factors etc.
3.5 Measure of Beta (β )
Beta is a measure of systematic risk. It describes the relationship between the stock’s
return and the Index returns. It measures the sensitivity of a scrip/portfolio vies-a-vies
index movement. Beta of scrip is index specific, i.e., Beta of the same scrip vis-à-vis
Sensex will be different from the beta value vies-a-vies Nifty. Also beta is a time frame
specific value, i.e. beta of scrip vis-à-vis Sensex taking last 6 months historical data into
consideration , will be different from the beta value that we get by taking the last one-
year date into consideration , keeping all the other parameters constant.

1. Beta = +1.0
One percent change in market index return causes exactly one percent change in
the stock return hence they move in tandem.
2. Beta = +0.5.
One percent change in market index return caused 0.5% change. so the stock is
less volatile compared to the market .
3. Beta = +2.0
One percent change in market index return causes 2% change in the stock return,
so the stock is highly volatile and hence risky.
4. Negative beta
This value indicates that stock return moves in the opposite direction to the
market return. A negative beta will give positive return.
3.6 Risk management
Every investor wants to guard himself from the risk. This can be done by understanding
the nature of the risk and careful planning. Risk Management is the identification,
assessment, and prioritization of risks followed by coordinated and economical
application of resources to minimize, monitor, and control the probability and/or impact
of unfortunate events Risk management is the process of managing the risk to an
acceptable level. Risk Management is the name given to a logical and systematic method
of identifying, analyzing, treating and monitoring the risks involved in any activity or
process.

There are different methods for risk management. Diversification and hedging are the
most commonly used methods. With the help of diversification we can reduce the
unsystematic risk as it affects a particular company. Diversification spreads our risk
across numerous financial investments; reducing the impact of poor returns from any one
investment is likely to have on our portfolio. Diversification cannot eliminate market risk.
Usually a well diversified portfolio will provide smoother returns that an investment in a
single asset class.
Hedging is one of the methods through which risk is managed. It refers to the process of
protecting the price of a financial instrument or commodity at a date in the future by
undertaking an off setting position in the present using futures, options, forward contracts
or very other financial instrument.
3.7 Hedging
Risk and returns in the case of an investment are like the two sides of the same coin.
Though high returns are the basic motive behind investment, the dodgy element of risk
cannot be overlooked. Now, future is uncertain, so one has to protect oneself from future
uncertainties. So one hedges against possible uncertainties and mitigates risk by
counterbalancing. Hedging refers to a method of reducing the risk of loss caused by price
fluctuation. Portfolio managers and corporations use hedging techniques to reduce their
exposure to various risks.
Hedging is the process of managing the risk of price changes in physical material by
offsetting that risk in the futures market. Hedging can vary in complexity from a
relatively simple activity, through to highly complex strategies, including the use of
oppositions. The ability to hedge means that industry can decide on the amount of risk it
is prepared to accept. It may wish to eliminate the risk entirely and can generally stock do
so quickly and easily. Managing price risk means achieving greater control of either the
cost of inputs, or revenues; and eliminating concerns that a sharply adverse move in the
price of material could turn on otherwise flourishing and efficient business into a loss

maker. Hedging means reducing or controlling risk. This is done by taking a position in
the futures market that is opposite to the one in the physical market with the objective of
reducing or limiting risks associated with price changes.
Hedging is a two-step process. A gain or loss in the cash position

due to changes in price levels will be countered by changes in the value of a future
position. If there is a fall in price, the loss in the cash market position will be countered
by a gain in future position. Hedging by trade and industry is the opposite of speculation
and is undertaken in order to eliminate an existing physical price risk, by talking a
compensating position in the futures market. Speculators come to the futures market with
no initial risk. They assume risk by taking futures positions. Hedgers reduce or eliminate
the chance of further losses or profits, while the speculators risk losses in order to make
profits.
Before a staring a hedging programme it is essential to assess the

risk due to exposure to the price of physical material. Once the hedger has an
understanding of the tools available, it is relatively easy to select the appropriate action to
manage this risk. It is important that this action is properly mange at all times and that
the appropriate controls and approval procedures are in place.
Investors studying the market often come across a security, which

they believe is intrinsically undervalued. It may be the case that the profits and the
quality of the company make it seem worth a lot more than the market think. A stock
picker carefully purchases securities based on a sense that they worth more than the
market price. When doing so, he faces two kinds of risk s.:
1. His understanding can be wrong, and the company is really not worth more than
the market price.
2. The entire market moves against him and generates loses even though the
underlying idea was correct.

Risk is an essential yet precarious element of investing. So in order to protect the value of
his investment, the investor needs to reduce his w exposure to one or more kinds of risks.
This can be achieved by hedging. So hedging is defined as a position taken in futures,
options or other contracts for the purpose of reducing w exposure to one or more kinds of
risk. Every hedge has a cost, so before we decide to use hedging, we must ask our self
whether the benefits received from it justify the expense. Remember, the goal of hedging
isn't to make money but to protect from losses. The cost of the hedge - whether it is the
cost of an option or lost profits from being on the wrong side of a derivative contract -
cannot be avoided. This is the price you have to pay to avoid uncertainty. The amount
paid to buy an option is called premium. When we are comparing hedging versus
insurance, we should emphasize that insurance is far more precise than hedging. With
insurance, we are completely compensated for our loss. Hedging a portfolio isn't a perfect
science and things can go wrong. Although risk managers are always aiming for the
perfect hedge, it is difficult to achieve in practice.
The Hedging technique

Hedging techniques generally involve the use of complicated financial instruments
known as derivatives, the two most common of which are options and futures. The core
problem when deciding upon a hedging policy is to strike a balance between uncertainty
and the risk of opportunity loss. It is in the establishment of balance that investor must
consider the risk aversion, the preferences, of the shareholders. Setting hedging policy is
a strategic decision, the success or failure of which can make or break a firm. This
decision includes checking whether there are instruments that address both certainty and
opportunity loss. Fortunately, there are. They are called derivatives or derivative
products. With the help of these instruments we can develop trading strategies where a
loss in one investment is offset by a gain in a derivative. Most financial institutions make
markets in panoply of risk management solutions involving derivative products. Some of
them come as stand – alone solutions and others are presented a packages or
combinations. Financial derivatives are used to hedge the exposure to market risk.
Hedgers transfer their risk to speculators who are willing to assume the risk

3.8 Derivatives and risk management.
This term risk management was largely emerged during the early 1990s, but the term
“risk management” was used long before this. Since the 1960s, it has been – and
frequently still is – used to describe techniques for addressing insurable risks.
This form of “risk management “encompasses:
• Risk reduction through safely, quality control and hazard education.

• Alternative risk financing including self-insurance and captive insurance
• The purchase of traditional insurance products, as suitable.
More recently, derivatives dealers have promoted “risk management” as the use of
derivatives to hedge or customize market –risk exposures. For this reason, derivatives
instruments are sometimes called “risk management products”. Derivatives allow risk
about the price of the underlying asset to be transferred from one party to another.
The new “risk management” evolved during the 1990s is different from either of the
earlier forms. Often called “financial risk management”, it treats derivatives as a
problem as much as a solution. It focuses on reporting, oversight and segregation of
duties within organizations.

3.9 Introduction to Options
An option is a contract written by a seller that conveys to the buyer the right— but not the
obligation — to buy (in the case of a call option) or to sell (in the case of a put option) a
particular asset, at a particular price (Strike price/ Exercise price) in future. In return for
granting the option, the seller collects a payment (the premium) from the buyer.
Exchange-traded options form an important class of options which have standardized
contract features and trade on public exchanges, facilitating trading among large number
of investors. They provide settlement guarantee by the Clearing Corporation thereby
reducing counterparty risk. Options can be used for hedging, taking a view on the future
direction of the market, for arbitrage or for implementing strategies which can help in
generating income for investors under various market conditions.
An option gives a person the right but not the obligation to buy or sell something. An
option is a contract between two parties wherein the buyer receives a privilege for which
he pays a fee (premium) and the seller accepts an obligation for which he receives a fee.
The premium is the price negotiated and set when the option is bought or sold. A person
who buys an option is said to be long in the option. A person who sells (or writes) an
option is said to be short in the option. Options can be of two types; Call Option and Put
Option
Call Option
A call option is a financial contract between two parties, the buyer and the seller of this
type of option. It is the option to buy shares of stock at a specified time in the future.
Often it is simply labeled a "call". The buyer of the option has the right, but not the
obligation to buy an agreed quantity of a particular commodity or financial instrument
(the underlying instrument) from the seller of the option at a certain time (the expiration
date) for a certain price (the strike price). The seller (or "writer") is obligated to sell the
commodity or financial instrument should the buyer so decide. The buyer pays a fee
(called a premium) for this right.

Call options are most profitable for the buyer when the underlying instrument is moving
up, making the price of the underlying instrument closer to the strike price. The call
buyer believes it's likely the price of the underlying asset will rise by the exercise date.
The risk is limited to the premium. The profit for the buyer can be very large, and is
limited by how high underlying's spot rises. When the price of the underlying instrument
surpasses the strike price, the option is said to be "in the money". The call writer does not
believe the price of the underlying security is likely to rise. The writer sells the call to
collect the premium. The total loss, for the call writer, can be very large indeed, and is
only limited by how high the underlying's spot price rises.
Put Option
A put option (sometimes simply called a "put") is a financial contract between two
parties, the seller (writer) and the buyer of the option. The buyer acquires a short position
offering the right, but not obligation, to sell the underlying instrument at an agreed-upon
price (the strike price). If the buyer exercises the right granted by the option, the seller
has the obligation to purchase the underlying at the strike price. In exchange for having
this option, the buyer pays the writer a fee (the option premium). A put option gives us
the right to sell the underlying shares at a predetermined price called the ‘strike price’.
Buying options allows us to profit from falling markets. A put option is a financial
instrument like a share, which we can buy and sell in the derivatives segment of the stock
market. When we buy a put option, we get the right to sell a specific quantity of the
underlying shares, which the put option represents.
Selling a put option, for example, when we feel that the underlying instrument’s price
will remain stable or at least not fall sharply, allows us take in premium income. As the
option nears expiry, the time value of our short put will be eroded and if, as we
forecasted, the underlying price has not moved sharply, we will be able to close out our
short put position at a cheaper premium than that at which we sold to open the position,
thus realizing a profit. By buying ‘put options’ we can safely hedge ours portfolio against
market downswings without selling our shares. The only price we pay is a small premium
just like we do for our life insurance policies.

OPTION TERMINOLOGY
• Index options: These options have the index as the underlying. In India, they have a
European style settlement. E.g. Nifty options, Mini Nifty options etc.
• Stock options: Stock options are options on individual stocks. A stock option
contract gives the holder the right to buy or sell the underlying shares at the
specified price. They have an American style settlement.
• Buyer of an option: The buyer of an option is the one who by paying the
option premium buys the right but not the obligation to exercise his option
on the seller/writer.
• Writer / seller of an option: The writer / seller of a call/put option is the

one who receives the option premium and is thereby obliged to sell/buy the
asset if the buyer exercises on him.
• Call option: A call option gives the holder the right but not the obligation to
buy an asset by a certain date for a certain price.
• Put option: A put option gives the holder the right but not the obligation to
sell an asset by a certain date for a certain price.
• Option price/premium: Option price is the price which the option buyer
pays to the option seller. It is also referred to as the option premium.
• Expiration date: The date specified in the options contract is known as the
expiration date, the exercise date, the strike date or the maturity.

• Strike price: The price specified in the options contract is known as the
strike price or the exercise price.
• American options: American options are options that can be exercised at any
time up to the expiration date.
• European options: European options are options that can be exercised only
on the expiration date itself.
3.10 Index Options
Index derivatives are derivative contracts which have the index as the underlying. The
options contracts, which are based on some index, are known as Index options contract.
The buyer of Index Option Contracts has only the right but not the obligation to buy / sell
the underlying index on expiry. Index Option Contracts are generally European Style
options i.e. they can be exercised / assigned only on the expiry date. Like equity options,
index options offer the investor an opportunity to either capitalize on an expected market
move or to protect holdings in the underlying instruments. The difference is that the
underlying instruments are indexes. These indexes can reflect the characteristics of either
the broad equity market as a whole or specific industry sectors within the marketplace.
Index options can be further classified into Put and Call options as in the case of equity
option. A Put Index Option gives us the right to sell the underlying at a predetermined
price called the ‘strike price’ on a predetermined future period. A Call Index Option gives
us the right to buy the underlying at a predetermined price called ‘strike price’ on a
predetermined future period. Buying Index Options allows us to profit from rising
markets (in the case of call options) and falling markets (in the case of put options),
however, the versatility of options also means that certain option strategies will enable us
to profit in a static market.

Benefits of Index Options
• Diversification
Index options enable investors to gain exposure to the market as a whole or to
specific segments of the market with one trading decision and frequently with one
transaction. To obtain the same level of diversification using individual stock issues
or individual equity option classes, numerous decisions and transactions would be
required. Employing index options can defray both the costs and complexities of
doing so.
• Predetermined Risk for Buyer

Unlike other investments where the risks may have no limit, index options offer a
known risk to buyers. An index option buyer absolutely cannot lose more than the
price of the option, the premium.
• Leverage
Index options can provide leverage. This means an index option buyer can pay a
relatively small premium for market exposure in relation to the contract value. An
investor can see large percentage gains from relatively small, favorable percentage
moves in the underlying index. If the index does not move as anticipated, the buyer's
risk is limited to the premium paid. However, because of this leverage, a small
adverse move in the market can result in a substantial or complete loss of the buyer's
premium. Writers of index options can bear substantially greater, if not unlimited,
risk.
• Guaranteed Contract Performance
The seller or writer of the put option is obliged to buy the underlying shares at the
specified price if the buyer decides to sell. When an option holder want to exercise an
option depended on the ethical and financial integrity of the writer at the time of
expiration of the contract the option writer can’t escape from his obligation. i.e.., the
performance of the option writer is guaranteed.

Hedging strategy

Have portfolio, buy Puts
Owner of equity portfolios often experience discomfort about the overall stock market
movement. As an investor of a portfolio, sometimes we may have a view that stock prices
will fall in the near future. At other times we may see that the market is in massive
volatility, and we do not have an appetite for this kind of volatility. The union budget is a
common and reliable source of such volatility; market volatility is always enhanced for
one week before and two week after the budget. Many investors do not want the
fluctuations of these three weeks. One way to protect our portfolio from potential
downside due to a market drop is to buy portfolio insurance.
Index option is a cheap and easily implemental way of seeking this insurance. The idea
is simple. To protect the value of portfolio from falling below a particular level, buy the
right number of put options with the right strike price. When the index falls portfolio will
lose value and the put options bought us will gain, effectively ensuring that the value of
portfolio does not fall below a particular level. This level depends on the strike price of
the options chosen by the investor.
Portfolio insurance using put options is of particular interest to mutual funds who already
own well-diversified portfolios. By buying puts, the fund can limit its downside in case of
a market fall.

4.1 Scope of the study
The study covers the Index Options as a hedging tool for aggressive risk management.
The other hedging tools like Forward, SWAP are not covered in this study. The study is
confined to “Have Portfolio, Buy Puts” strategy.
4.2 Period of the study

The study covers a period of two months, i.e. January and April. Because in the month of
January the market was in a bearish trend and in the month of April market was in a
bullish trend.
4.3 Data collection

Data collection was done by the researcher himself. This study was descriptive in nature
and was mainly based on the secondary data. The data for analysis were collected from
the journals, like Treasury Management, NSE Bulletin, and Internet sources. The data for
review were collected from magazines, journals, records & reports and bulletin. In this
study the primary data have limited use. The beta values were calculated by the
researcher himself on the basis of available secondary data.
4.4 Framework of analysis
In this study the researcher have used the strategy” Have portfolio, Buy Put strategy”

4.5 Design of the study
4.5.1 Selection of securities from different sectors.
The securities are selected from the different sectors in order to have the effect of
diversification. Securities from different sectors are selected on the basis of Liquidity,
P/E ration, good beta value and past performance. The securities selected are as follows
Table No. 1
SELECTED COMPANYS AND THEIR RESPECTIVE SCRIP CODES AND

INDUSTRY
NO. COMPANY SCRIP CODE INDUSTRY

1. BHARAT PETROLEUM BPCL REFINERIES
CORPORATION Ltd.
2. DLF Ltd. DLF CONSTRUCTION
3. HINDUSTAN UNILEVER Ltd. HINDUNILVR DIVERSIFIED
4. INFOSYS TECHNOLOGIES Ltd. INFOSYSTCH COMPUTERS –
SOFTWARE
5. I T C Ltd. ITC CIGARETTES
6. LARSEN & TOURBRO Ltd. LT ENGINEERING
7. MAHINDRA & MAHINDRA SAIL AUTOMOBILES - 4
Ltd. WHEELERS
8. STEEL AUTHORITY of INDIA SBIN STEEL AND STEEL
Ltd PRODUCTS
9. STATE BANK of INDIA SUNPHARMA BANKS
10. SUN PHARMACEUTICAL M&M PHARMACEUTICALS
INDUSTRIES Ltd.
4.5.2 Calculation of Beta value of each security.

Beta is a measure of systematic risk. Beta describes the relationship between the stock‘s
return and the index return. Hedging will have more effect when the securities which
were selected have good beta value as these securities have more fluctuation from the
market performance. In this research, beta values of individual securities were calculated
for two different periods viz. for December 2009 and or May 2010.
Beta was calculated by using the following formula

β = nΣXY- (ΣX) (ΣY)
nΣX2 - (ΣX)2
N = number of observations
X= market return
Y= individual securities return
The security return = Today’s price – Yesterday’s price * 100

Yesterday’s price
Today’s market return = Today’s index – Yesterday’s index * 100

Yesterday’s index
4.5.3 Construction of portfolio.
Portfolio is a basket of individual securities. In this study the portfolio was created by
combining the securities from different sectors on the basis that on an average Rs. 2 lakh
is invested in each stock. The quantity of the individual securities in the portfolio was
calculated by dividing Rs. 2 lakh with market price of the each security as on hedging
day.
4.5.4 Calculation of beta of the portfolio

The beta amount of individual scrip was calculated by multiplying the beta value of
individual security with amount of money invested in the particular security. The total of
beta value of individual securities is known as portfolio beta value. The division of
portfolio beta value with portfolio value will provide the portfolio beta. Beta of the
portfolio was calculated by using the following formula
Beta of the portfolio= Portfolio Beta Amount

Value of the portfolio
4.5.5 Calculation of the amount to be hedged
The product of the portfolio value and portfolio beta reveals the amount of Nifty to be
hedged. In this stage the number of Nifty to be sold and number of lot to be sold were
calculated. Number of Nifty to be sold was calculated by dividing the amount of Nifty to
be sold with closing Nifty Index value of the day on which the hedging is done. Number
of market lots to be sold was calculated dividing the number of Nifty to be sold by
current market lot i.e. 50.
• The amount of Nifty to be sold for the purpose of hedging was calculated by the
following formula
Amount of Nifty to be sold = Value of the Portfolio amount * Portfolio Beta
• Number of Nifty to be sold was calculated by
Number of Nifty to be sold= Amount of Nifty to be sold

Closing Value of Nifty Index as on hedging day
• Number of lots to be sold can be calculated by
Number of lots to be sold= Number of Nifty to be sold

Current Market lot
4.5.6 Hedging the portfolio using Index Put Options.

In this stage the portfolio is hedged by using the Index Put Option. Put Option can be
bought along with the Strike Price. In order to buy the Put Option an amount called
premium is to be paid. This premium is different for different strike prices. The premium
to be paid can be calculated by multiplying premium amount for the particular strike
price with current market price and number of lots to be sold. Premium to be paid was
calculated by using following formula
Premium to be paid =
Premium for the particular strike price * Current market lot * Number of lot to be sold
4.6 Limitations of the study
• The duration of the study was limited to period of two months so that the
extensive and deep study could not be possible.
• Hedging with index options is only considered.
• The study is limited to 10 companies of NSE.
• The derivative market index in India is not full fledged. Hence the information
available is limited.
• The study is depending mostly on the secondary.

Analysis of Data
Analysis of Data
The overall analysis and interpretation of the study is divided into three parts,

(a) Portfolio creation

(b) analysis of hedging effectiveness in bearish market
(c) analysis of hedging effectiveness in bullish market.
First stage shows the Portfolio creation. And the Second stage shows the analysis and
interpretation of hedging effectiveness in bearish market and third stage shows the
analysis and interpretation of hedging effectiveness in bullish market.
5.1 PORTFOIO CREATION

A portfolio is created on 1st April 2009 as at that point of time the market was favorable
for an investment. A portfolio of 10 securities with an investment of Rs.2000000 in total.
In each Security Rs.200000 is invested. . The quantity of the individual securities in the
portfolio was calculated by dividing Rs. 2 lakh with market price of the each security as
on 1st April 2009 .
Table No. 2
NUMBER OF SECURITIES SELECTED FROM EACH SCRIP AS ON

1ST APRIL 2009
SCRIP PRICE QUANTITY
BPCL 364.80 548
DLF 177.10 1129
HINDUNILVR 236.45 845
INFOSYSTCH 1373.75 145
ITC 184.35 1084
LT 672.45 297
SAIL 97.45 2052
SBIN 1077.45 185
SUNPHARMA 1065.45 187
M&M 394.95 506
TOTAL 6978
The above table shows the calculation of number of securities in each company for the
purpose of portfolio creation on 1st April 2010. The quantity of the individual securities in
the portfolio was calculated by dividing Rs. 2 lakh with market price of the each security
as on 1st April 2010. The total number of securities in the portfolio is 6978.
Table No.3
VALUE OF PROTFOLIO AS ON 1ST APRIL 2009

SCRIP PRICE(P) QUANTITY(Q) AMOUNT(P*Q)
BPCL 364.8 548 199910.4

DLF 177.1 1129 199945.9
HINDUNILVR 236.45 845 199983.8
INFOSYSTCH 1373.75 145 199800.25
ITC 184.35 1084 199835.4
LT 672.45 297 199717.65
SAIL 97.45 2052 199967.4
SBIN 1077.45 185 199328.25
SUNPHARMA 1065.45 187 199239.15
M&M 394.95 506 199844.7
TOTAL 6978 1996782.85
It is clear from the table that the value of portfolio as on 1st April is Rs.1996782.85. It also
reveals the amount of money invested in each security, number of shares in each security.
Number of shares is more in the case of STATE BANK OF INDIA and less in the case of
INFOSYS TECHNOLOGIES Ltd , SUN PHARMACEUTICAL INDUSTRIES Ltd., and
MAHINDRA & MAHINDRA Ltd.as the price of the securities are different. If the
market price of the security is more, then the number of securities for investment will be
less and vice versa
5.2 Analysis of portfolio in bearish market
The month of January 2010 was a bearish market. On 4th January 2010 the market opened
with a Nifty Index of 5200 and in the 29th January the Nifty Index closed in 4882.05.
Chart No. 2 Fluctuation in Nifty Index in the month of January 2010

This graph shows the fluctuation of Nifty Index rates in the Opening Indexes from 4th
January 2010 to 29th January 2010. It is clear from the graph that the Nifty Index went
down 317.95 points. This results indicates a Bearish Market in the month of January.
Table No. 4
VALUE OF PROTFOLIO AS ON 4TH JANUARY 2010

BPCL 650.75 548 356611

DLF 364.6 1129 411633.4
HINDUNILVR 264.8 845 223756
INFOSYSTCH 2612.6 145 378827
ITC 253.65 1084 274956.6
LT 1691.4 297 502345.8
M&M 1129.85 506 571704.1
SAIL 247.6 2052 508075.2
SBIN 2291.2 185 423872
SUNPHARMA 1507.35 187 281874.45

TOTAL 6978 3933655.55
It is clear from the table that the value of portfolio as on 4 th January is Rs.
3933655.55. It also reveals the amount of money invested in each security, number of
shares in each security
Table No. 5
VALUE OF PROTFOLIO AS ON 29TH JANUARY 2010

BPCL 540.8 548 296358.4

DLF 333.65 1129 376690.85
HINDUNILVR 255.3 845 215728.5
INFOSYSTCH 2491.75 145 361303.75
ITC 250.15 1084 271162.6

LT 1423.85 297 422883.45
M&M 1017.55 506 514880.3
SAIL 214.5 2052 440154
SBIN 2056.6 185 380471
SUNPHARMA 1473.05 187 275460.35

TOTAL 6978 3555093.2
This table shows that value of the portfolio as on 29th January 2010 was Rs.
3555093.2. There is reduction of prices in all the securities as compared to the price
as on 4st January.
Table No. 6
CHANGE IN PROTFOLIO VALUE WITH THE CHANGE IN NIFTY INDEX

INDEX PORTFOLIO
DATE MOVEMENT VALUE
4-Jan-10 5200.9 3933655.55
5-Jan-10 5277.15 3971960.6
6-Jan-10 5278.15 3972958.85
7-Jan-10 5281.8 3919253.6
8-Jan-10 5264.25 3934476.55
11-Jan-10 5263.8 3953550.3
12-Jan-10 5251.1 3932088.55
13-Jan-10 5212.6 3931862.15
14-Jan-10 5234.5 3929835.1
15-Jan-10 5259.9 3897335.15
18-Jan-10 5253.65 3920063.35
19-Jan-10 5274.2 3864318.5
20-Jan-10 5226.1 3836968.35
21-Jan-10 5220.2 3765177.8
22-Jan-10 5094.15 3705822.8
25-Jan-10 5034.55 3663370.9
27-Jan-10 5008.5 3546041
28-Jan-10 4863 3553731.8
29-Jan-10 4866.15 3555093.2
The above table shows the change in portfolio value along with the change in Nifty Index
for the month January 2010. The changes shows a proportional relationship between the
Nifty Index and Portfolio Value
Chart No. 3 Movement of S&P CNX NIFTY in the month of January 2010

This graph shows a declining trend, it proves that in the month of Janauary there existed a
bearish trend.
Chart No. 4 Change in the Portfolio Value in the month of January 2010
This graph also shows a declining trend, it proves that the bearish trend, in the month of
January had a negative effected the Portfolio Value.

Table No. 7
Profit/loss of unhedged portfolio as on 29th January 2009
Value of the portfolio as on 30th January 3555093.2

Less: Value of the portfolio as on 1st January 3933655.55
LOSS -378562.35
The above table shows value of the portfolio on the beginning and on the end of the
period. From this table it is clear that the closing value of the portfolio is less than the
opening value. The investor who holds this unhedged portfolio will suffer a loss of
Rs 378562.35
5.2.1 Analysis of hedging effectiveness

• Assumptions
There is no brokerage, plenty of liquidity in the market.
Table No. 8
BETAVALUE OF SECURITIES AS ON DECEMBER 2009
No. SCRIP CODE BETA β
1 BPCL 0.4
2 DLF 1.59
3 HINDUNILVR 0.35
4 INFOSYSTCH 0.68
5 ITC 0.6
6 LT 1.25
7 M&M 1.12
8 SAIL 1.38
9 SBIN 1.17
10 SUNPHARMA 0.54
Beta value of December 2009 is considered as, for calculating the Beta value of the
securities in the Hedging month is not possible. For calculating the Beta value the details
regarding the changes in the Index as well as the price variation of the securities of a
whole month is needed.
Beta value of December 2009 was taken from http://www.nseindia.com/
Table No.9

PROTFOLIO POSITION AS ON 4TH JANUARY 2009

BETA
SCRIP CODE BETA(β) QTY(Q) PRICE(P) AMT(P*Q) AMT(AMT*β)
BPCL 0.4 548 650.75 296358.4 142644.4
DLF 1.59 1129 364.6 376690.8 654497.106
5
HINDUNILVR 0.35 845 264.8 215728.5 78314.6
INFOSYSTCH 0.68 145 2612.6 361303.7 257602.36
5
ITC 0.6 1084 253.65 271162.6 164973.96
LT 1.25 297 1691.4 422883.4 627932.25
5
M&M 1.12 506 1129.85 514880.3 640308.6
SAIL 1.38 2052 247.6 440154 701143.776
SBIN 1.17 185 2291.2 380471 495930.24
SUNPHARMA 0.54 187 1507.35 275460.3 152212.203
5
TOTAL 6978 3555093. 3915559.4
2 95
The above table shows the beta value, quantity, price, amount invested and beta amount
of individual securities. This table also reveals the total beta value of the portfolio i.e.,
Rs. 3915559.495. This portfolio beta value is used for calculating the beta of the
portfolio.
Portfolio Beta amount = 3915559.495
Value of the portfolio = 3933655.55
Beta of the portfolio = Portfolio Beta amount

= 3915559.495
3933655.55
Beta of the portfolio (βp ) = .995

• The amount of Nifty to be sold for the purpose of Hedging
= Value of the Portfolio * Portfolio Beta
= 3933655.55* .995
= 3913987.272
• Number of Nifty to be sold for the purpose of Hedging
= Amount of Nifty to be sold

Closing Index as on 1st January
= 3913987.272
5232.2
= 748.05
• Number of Lot to be sold
= Number of Nifty to be sold

Market Lot
= 748.05 = 15 Lots
50
• Premium to be paid for buying Index PUT for the Strike price of 5100
Premium for the strike price 5100 = Rs. 70
• Total Premium to be paid for buying Index PUT =
Premium for the strike price 5100 * Number of lots to be sold * Current market lot
= 70*15*50
= Rs. 52500

Calculation of profit/ loss from the Hedged portfolio
• Return from the Hedged portfolio =

Strike Price as on the day of Hedge (4TH Jan 2010) - Closing Value of CNX Nifty Index (29th Jan
2010)
= 5100 – 4863 = 237
• Gross gain = 237 * 50*15 = Rs. 213300
• Less: premium paid on Index PUT for the Strike price of 5100 =
70*15*50 = 52500
• Net gain = 213300 – 52500 = Rs. 160800

Table No.10
Comparison of Profit/ Loss from Hedged & Unhedged portfolios 0n 29th January 2010
Positions Profit/ Loss

Hedged Portfolio Rs. 160800 (Profit)
Unhedged Portfolio Rs. 378562.35 (Loss)
The above comparison reveals that in the bearish market the unhedged portfolio gives a
loss of Rs. 378562.35. This table also explains that hedged portfolio gives a profit of Rs.
160800. From this comparison it can be concluded that even in a bearish market the
hedged portfolio holder can earn a profit.
Chart No. 5 Comparison of profit/ loss from Hedged & Unhedged portfolios
This graph show that hedged portfolio gives a positive return i.e. profit and unhedged
portfolio gives a negative returns i.e. loss. It also reveals that with the help of hedging the
investor can make profit even in the bearish market otherwise he will have loss. So it can
be concluded that hedging help to minimize the loss of the portfolio and also help to
make profit even in the bearish market.

5.3 Analysis of portfolio in bullish market
The month of June 2010 was a bullish market. On 1st June 2010 the market opened with
a Nifty Index of 5086.25 and in the 30th June the Nifty Index closed in 5312.50.
Chart No. 6 Fluctuation in Nifty Index in the month of June 2010
This graph shows the fluctuation of Nifty Index rates in the Opening Indexes from 1th
June 2010 to 30th June 2010. It is clear from the graph that the Nifty Index went up
226.25 points. This results indicates a Bullish Market in the month of June.

Table No.11
NUMBER OF SECURITIES AND ITS PRICE AS ON 1ST JUNE 2010
SCRIP PRICE(P) QUANTITY(Q)
BPCL 576.65 548

DLF 270.9 1129
HINDUNILVR 233.8 845
INFOSYSTCH 2624.35 145
ITC 283 1084
LT 1593.6 297
SAIL 198.6 2052
SBIN 2209.65 185
SUNPHARMA 1680.9 187
M&M 567.4 1012
TOTAL 7484
It is clear from the above table that the number of securities in the portfolio had increased
from 6978 to 7484, there had been an increase of 506 shares. This happened because the
number of securities of MAHINDRA &MAHINDRA Ltd. In the portfolio had doubled
from 506 to 1012, it is due to the stock split that happened in 29th March. At this time the
face value of the share was reduced from Rs.10 to Rs.5. The closing share price on 28th
March 2010 was Rs 1078.78 and on 29th March 2010 opening price was Rs. 546.2.

Table No.12
VALUE OF PROTFOLIO AS ON 1ST JUNE 2010
BPCL 576.65 548 316004.2

DLF 270.9 1129 305846.1
HINDUNILVR 233.8 845 197764
INFOSYSTCH 2624.35 145 380530.75
ITC 283 1084 306772
LT 1593.6 297 473299.2
M&M 567.4 1012 574208.8
SAIL 198.6 2052 407527.2
SBIN 2209.65 185 408785.25
SUNPHARMA 1680.9 187 314328.3
TOTAL 7484 3685065.8
It is clear from the table that the value of portfolio as on 1st June is Rs.1996782.85. It also
reveals the amount of money invested in each security, number of shares in each security

Table No. 13
VALUE OF PROTFOLIO AS ON 30TH JUNE 2010
BPCL 656.98 548 360025.04

DLF 285.43 1129 322250.47
HINDUNILVR 265.26 845 224144.7
INFOSYSTCH 2800 145 406000
ITC 302.6 1084 328018.4
LT 1802.99 297 535488.03
M&M 621.81 1012 629271.72
SAIL 196.23 2052 402663.96
SBIN 2300.08 185 425514.8
SUNPHARMA 1773.3 187 331607.1
TOTAL 7484 3964984.2
This table shows that value of the portfolio as on 30th June 2010 was Rs. 3964984.2. There
is increase of prices in all the securities as compared to the price as on 1 st June, except
for Steel Authority of India Ltd , the price of the share got reduced from Rs.198.6 to Rs.
196.23.
Table No. 14

CHANGE IN PROTFOLIO VALUE WITH THE CHANGE IN NIFTY INDEX
Date INDEX PORTFOLIO

MOVEMENTENT VALUE
1-Jun-10 5086.25 3684862.8
2-Jun-10 5019.85 3724555.5
3-Jun-10 5110.5 3783789.75
4-Jun-10 5135.5 3813304.75
7-Jun-10 5034 3729133.2
8-Jun-10 4987.1 3686816.4
9-Jun-10 5000.3 3690255.5
10-Jun-10 5078.6 3750193.7
11-Jun-10 5119.35 3758502.4
14-Jun-10 5197.7 3823282.95
15-Jun-10 5222.35 3827422.1
16-Jun-10 5233.35 3848863.95
17-Jun-10 5274.85 3875034.35
18-Jun-10 5262.6 3868366.75
21-Jun-10 5353.3 3938517.35
22-Jun-10 5316.55 3932045.95
23-Jun-10 5323.15 3940015.1
24-Jun-10 5320.6 3952224.4
25-Jun-10 5269.05 3922041.95
28-Jun-10 5333.5 3968840.9
29-Jun-10 5256.15 3921552.55
30-Jun-10 5312.5 3978195.85
The above table shows the change in portfolio value along with the change in Nifty Index
for the month June 2010. The changes shows a proportional relationship between the
Nifty Index and Portfolio Value
Chart No. 7 Movement of S&P CNX NIFTY in the month of June 2010

This graph shows a upward trend, it proves that in the month of June there existed a
bullish trend.
Chart No. 8 Change in the Portfolio Value in the month of January 2010
This graph also shows a upward trend, it proves that the bullish trend, in the month of
June had positively affected the Portfolio Value.

Table No. 14
Profit/loss of unhedged portfolio as on 30th June 2010
Value of the portfolio as on 30th January 3964984.2

st
Less: Value of the portfolio as on 1 January 3685065.8
PROFIT 279918.4
The above table shows value of the portfolio on the beginning and on the end of the
period. From this table it is clear that the closing value of the portfolio is less than the
opening value. The investor who holds this unhedged portfolio will get a profit of
Rs 279918.4
5.3.1 Analysis of hedging effectiveness
• Assumptions

There is no brokerage, plenty of liquidity in the market.
Table No. 15
BETAVALUE OF SECURITIES AS ON MAY 2010
No. SCRIP CODE BETA β
1 BPCL 0.25
2 DLF 1.74
3 HINDUNILVR 0.43
4 INFOSYSTCH 0.65
5 ITC 0.67
6 LT 1.1
7 M&M 1.22
8 SAIL 1.38
9 SBIN 1.13
10 SUNPHARMA 0.33
Beta value of May 2010 is considered as, for calculating the Beta value of the securities
in the Hedging month is not possible. For calculating the Beta value the details regarding
the changes in the Index as well as the price variation of the securities of a whole month
is needed.
Beta value of May 2010 was taken from http://www.nseindia.com/

Table No.16
PROTFOLIO POSITION AS ON 1TH JUNE 2010

BETA
SCRIP CODE BETA(β) QTY(Q) PRICE(P) AMT(P*Q) AMT(AMT*β)
BPCL 0.25 548 576.65 316004.2 79001.05
DLF 1.74 1129 270.9 305846.1 532172.2
HINDUNILVR 0.43 845 233.8 197764 84951.23
INFOSYSTCH 0.65 145 2624.35 380530.75 247345
ITC 0.67 1084 283 306772 205537.2
LT 1.1 297 1593.6 473299.2 520629.1
M&M 1.22 1012 567.4 574208.8 497183.2
SAIL 1.38 2052 198.6 407527.2 564123.6
SBIN 1.13 185 2209.65 408785.25 355191
SUNPHARMA 0.33 187 1680.9 314328.3 189488.9
TOTAL 7484 3685065.8 3275623
The above table shows the beta value, quantity, price, amount invested and beta amount
of individual securities. This table also reveals the total beta value of the portfolio i.e.,
Rs. 3275623. This portfolio beta value is used for calculating the beta of the portfolio.
Portfolio Beta amount = 3275623
Value of the portfolio = 3685065.8

Beta of the portfolio = Portfolio Beta amount
= 3275623
3685065.8
Beta of the portfolio (βp ) = .888
• The amount of Nifty to be sold for the purpose of Hedging
= Value of the Portfolio * Portfolio Beta

= 3685065.8* .888
= 3272338.4304
• Number of Nifty to be sold for the purpose of Hedging
= Amount of Nifty to be sold

Closing Index as on 1st January
= 3272338.4304
4970
= 658.41
• Number of Lot to be sold
= Number of Nifty to be sold

Market Lot
= 658.41 = 13 Lots
50
• Premium to be paid for buying Index PUT for the Strike price of 4900
Premium for the strike price 4900 = Rs. 120
• Total Premium to be paid for buying Index PUT =
Premium for the strike price 4900 * Number of lots to be sold * Current market lot
= 120*13*50
= Rs. 78000
Calculation of profit/ loss from the Hedged portfolio

• Return from the Hedged portfolio =

Strike Price as on the day of Hedge (1TH Jun 2010) - Closing Value of CNX Nifty Index (30th Jun
2010)
= 4900 – 5312 = -412
• The closing value of the CNX Nifty Index is more than the Strike Price so the
investor can make use of the portfolio profit. Then the only loss is the amount of
premium paid for buying the Put Index Option.
• Profit from the portfolio = 279918.4
• Less: premium paid on Index PUT for the Strike price of 4900 =
120*13*50 = 78000
• Net gain = 279918.4 – 78000 = Rs. 201918.4
Table No.17

Comparison of profit/ loss from Hedged & Unhedged portfolios as on 30 th JUNE

2010
Positions Profit/ Loss

Hedged Portfolio 201918.4( Profit)
Unhedged Portfolio 279918.4 (Profit)
The above table reveals that the hedged portfolio gives a lesser profit than the unhedged
one. Profit from the hedged portfolio was Rs. 201918.4 and profit from unhedged
portfolio was Rs. 279918.4.
Chart No. 9 Comparison of profit/ loss from Hedged & Unhedged portfolios
From this graph it is clear that the return from the unhedged portfolio is higher that the
hedged one. So it can be concluded that in the rising market the profit which can be
earned from hedged portfolio will always less than the unhedged one as the investor have
to pay premium for buying the put option.

Findings

6.1 Findings
Based on the research work the following things have been found out by the researcher.
• With the help of hedging the investor can reduce the risk of portfolio.
The study reveals that with the help of hedging even in the bearish market the
investors are in a position to get profit. During the research it was found out that the
Hedging does not always make profit. The best that can be achieved using hedging is
the reduction of unwanted exposure. i.e., unnecessary risk.
• In the bullish market Put Option is less effective.

Put Option is the right to sell the underlying at a certain price in future. If the market
is in a bullish trend the investor can exercise this right only at a lesser price than the
current market price. If he exercises this right it will be a lesser profit than the usual
portfolio.
• The investor can sell the Call Option when the Index falls.
If the market is in a bullish trend the investor who holds a Put Option can sell the Put
option to any other party. In this way the investor can get back the premium paid by
him.
• In the case of bearish market Put Option is more effective.

This study reveals that in a bearish market Put Option gives a profit otherwise it will
be a loss. The investor who holds a Put Option can make use of the portfolio profit
when the market is in bullish trend.

6.2 Suggestions
An investor can make a combination of cash market and derivatives to minimize loss and
maximize profits. The various suggestions about investment in the cash market and
derivatives are listed below. These suggestions are strictly based on the analysis done.
• Higher the beta value higher will be the risk, in this context hedging suggested.
• Options protect the portfolio by paying small premium amount.
• Put option is more effective in bearish market. If the market is in a bullish trend,
the Put Option holder can sell the right to another party.
• At the time of bullish trend in Index Call Option is more effective. If the market is
in a bearish trend the Call Option holder can sell the right to another party.
• Speculation helps the investor to gain at the time bearish and bullish Index

6.3 Conclusion.
Developments in derivative markets are still in a nascent stage and there is a great scope
for further developments. But there are serious doubts about stable developments as
Indian markets are still very narrow, shallow and rely more on the mercy of manipulators
and speculators. In order to achieve good derivative market operations regulators and
exchanges in consultation with market participants should come up with necessary
regulatory changes which are friendly to all. Apart from this, what is more required is
that the players should have a strong financial base to deal in derivative contracts, proper
capital adequacy norms, training of financial intermediaries and brokers. Well developed
indices are some other areas which need attention. International experiences have
popularized these products. India has just began its voyage in the derivative arena and
one hope that it will out perform the other markets in the years to come.
Even though derivative market is relatively new in our country, it is attracting many
investors. The result of derivative trading is fantastic because of a simple reason; it is
flexible. The flexibility of derivatives can be learnt from the fact that the investors who
need to hedge their funds can use it and also the investors who want to increase returns
can use it.

BIBLIOGRAPHY
Books
• Fisher E Donld and Jordan J Ronald, “Security Analysis and Portfolio
Management” Prentice Hall India Pvt. Ltd., New Delhi, 6th edition.
• Kevin S, “Portfolio Management” Prentice Hall India Pvt. Ltd., New Delhi, 7th
edition.
• Pandey I.M, “Financial Management”, Vikas Publication House, New Delhi,
2004
• Pandian Punithavathy, “Security Analysis and Portfolio Management” Vikas

Publishing House Pvt. Ltd., New Delhi, 2nd edition, 2000.
Business Dailies
• Economic Times, May-July 20010
• Business Line, May-July 20010
Websites
• www.capitaline.com
• www.bseindia.com
• www.nseindia.com
• www.equitymaster.com/portfolio/index.asp
• www.equitymaster.com/detail.asp

Portfolio as on 4th January 2010

BPCL 650.75 548 356611
DLF 364.6 1129 411633.4

HINDUNILVR 264.8 845 223756
INFOSYSTCH 2612.6 145 378827
ITC 253.65 1084 274956.6
LT 1691.4 297 502345.8

M&M 1129.85 506 571704.1
SAIL 247.6 2052 508075.2
SBIN 2291.2 185 423872

SUNPHARMA 1507.35 187 281874.45
TOTAL 6978 3933655.55

BPCL 640.95 548 351240.6

DLF 369.45 1129 417109.05

HINDUNILVR 264.7 845 223671.5
INFOSYSTCH 2621.35 145 380095.75
ITC 256.15 1084 277666.6
LT 1694.4 297 503236.8
M&M 1150.65 506 582228.9
SAIL 254.55 2052 522336.6

SBIN 2292.05 185 424029.25
SUNPHARMA 1552.65 187 290345.55
TOTAL 6978 3971960.6

BPCL 631.3 548 345952.4
DLF 378 1129 426762
HINDUNILVR 263.8 845 222911

INFOSYSTCH 2583.1 145 374549.5
ITC 256.75 1084 278317
LT 1675.65 297 497668.05
M&M 1178.85 506 596498.1
SAIL 248.35 2052 509614.2

SBIN 2305.8 185 426573
SUNPHARMA 1572.8 187 294113.6
TOTAL 6978 3972958.85

BPCL 619.05 548 339239.4
DLF 374.5 1129 422810.5

HINDUNILVR 265 845 223925

INFOSYSTCH 2525.05 145 366132.25
ITC 255.95 1084 277449.8

LT 1667.6 297 495277.2
M&M 1155.8 506 584834.8
SAIL 241.6 2052 495763.2
SBIN 2292.9 185 424186.5
SUNPHARMA 1548.85 187 289634.95
TOTAL 6978 3919253.6

BPCL 629.55 548 344993.4
DLF 389.9 1129 440197.1
INFOSYSTCH 2464.2 145 357309

ITC 256.5 1084 278046
LT 1678.15 297 498410.55
M&M 1155.9 506 584885.4
SAIL 238.85 2052 490120.2
SBIN 2286.05 185 422919.25

SUNPHARMA 1574.95 187 294515.65
TOTAL 6978 3934476.55

BPCL 627.9 548 344089.2
DLF 399.45 1129 450979.05

INFOSYSTCH 2489.65 145 360999.25

ITC 256.6 1084 278154.4
LT 1677.3 297 498158.1

M&M 1159.2 506 586555.2
SAIL 242.1 2052 496789.2
SBIN 2267.2 185 419432
SUNPHARMA 1574.7 187 294468.9
TOTAL 6978 3953550.3

BPCL 627.55 548 343897.4
DLF 383.95 1129 433479.55
INFOSYSTCH 2586.95 145 375107.75
ITC 250.05 1084 271054.2
LT 1679.25 297 498737.25

M&M 1192.2 506 603253.2
SAIL 234.05 2052 480270.6
SBIN 2203.2 185 407592
SUNPHARMA 1571.8 187 293926.6

TOTAL 6978 3932088.55

BPCL 629.8 548 345130.4
DLF 387.85 1129 437882.65
HINDUNILVR 262.1 845 221474.5
INFOSYSTCH 2683.5 145 389107.5

ITC 248.95 1084 269861.8
LT 1673.2 297 496940.4

M&M 1153.6 506 583721.6
SAIL 241.6 2052 495763.2
SBIN 2175.9 185 402541.5
SUNPHARMA 1547.8 187 289438.6
TOTAL 6978 3931862.15

BPCL 625.8 548 342938.4
DLF 383.3 1129 432745.7
HINDUNILVR 262.5 845 221812.5
INFOSYSTCH 2689.75 145 390013.75

ITC 248.15 1084 268994.6
LT 1668.4 297 495514.8
M&M 1171.65 506 592854.9
SAIL 240.85 2052 494224.2

SBIN 2157.35 185 399109.75
SUNPHARMA 1559.5 187 291626.5
TOTAL 6978 3929835.1

BPCL 617.35 548 338307.8
DLF 386.3 1129 436132.7
INFOSYSTCH 2675.8 145 387991

ITC 252.75 1084 273981

LT 1651.2 297 490406.4
M&M 1157.2 506 585543.2
SAIL 237.3 2052 486939.6

SBIN 2143.35 185 396519.75
SUNPHARMA 1525.1 187 285193.7
TOTAL 6978 3897335.15

BPCL 618.4 548 338883.2
DLF 397.3 1129 448551.7

HINDUNILVR 256.4 845 216658
INFOSYSTCH 2686.65 145 389564.25
ITC 250.55 1084 271596.2
LT 1654.75 297 491460.75
M&M 1183.65 506 598926.9
SAIL 234.85 2052 481912.2
SBIN 2156.4 185 398934

SUNPHARMA 1516.45 187 283576.15
TOTAL 6978 3920063.35

BPCL 605.6 548 331868.8
DLF 379.7 1129 428681.3
INFOSYSTCH 2635.9 145 382205.5
ITC 249.9 1084 270891.6

LT 1642.5 297 487822.5

M&M 1159.6 506 586757.6
SAIL 233.45 2052 479039.4
SBIN 2173.1 185 402023.5
SUNPHARMA 1485.9 187 277863.3
TOTAL 6978 3864318.5

BPCL 577.5 548 316470
DLF 373.7 1129 421907.3
HINDUNILVR 255.4 845 215813
INFOSYSTCH 2657.7 145 385366.5
ITC 247.1 1084 267856.4
LT 1635.95 297 485877.15

M&M 1145.45 506 579597.7
SAIL 238.3 2052 488991.6
SBIN 2159.85 185 399572.25
SUNPHARMA 1473.35 187 275516.45
TOTAL 6978 3836968.35
Portfolio as on 21st January 2010

BPCL 573.25 548 314141
DLF 363.55 1129 410447.95
HINDUNILVR 257.8 845 217841
INFOSYSTCH 2625.2 145 380654
ITC 244.5 1084 265038

LT 1524.1 297 452657.7

M&M 1144.85 506 579294.1
SAIL 233.05 2052 478218.6

SBIN 2124.1 185 392958.5
SUNPHARMA 1464.85 187 273926.95
TOTAL 6978 3765177.8
Portfolio as on 22nd January 2010

BPCL 575.75 548 315511
DLF 352.75 1129 398254.75
INFOSYSTCH 2575.6 145 373462
ITC 253.65 1084 274956.6

LT 1471.7 297 437094.9
M&M 1133.1 506 573348.6
SAIL 225.6 2052 462931.2
SBIN 2087.35 185 386159.75
SUNPHARMA 1432 187 267784
TOTAL 6978 3705822.8

BPCL 569.7 548 312195.6
DLF 344.15 1129 388545.35
INFOSYSTCH 2542.3 145 368633.5

ITC 255.1 1084 276528.4
LT 1490.45 297 442663.65

M&M 1071.25 506 542052.5

SAIL 223.45 2052 458519.4
SBIN 2091.6 185 386946
SUNPHARMA 1444.5 187 270121.5

TOTAL 6978 3663370.9

BPCL 554.45 548 303838.6
DLF 317.15 1129 358062.35
HINDUNILVR 263.9 845 222995.5
INFOSYSTCH 2502.25 145 362826.25
ITC 255.9 1084 277395.6
LT 1458.05 297 433040.85
M&M 1010.9 506 511515.4

SAIL 215.85 2052 442924.2
SBIN 1987.65 185 367715.25
SUNPHARMA 1421 187 265727
TOTAL 6978 3546041

BPCL 542.5 548 297290
DLF 324.3 1129 366134.7

HINDUNILVR 259.3 845 219108.5
INFOSYSTCH 2502.25 145 362826.25

ITC 254.25 1084 275607
LT 1431.5 297 425155.5

M&M 1022.3 506 517283.8
SAIL 218.95 2052 449285.4
SBIN 2003.25 185 370601.25
SUNPHARMA 1446.2 187 270439.4

TOTAL 6978 3553731.8

BPCL 540.8 548 296358.4
DLF 333.65 1129 376690.85
HINDUNILVR 255.3 845 215728.5
INFOSYSTCH 2491.75 145 361303.75
ITC 250.15 1084 271162.6

LT 1423.85 297 422883.45
M&M 1017.55 506 514880.3
SAIL 214.5 2052 440154
SBIN 2056.6 185 380471
SUNPHARMA 1473.05 187 275460.35
TOTAL 6978 3555093.2

Portfolio as on 1st June 2010

BPCL 576.65 548 316004.2
DLF 270.9 1129 305846.1
HINDUNILVR 233.8 845 197561
INFOSYSTCH 2624.35 145 380530.75
ITC 283 1084 306772

LT 1593.6 297 473299.2
M&M 567.4 1012 574208.8
SAIL 198.6 2052 407527.2
SBIN 2209.65 185 408785.25
SUNPHARMA 1680.9 187 314328.3
TOTAL 7484 3684862.8
Portfolio as on 2nd June 2010

BPCL 575.45 548 315346.6
DLF 273.2 1129 308442.8
HINDUNILVR 237.75 845 200898.75
INFOSYSTCH 2640.25 145 382836.25
ITC 281.3 1084 304929.2
LT 1631.55 297 484570.35
M&M 574.55 1012 581444.6
SAIL 201.6 2052 413683.2
SBIN 2258.25 185 417776.25

SUNPHARMA 1682.5 187 314627.5

TOTAL 7484 3724555.5
Portfolio as on 3rd June 2010

BPCL 579.9 548 317785.2
DLF 278.35 1129 314257.15
HINDUNILVR 247.05 845 208757.25
INFOSYSTCH 2698 145 391210
ITC 285.5 1084 309482
LT 1666.75 297 495024.75
M&M 582.95 1012 589945.4
SAIL 202.6 2052 415735.2
SBIN 2287.3 185 423150.5
SUNPHARMA 1702.9 187 318442.3
TOTAL 7484 3783789.75
Portfolio as on 4th June 2010

BPCL 579.8 548 317730.4
DLF 281.75 1129 318095.75
HINDUNILVR 251.7 845 212686.5
INFOSYSTCH 2728.95 145 395697.75
ITC 290.85 1084 315281.4
LT 1672 297 496584
M&M 585.2 1012 592222.4
SAIL 201.35 2052 413170.2
SBIN 2340.75 185 433038.75
SUNPHARMA 1704.8 187 318797.6

TOTAL 7484 3813304.75

BPCL 563.5 548 308798
DLF 263.9 1129 297943.1
HINDUNILVR 251.05 845 212137.25
INFOSYSTCH 2671.65 145 387389.25
ITC 287.7 1084 311866.8
LT 1640.2 297 487139.4
M&M 580.25 1012 587213
SAIL 193.35 2052 396754.2
SBIN 2286.75 185 423048.75
SUNPHARMA 1694.35 187 316843.45
TOTAL 7484 3729133.2

BPCL 543.75 548 297975
DLF 257.3 1129 290491.7
HINDUNILVR 251.4 845 212433
INFOSYSTCH 2654.5 145 384902.5
ITC 289.7 1084 314034.8
LT 1627.4 297 483337.8
M&M 570.75 1012 577599
SAIL 189.1 2052 388033.2
SBIN 2283.8 185 422503
SUNPHARMA 1687.2 187 315506.4
TOTAL 7484 3686816.4


BPCL 552.75 548 302907
DLF 258.2 1129 291507.8
HINDUNILVR 249.55 845 210869.75
INFOSYSTCH 2624.95 145 380617.75
ITC 277.6 1084 300918.4
LT 1642.75 297 487896.75
M&M 578.35 1012 585290.2
SAIL 192.2 2052 394394.4
SBIN 2272.5 185 420412.5
SUNPHARMA 1686.85 187 315440.95
TOTAL 7484 3690255.5

BPCL 551 548 301948
DLF 262.75 1129 296644.75
INFOSYSTCH 2645.55 145 383604.75
ITC 280.05 1084 303574.2
LT 1672.4 297 496702.8
M&M 592.75 1012 599863
SAIL 197.9 2052 406090.8
SBIN 2326.85 185 430467.25
SUNPHARMA 1702.45 187 318358.15
TOTAL 7484 3750193.7


BPCL 541 548 296468
DLF 262.4 1129 296249.6
HINDUNILVR 252.75 845 213573.75
INFOSYSTCH 2630.75 145 381458.75
ITC 281.55 1084 305200.2
LT 1677.05 297 498083.85
M&M 606.7 1012 613980.4
SAIL 197.85 2052 405988.2
SBIN 2339.9 185 432881.5
SUNPHARMA 1682.45 187 314618.15
TOTAL 7484 3758502.4

BPCL 563.15 548 308606.2
DLF 264.4 1129 298507.6
HINDUNILVR 255.45 845 215855.25
INFOSYSTCH 2746.4 145 398228
ITC 286.1 1084 310132.4
LT 1703.9 297 506058.3
M&M 615.7 1012 623088.4
SAIL 200.15 2052 410707.8
SBIN 2345 185 433825
SUNPHARMA 1702 187 318274
TOTAL 7484 3823282.95


BPCL 530.6 548 290768.8
DLF 272.5 1129 307652.5
HINDUNILVR 260.15 845 219826.75
INFOSYSTCH 2734.7 145 396531.5
ITC 291.7 1084 316202.8
LT 1724.45 297 512161.65
M&M 608.15 1012 615447.8
SAIL 201.4 2052 413272.8
SBIN 2364.2 185 437377
SUNPHARMA 1701.5 187 318180.5
TOTAL 7484 3827422.1

BPCL 534.3 548 292796.4
DLF 277.55 1129 313353.95
HINDUNILVR 255.9 845 216235.5
INFOSYSTCH 2769.4 145 401563
ITC 290.9 1084 315335.6
LT 1721.2 297 511196.4
M&M 629.3 1012 636851.6
SAIL 197.95 2052 406193.4
SBIN 2361.7 185 436914.5
SUNPHARMA 1702.8 187 318423.6
TOTAL 7484 3848863.95


BPCL 535.4 548 293399.2
DLF 283 1129 319507
INFOSYSTCH 2764.85 145 400903.25
ITC 293.9 1084 318587.6
LT 1777 297 527769
M&M 634.7 1012 642316.4
SAIL 197.95 2052 406193.4
SBIN 2350.85 185 434907.25
SUNPHARMA 1698.75 187 317666.25
TOTAL 7484 3875034.35

BPCL 521.7 548 285891.6
DLF 282.65 1129 319111.85
HINDUNILVR 257.75 845 217798.75
INFOSYSTCH 2786.2 145 403999
ITC 294.9 1084 319671.6
LT 1798.5 297 534154.5
M&M 619.2 1012 626630.4
SAIL 195.8 2052 401781.6
SBIN 2372.6 185 438931
SUNPHARMA 1713.35 187 320396.45
TOTAL 7484 3868366.75

Portfolio as on 21st June 2010

BPCL 526.55 548 288549.4
DLF 290.15 1129 327579.35
HINDUNILVR 258.75 845 218643.75
INFOSYSTCH 2800.8 145 406116
ITC 299.1 1084 324224.4
LT 1836.35 297 545395.95
M&M 636.95 1012 644593.4
SAIL 201.55 2052 413580.6
SBIN 2387.8 185 441743
SUNPHARMA 1754.5 187 328091.5
TOTAL 7484 3938517.35
Portfolio as on 22nd June 2010

BPCL 550.15 548 301482.2
DLF 288.25 1129 325434.25
HINDUNILVR 261.75 845 221178.75
INFOSYSTCH 2767.1 145 401229.5
ITC 301.8 1084 327151.2
LT 1825.15 297 542069.55
M&M 633.15 1012 640747.8
SAIL 198.7 2052 407732.4
SBIN 2354.55 185 435591.75
SUNPHARMA 1761.65 187 329428.55
TOTAL 7484 3932045.95

Portfolio as on 23rd June 2010

BPCL 558.8 548 306222.4
DLF 291.8 1129 329442.2
HINDUNILVR 266.2 845 224939
INFOSYSTCH 2797.75 145 405673.75
ITC 302.85 1084 328289.4
LT 1765.05 297 524219.85
M&M 630.9 1012 638470.8
SAIL 200.6 2052 411631.2
SBIN 2349.55 185 434666.75
SUNPHARMA 1799.25 187 336459.75
TOTAL 7484 3940015.1

BPCL 550.75 548 301811
DLF 289.2 1129 326506.8
HINDUNILVR 270.9 845 228910.5
INFOSYSTCH 2822.7 145 409291.5
ITC 305.75 1084 331433
LT 1791.65 297 532120.05
M&M 632.05 1012 639634.6
SAIL 198.8 2052 407937.6
SBIN 2357.55 185 436146.75
SUNPHARMA 1809.8 187 338432.6
TOTAL 7484 3952224.4


BPCL 620.7 548 340143.6
DLF 286.15 1129 323063.35
HINDUNILVR 266.25 845 224981.25
INFOSYSTCH 2777.7 145 402766.5
ITC 301.45 1084 326771.8
LT 1759.1 297 522452.7
M&M 613.35 1012 620710.2
SAIL 195.25 2052 400653
SBIN 2300.8 185 425648
SUNPHARMA 1790.65 187 334851.55
TOTAL 7484 3922041.95

BPCL 642.5 548 352090
DLF 291.75 1129 329385.75
HINDUNILVR 266.75 845 225403.75
INFOSYSTCH 2809 145 407305
ITC 297.65 1084 322652.6
LT 1792.9 297 532491.3
M&M 622.85 1012 630324.2
SAIL 198.9 2052 408142.8
SBIN 2303.65 185 426175.25
SUNPHARMA 1790.75 187 334870.25
TOTAL 7484 3968840.9


BPCL 635.25 548 348117
DLF 285.25 1129 322047.25
HINDUNILVR 262.65 845 221939.25
INFOSYSTCH 2793.55 145 405064.75
ITC 296.35 1084 321243.4
LT 1796.8 297 533649.6
M&M 613.9 1012 621266.8
SAIL 192.9 2052 395830.8
SBIN 2291.15 185 423862.75
SUNPHARMA 1756.85 187 328530.95
TOTAL 7484 3921552.55

BPCL 662.75 548 363187
DLF 288.65 1129 325885.85
HINDUNILVR 267.55 845 226079.75
INFOSYSTCH 2791 145 404695
ITC 305.45 1084 331107.8
LT 1808.95 297 537258.15
M&M 627.35 1012 634878.2
SAIL 192.7 2052 395420.4
SBIN 2302 185 425870
SUNPHARMA 1785.1 187 333813.7
TOTAL 7484 3978195.85

Hedging With Option Strategy

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COCHIN STOCK EXCHANGE LTD

“A Study on Hedging with Index Options using

UNDER THE GUIDANCE OF

Berchmans Institute of Management Studies, Changanacherry 2008-2010 1

Berchmans Institute of Management Studies, Changanacherry 2008-2010 2

Capital market plays as important role in the economic development a country. It is a

Risk is a characteristic feature of all commodity and capital markets. Investing in

Berchmans Institute of Management Studies, Changanacherry 2008-2010 3

Derivatives treated as one of the remarkable developments in the financial markets.

Berchmans Institute of Management Studies, Changanacherry 2008-2010 4

1.2 Statement of the Problem

An investor is able to make money expecting the market or a particular stock to go up or

Berchmans Institute of Management Studies, Changanacherry 2008-2010 5

• To have an understanding about the derivative market and instruments.

Berchmans Institute of Management Studies, Changanacherry 2008-2010 6

Berchmans Institute of Management Studies, Changanacherry 2008-2010 7

2.1 Industry Profile

2.1.1 New issue market (Primary market)

Berchmans Institute of Management Studies, Changanacherry 2008-2010 8

2.1.2 Secondary market

Berchmans Institute of Management Studies, Changanacherry 2008-2010 9

Functions of Stock exchange

1. Maintains Active Trading

2. Mobilizing savings for Investment

3. Facilitating company growth

5. Creating investment opportunities for small investors

Berchmans Institute of Management Studies, Changanacherry 2008-2010 10

6. Barometer of the economy

7. Ensures safe fair dealing

2.1.3 National Stock Exchange (NSE)

Berchmans Institute of Management Studies, Changanacherry 2008-2010 11

There are two kinds of players in NSE:

2.1.4 Over The Counter Exchange of India (OTCEI)

Berchmans Institute of Management Studies, Changanacherry 2008-2010 12

2.1.5 Bombay Stock Exchange (BSE)

Berchmans Institute of Management Studies, Changanacherry 2008-2010 13

Berchmans Institute of Management Studies, Changanacherry 2008-2010 14

2.2.1 Cochin Stock Exchange (CSE)

Berchmans Institute of Management Studies, Changanacherry 2008-2010 15

2.2.2 Organization structure of CSE.

Legal Systems CDSL Settlement Surveillance

Listing Marketing & Finance

2.2.3 Legal framework of the organization

Berchmans Institute of Management Studies, Changanacherry 2008-2010 16

2.2.4 Membership profile

2.2.5 Management of Cochin Stock Exchange

Berchmans Institute of Management Studies, Changanacherry 2008-2010 17

2.2.7 Products & Services

The subsidiary offers a wide range of products and services.

2.2.8 Departmental profile

Berchmans Institute of Management Studies, Changanacherry 2008-2010 18

Berchmans Institute of Management Studies, Changanacherry 2008-2010 19

Berchmans Institute of Management Studies, Changanacherry 2008-2010 20

Berchmans Institute of Management Studies, Changanacherry 2008-2010 21

Berchmans Institute of Management Studies, Changanacherry 2008-2010 22

3.1.1 Definition of Derivatives

Berchmans Institute of Management Studies, Changanacherry 2008-2010 23

Derivative is a product whose value is derived from the value of

Derivatives - contracts that gamble on the future prices of assets—

a. “Security derived from a debt instrument, share loan whether secured or

unsecured, risk instrument or contract for difference or any other from of

Berchmans Institute of Management Studies, Changanacherry 2008-2010 24

3.1.2 Types of Derivatives instruments