SENSEX - The Barometer of Indian Capital Markets

Introduction
SENSEX, first compiled in 1986, was calculated on a "Market Capitalization-Weighted" methodology of 30 component stocks representing large, well-established and financially sound companies across key sectors. The base year of SENSEX was taken as 1978-79. SENSEX today is widely reported in both domestic and international markets through print as well as electronic media. It is scientifically designed and is based on globally accepted construction and review methodology. Since September 1, 2003, SENSEX is being calculated on a free-float market capitalization methodology. The "free-float market capitalization-weighted" methodology is a widely followed index construction methodology on which majority of global equity indices are based; all major index providers like MSCI, FTSE, STOXX, S&P and Dow Jones use the free-float methodology. The growth of the equity market in India has been phenomenal in the present decade. Right from early nineties, the stock market witnessed heightened activity in terms of various bull and bear runs. In the late nineties, the Indian market witnessed a huge frenzy in the 'TMT' sectors. More recently, real estate caught the fancy of the investors. SENSEX has captured all these happenings in the most judicious manner. One can identify the booms and busts of the Indian equity market through SENSEX. As the oldest index in the country, it provides the time series data over a fairly long period of time (from 1979 onwards). Small wonder, the SENSEX has become one of the most prominent brands in the country. Index Specification: Base Year 1978-79 Base Index Value Date of Launch 100

01-01-1986

Method of Launched on full market capitalization method calculation method shifted to freecalculation float market capitalization Number of 30 scrips

SENSEX Calculation Methodology SENSEX is calculated using the "Free-float Market Capitalization" methodology, wherein, the level of index at any point of time reflects the free-float market value of 30 component stocks relative to a base period. The market capitalization of a company is determined by multiplying the price of its stock by the number of shares issued by the company. This market capitalization is further multiplied by the freefloat factor to determine the free-float market capitalization. The base period of SENSEX is 1978-79 and the base value is 100 index points. This is often indicated by the notation 1978-79=100. The calculation of SENSEX involves dividing the free-float market capitalization of 30 companies in the Index by a number called the Index Divisor. The Divisor is the only link to the original base period value of the SENSEX. It keeps the Index comparable over time and is the adjustment point for all Index adjustments arising out of corporate actions, replacement of scrips etc. During market hours, prices of the index scrips, at which latest trades are executed, are used by the trading system to calculate SENSEX on a continuous basis.

SENSEX - Scrip Selection Criteria

1. Equities of companies listed on Bombay Stock Exchange Ltd. (excluding companies classified in Z group, listed mutual funds, scrips suspended on the last day of the month prior to review date, scrips objected by the Surveillance department of the Exchange and those that are traded under permitted category) shall be considered eligible Listing History: The scrip should have a listing history of at least three months at BSE. An exception may be granted to one month, if the average free-float market capitalization of a newly listed company ranks in the top 10 of all companies listed at BSE. In the event that a company is listed on account of a merger / demerger / amalgamation, a minimum listing history is not required. The scrip should have been traded on each and every trading day in the last three months at BSE. Exceptions can be made for extreme reasons like scrip suspension etc. Companies that have reported revenue in the latest four quarters from its core activity are considered eligible. From the list of constituents selected through Steps 1-4, the top 75 companies based on free-float market capitalisation (avg. 3 months) are selected as well as any additional companies that are in the top 75 based on full market capitalization (avg. 3 months). The filtered list of constituents selected through Step 5 (which can be greater than 75 companies) is then ranked on absolute turnover (avg. 3 months). Any company in the filtered, sorted list created in Step 6 that has Cumulative Turnover of >98%, are excluded, so long as the remaining list has more than 30 scrips. The filtered list calculated in Step 7 is then sorted by free float market capitalization. Any company having a weight within this filtered constituent list of <0.50% shall be excluded All remaining companies will be sorted on sector and sub-sorted in the descending order of rank on freefloat market capitalization.

2.

3.

4.

5.

6.

7.

8.

9.

10. Industry/Sector Representation: Scrip selection will generally attempt to maintain index sectoral weights that are broadly in-line with the overall market. 11. Track Record: In the opinion of the BSE Index Committee, all companies included within the SENSEX should have an acceptable track record.

Note: If an existing constituent is traded under the ex-entitlement basis it will be excluded from all BSE Indices. This is done because during this period BSE is unable to ascertain the valuation of the constituent and valuation of a constituent is required for Index Calculation. Upon relisting or from ex-entitlement, the company becomes part of the regular stock universe that can be considered for inclusion in the Index.

Index Calculation & Maintenance

Formula for Calculation of Index All BSE indices (except BSE-PSU index) are calculated using following formula: Free-float market capitalization of index constituents/ Base Market capitalization * Base Index Value .

Index Closure Algorithm The closing index value on any trading day is computed taking the weighted average of all the trades of index constituents in the last 30 minutes of trading session. If an index constituent has not traded in the last 30 minutes, the last traded price is taken for computation of the index closure. If an index constituent has not traded at all in a day, then its last day's closing price is taken for computation of index closure. The use of index closure algorithm prevents any intentional manipulation of the closing index value. Maintenance of BSE Indices One of the important aspects of maintaining continuity with the past is to update the base year average. The base year value adjustment ensures that replacement of stocks in Index, additional issue of capital and other corporate announcements like 'rights issue' etc. do not destroy the historical value of the index. The beauty of maintenance lies in the fact that adjustments for corporate actions in the Index should not per se affect the index values. On - Line Computation of the Index During trading hours, value of the indices is calculated and disseminated on real time basis. This is done automatically on the basis of prices at which trades in index constituents are executed. Adjustment for Bonus, Rights and Newly Issued Capital Index calculation needs to be adjusted for issue of bonus and rights issue. If no adjustments were made, a discontinuity would arise between the current value of the index and its previous value despite the non-occurrence of any economic activity of substance. At the BSE Index Cell, the base value is adjusted, which is used to alter market capitalization of the component stocks to arrive at the index value. The BSE Indices Department keeps a close watch on the events that might affect the index on a regular basis and carries out daily maintenance of all BSE Indices. Adjustments for Rights Issues When a company, included in the compilation of the index, issues right shares, the free-float market capitalization of that company is increased by the number of additional shares issued based on the theoretical (ex-right) price. An offsetting or proportionate adjustment is then made to the Base Market capitalization. Adjustments for Bonus Issue When a company, included in the compilation of the index, issues bonus shares, the market capitalization of that company does not undergo any change. Therefore, there is no change in the Base Market capitalization; only the 'number of shares' in the formula is updated. Other Issues Base Market capitalization Adjustment is required when new shares are issued by way of conversion of debentures, mergers, spin-offs etc. or when equity is reduced by way of buy-back of shares, corporate restructuring etc. Base Market capitalization Adjustment The formula for adjusting the Base Market capitalization is as follows: New Market capitalization New Base Market capitalization Old Base Market

= capitalization

x ---------------------------Old Market capitalization

To illustrate, suppose a company issues additional shares, which increases the market capitalization of the shares of that company by say, Rs.100 crore. The existing Base Market capitalization (Old Base Market capitalization), say, is Rs.2450 crore and the aggregate market capitalization of all the shares included in the index before this issue is made is, say Rs.4781 crore. The "New Base Market capitalization" will then be: 2450 x (4781+100) ---------------------4781 This figure of Rs. 2501.24 crore will be used as the Base Market capitalization for calculating the index number from then onwards till the next base change becomes necessary.

= Rs.2501.24 crores

Trading
Timing Trading on the BOLT System is conducted from Monday to Friday between 9:15 a.m. and 3:30 p.m. normally. Groups The scrips traded on BSE have been classified into various groups. BSE has, for the guidance and benefit of the investors, classified the scrips in the Equity Segment into 'A', 'B', 'T' and 'Z' groups on certain qualitative and quantitative parameters. The "F" Group represents the Fixed Income Securities. The "T" Group represents scrips which are settled on a trade-to-trade basis as a surveillance measure. Trading in Government Securities by the retail investors is done under the "G" group. The 'Z' group was introduced by BSE in July 1999 and includes companies which have failed to comply with its listing requirements and/or have failed to resolve investor complaints and/or have not made the required arrangements with both the depositories, viz., Central Depository Services (I) Ltd. (CDSL) and National Securities Depository Ltd. (NSDL) for dematerialization of their securities. BSE also provides a facility to the market participants for on-line trading of odd-lot securities in physical form in 'A', 'B', 'T' and 'Z' groups and in rights renunciations in all groups of scrips in the Equity Segment. With effect from December 31, 2001, trading in all securities listed in the Equity segment takes place in one market segment, viz., Compulsory Rolling Settlement Segment (CRS). The scrips of companies which are in demat can be traded in market lot of 1. However, the securities of companies which are still in the physical form are traded in the market lot of generally either 50 or 100. Investors having quantities of securities less than the market lot are required to sell them as "Odd Lots". This facility offers an exit route to investors to dispose of their odd lots of securities, and also provides them an opportunity to consolidate their securities into market lots. This facility of selling physical shares in compulsory demat scrips is called an Exit Route Scheme. This facility can also be used by small investors for selling up to 500 shares in physical form in respect of scrips of companies where trades are required to be compulsorily settled by all investors in demat mode.

Listed Securities The securities of companies, which have signed the Listing Agreement with BSE, are traded as "Listed Securities". Almost all scrips traded in the Equity segment fall in this category. Permitted Securities To facilitate the market participants to trade in securities of such companies, which are actively traded at other stock exchanges but are not listed on BSE, trading in such securities is facilitated as " Permitted Securities" provided they meet the relevant norms specified by BSE Tick Size: Tick size is the minimum difference in rates between two orders on the same side i.e., buys or sells, entered in the system for particular scrip. Trading in scrips listed on BSE is done with the tick size of 5 paise. However, in order to increase the liquidity and enable the market participants to put orders at finer rates, BSE has reduced the tick size from 5 paise to 1 paise in case of units of mutual funds, securities traded in "F" group and equity shares having closing price up to Rs. 15 on the last trading day of the calendar month. Accordingly, the tick size in various scrips quoting up to Rs.15 is revised to 1 paise on the first trading day of month. The tick size so revised on the first trading day of month remains unchanged during the month even if the price of scrips undergoes a change. Computation Of Closing Price Of Scrips The closing price of scrips is computed by BSE on the basis of weighted average price of all trades executed during the last 30 minutes of a continuous trading session. However, if there is no trade recorded during the last 30 minutes, then the last traded price of scrip in the continuous trading session is taken as the official closing price. Basket Trading System BSE has commenced trading in the Derivatives Segment with effect from June 9, 2000 to enable investors to hedge their risks. Initially, the facility of trading in the Derivatives Segment was confined to Index Futures. Subsequently, BSE has introduced the Index Options and Options & Futures in select individual stocks. Investors in the cash market had felt a need to limit their risk exposure in the market to the movement in Sensex. With a view to provide investors the facility of creating Sensex-linked portfolios and also to create a linkage of market prices of the underlying securities of Sensex in the Cash Segment and Futures on Sensex, BSE has provided to the investors as well as to its Members a facility of Basket Trading System on BOLT with effect from August 14, 2000. In the Basket Trading System, the investors through the Members are able to buy/ sell all 30 scrips of Sensex in one go in the proportion of their respective weights in the Sensex. The investors need not calculate the quantity of Sensex scrips to be bought or sold for creating Sensex-linked portfolios and this function is performed by the system. The investors can also create their own baskets by deleting certain scrips from 30 scrips in the Sensex. Further, the investors can alter the weights of securities in such profiled baskets and enter their own weights. The investors can also select less than 100% weightage to reduce the value of the basket as per their own requirements. To participate in this system, the Members need to indicate the number of Sensex basket(s) to be bought or sold, where the value of one Sensex basket is arrived at by the system by multiplying Rs.50 to the prevailing Sensex. For example, if the Sensex is 15,000, the value of one basket of Sensex would be 15000 x 50= i.e., Rs. 7,50,000/-. The investors can also place orders by entering value of Sensex portfolio to be brought or sold with a minimum value of Rs. 50,000 for each order. The Basket Trading System provides the arbitrageurs an opportunity to take advantage of price differences in the underlying Sensex and Futures on the Sensex by simultaneous buying and selling of baskets comprising the Sensex scrips in the Cash Segment and Sensex Futures. This would provide a balancing impact on the prices in both cash and futures markets. The Basket Trading System thus meets the need of investors and also improves the depth in cash and futures markets. The trades executed under the Basket Trading System are subject to intra-day trading and gross exposure limits available to the Members. The VaR, MTM margins etc, as are applicable to normal trades in the Cash Segment, are also recovered from the Members.

Settlement
Compulsory Rolling Settlement All transactions in all groups of securities in the Equity segment and Fixed Income securities listed on BSE are required to be settled on T+2 basis (w.e.f. from April 1, 2003). The settlement calendar, which indicates the dates of the various settlement related activities, is drawn by BSE in advance and is circulated among the market participants. Under rolling settlements, the trades done on a particular day are settled after a given number of business days. A T+2 settlement cycle means that the final settlement of transactions done on T, i.e., trade day by exchange of monies and securities between the buyers and sellers respectively takes place on second business day (excluding Saturdays, Sundays, bank and Exchange trading holidays) after the trade day. The transactions in securities of companies which have made arrangements for dematerialization of their securities are settled only in demat mode on T+2 on net basis, i.e., buy and sell positions of a member-broker in the same scrip are netted and the net quantity and value is required to be settled. However, transactions in securities of companies, which are in "Z" group or have been placed under "trade-to-trade" by BSE as a surveillance measure ("T" group) , are settled only on a gross basis and the facility of netting of buy and sell transactions in such scrips is not available. The transactions in 'F' group securities representing "Fixed Income Securities" and " G" group representing Government Securities for retail investors are also settled at BSE on T+2 basis. In case of Rolling Settlements, pay-in and pay-out of both funds and securities is completed on the same day. Members are required to make payment for securities sold and/ or deliver securities purchased to their clients within one working day (excluding Saturday, Sunday, bank & BSE trading holidays) after the pay-out of the funds and securities for the concerned settlement is completed by BSE. This is the timeframe permitted to the Members to settle their funds/ securities obligations with their clients as per the Byelaws of BSE. The following table summarizes the steps in the trading and settlement cycle for scrips under CRS :

DAY T

ACTIVITY
T+1 Trading on BOLT and daily downloading of statements showing details of transactions and margins at the end of each trading day. Downloading of provisional securities and funds obligation statements by member-brokers. 6A/7A* entry by the member-brokers/ confirmation by the custodians. Confirmation of 6A/7A data by the Custodians upto 1:00 p.m. Downloading of final securities and funds obligation statements by members Pay-in of funds and securities by 11:00 a.m. and pay-out of funds and securities by 1:30 p.m. The member-brokers are required to submit the pay-in instructions for funds and securities to banks and depositories respectively by 10:40 a.m. Auction on BOLT at 2.00 p.m. Auction pay-in and pay-out of funds and securities by 09:30 a.m. and 10:15 a.m. respectively.

T+2

T+2 T+3

The pay-in and payout of funds and securities takes places on the second business day (i.e., excluding Saturday, Sundays and bank and BSE trading holidays) of the day of the execution of the trade. The settlement of the trades (money and securities) done by a Member on his own account or on behalf of his individual, corporate or institutional clients may be either through the Member himself or through a SEBI registered custodian appointed by him/client. In case the delivery/payment in respect of a transaction executed by a Member is to be given or taken by a registered custodian, the latter has to confirm the trade done by a Member on the BOLT System through 6A-7A entries. For this purpose, the custodians have been given connectivity to the BOLT System and have also been admitted as clearing member of the Clearing House. In case a registered custodian does not confirm a transaction done by a Member within the time permitted, the liability for pay-in of funds or securities in respect of the same devolves on the concerned Member. BSE generates Delivery and Receive Orders for transactions done by the Members in A, B, and F and G group scrips after netting purchase and sale transactions in each scrip whereas Delivery and Receive Orders for "T", "C" & "Z" group scrips and scrips which are traded on BSE on "trade-to-trade" basis are generated on a gross basis, i.e., without netting of purchase and sell transactions in a scrip. However, the funds obligations for the Members are netted for transactions across all groups of securities. Pay-in and Pay-out for 'A', 'B', 'T', 'C', "F", "G" & 'Z' Group of Securities The trades done on BOLT by the Members in all securities in CRS are now settled on BSE by payment of monies and delivery of securities on T+2 basis. All deliveries of securities are required to be routed through the Clearing House, The Pay-in /Pay-out of funds based on the money statement and that of securities based on Delivery Order/ Receive Order issued by BSE are settled on T+2 day. Demat pay-in: The Members can effect pay-in of demat securities to the Clearing House through either of the Depositories i.e. the National Securities Depository Ltd. (NSDL) or Central Depository Services (I) Ltd. (CDSL). The Members are required to give instructions to their respective Depository Participants (DPs) specifying details such as settlement no., effective pay-in date, quantity, etc. Members may also affect pay-in directly from the clients' beneficiary accounts through CDSL. For this, the clients are required to mention the settlement details and clearing member ID through whom they have sold the securities.In case a Member fails to deliver the securities, the value of shares delivered short is recovered from him at the standard/closing rate of the scrips on the trading day. Auto delivery facility: Instead of issuing delivery instructions for their securities delivery obligations in demat mode in various scrips in a settlement /auction, a facility has been made available to the Members of automatically generating delivery instructions on their behalf from their CM Pool accounts maintained with NSDL and CM Principal Accounts maintained with CDSL. This auto delivery facility is available for CRS (Normal & Auction) and for trade-to-trade settlements. Pay-in of Securities in Physical Form In case of delivery of securities in physical form, the Members are required to deliver the securities to the Clearing House in special closed pouches along with the relevant details like distinctive numbers, scrip code, quantity, etc., on a floppy. The data submitted by the Members on floppies is matched against the master file data on the Clearing House.If there is no discrepancy, the securities are accepted. Funds Pay-in The bank accounts of Members maintained with the clearing banks, viz., Axis Bank Ltd.,Bank of India, Bank of Baroda, Canara Bank, Citi Bank, Corporation Bank, Dhanalaxmi Bank, HDFC Bank Ltd., Hongkong & Shanghai Banking Corporation Ltd., ICICI Bank Ltd, Indusind Bank Ltd., IDBI Bank, Kotak Mahindra Bank, Oriental Bank of Commerce., Punjab National Bank, State Bank of India, Standard Chartered Bank, Union Bank of India, Yes Bank are directly debited through computerized posting for their funds settlement obligations.

Securities Pay-out Demat securities are credited by the Clearing House in the Pool/Principal Accounts of the Members. BSE has also provided a facility to the Members for transfer of pay-out securities directly to the clients' beneficiary owner accounts without routing the same through their Pool/Principal accounts in NSDL/ CDSL. For this, the concerned Members are required to give a client wise break up file which is uploaded by the Members from their offices to the Clearing House. Based on the break up given by the Members, the Clearing House instructs the depositories, viz., CDSL & NSDL to credit the securities to the Beneficiary Owners (BO) Accounts of the clients. In case delivery of securities received from one depository is to be credited to an account in the other depository, the Clearing House does an interdepository transfer to give effect to such transfers. In case of physical securities, the Receiving Members are required to collect the same from the Clearing House on the pay-out day. Funds Payout The bank accounts of the Members having pay-out of funds are credited by the Clearing House with the Clearing Banks on the pay-in day itself. In case a Member fails to deliver the securities, the value of shares delivered short is recovered from him at the standard/closing rate of the scrips on the trading day. Shortages The Clearing House arrives at the shortages in delivery of various scrips by the Members on the basis of their delivery obligations and actual delivery. The Members can download the statement of shortages in delivery of scrips in A, B, T, Z, F, Odd-lot & G group scrips on T+2 day, i.e., Pay-in day. After downloading the shortage details, the Members are expected to verify the same and report discrepancy, if any, to the Clearing House immediately. If no discrepancy is reported within the stipulated time, the Clearing House assumes that the shortage of a Member is in order and proceeds to auction/ close-out the same. Moreover, the value of shares delivered short is recovered from the Member at the standard/closing rate of the scrips on the trading day. Auctions An Auction Tender Notice is issued by BSE to the Members informing them about the names of the scrips short or not delivered, quantity slated for auction and the date and time of the auction session on the BOLT. The auction for the undelivered quantities is conducted on T+2 day between 2:00 p.m. and 2.45 p.m. for all the scrips under Compulsory Rolling Settlements except those in "Z" group and scrips on "trade to trade" basis which are directly closed-out. A Member who has failed to deliver the securities of a particular company on the pay-in day is not allowed to offer the same in auction. The Members, who participate in the auction session, can download the Delivery Orders in respect of the auction obligations on the same day, if their offers are accepted. The Members are required to deliver the shares in the Clearing House on the auction Pay-in day, i.e, T+3. Pay-out of auction shares and funds is also done on the same day, i.e., T+3. Self-Auction The Delivery and Receive Orders are issued by BSE to the Members after netting off their purchase and sell transactions in scrips where netting of purchase and sell positions is permitted. It is likely in some cases, a selling client has failed to deliver the shares sold in a settlement to a Member. However, this may not result in failure of the Member to deliver the shares to the Clearing House as there was a purchase transaction of his some other buying client in the same scrip and the same was netted off for the purpose of settlement. In such a case, the Member would require shares so that he can deliver the same to his buying client, which otherwise would have taken place from the delivery of shares by his selling client. To provide shares to the Members in such cases, they have been given an option to submit the details of such internal shortages on floppies on pay-in day for conducting self-auction (i.e., as if they have defaulted in delivery of shares to the Clearing House). These shortages are clubbed with the normal shortages in a settlement arrived at by the Clearing House and the auction is conducted by the Clearing House for the combined shortages.

Risk Management
Cash Market The expansion of BOLT across the country has led to a significant increase in volumes and liquidity. This has also consequently increased the risk of default by the Members in meeting their settlement obligations. BSE has initiated several risk management measures in order to maintain the safety of the market and to avert defaults by the BSE Members in meeting their payment and delivery obligations.

Total Liquid Assets The core of the risk management system is the liquid assets deposited by the Members with BSE. Base Minimum Capital (BMC) All Members are required to maintain a BMC of Rs.10 lakhs with BSE in the prescribed manner at all times. The composite corporate Members are required to maintain BMC in multiple of the membership rights held by them. The BMC, as prescribed by SEBI, is required to be kept in the form of cash (minimum 12.5%), Fixed Deposit Receipt(s) or Bank Guarantee(s) issued by bank(s) (minimum 37.5%) and balance in the form of eligible shares. BMC is not available for adjustment towards margins. Cash equivalents should be at least 50% of the liquid assets. This implies that Other Liquid Assets in excess of the total Cash Equivalents is not regarded as part of the Total Liquid Assets. a. MTM (Mark-To-Market) Losses: Mark-to-market losses on outstanding settlement obligations of the Member. b. VaR Margins: Value at risk margins to cover potential losses for 99% of the days. c. Extreme Loss Margins: Margins to cover the expected loss in situations that lie outside the coverage of the VaR margins. d. Base Minimum Capital: Capital required for all risks other than the market risk (for example, operational risk and client claims). e. Special Margin: Special margin collected as a surveillance measure. Members are required to maintain the liquid assets (collateral) to cover all the above five requirements. There are no other margins in the risk management system. Rolling Settlement Rolling Settlement is a mechanism of settling trades done on a stock exchange on T i.e. trade day plus "X" trading days, where "X" could be 1,2,3,4 or 5 days. In other words, in T+5 environment, a trade done on T day is settled on the 5th working day excluding the T day. In India, until recently, the settlement of majority of trades was done on Account Period basis, where trades done in a trading cycle of 5 days were consolidated, scrip-wise netted and settlement of such netted trades took place on a single day in the following week. Thus, it took anywhere between one to two weeks for the investor, depending upon the day of his transaction, to realize the money for shares sold or get delivery of shares purchased. However, in the Rolling Settlements, trades done on each single day are settled separately from the trades done on earlier or subsequent trading days. The netting of trades is done only for the day and not for multiple days. Initially, the trades in Rolling Settlements, to begin with, were settled after 5 trading days from the day of trading. However, w.e.f. April 1, 2002, the trades in all the scrips listed and traded on the exchange are now settled on T+3 basis. What are the advantages of Rolling Settlements compared to Weekly Settlements? Since in the Rolling Settlements, trades are settled earlier than in the Account Period settlement, the settlement risk is lower. The reason for this is that in weekly settlements, the cumulative position built up over various days was consolidated, netted and settled on a single day. This resulted in higher deliveries to be settled for the trades done during the week. Since in Rolling Settlements, trades on a particular day are settled separately from the trades done on any other day, the settlement risk is considerably reduced. Moreover, the sellers and buyers get the monies and securities for their sale and purchase transactions respectively earlier than in Account Period settlements. This also achieves international best practice for settling trades. Can one square off transactions done in Rolling Settlements? Yes. Since the trades done during a day in a Rolling Settlement except those in scrips in "Z" group are netted, one can square off the transaction on that day only. The trades in "Z" group scrips are not allowed to be netted and are settled on a trade-to-trade basis. As such, the squaring off should be done before close of the market hours on that day. It may be clearly understood that the trades during a day cannot be squared off or netted with transactions on the earlier or subsequent days. What is Trade-to-Trade in Rolling Settlements? SEBI has mandated that trading and settlement in all listed securities would take place only in CRS. Further, it had directed all companies to sign agreements and establish connectivity with both the depositories latest by September 30, 2001. SEBI had further mandated that the trading and settlement in securities of those companies which have failed to make the required demat arrangements by the

above stipulated date, be shifted to Trade-to-Trade basis. Once any scrip is shifted to Trade-to-Trade basis, transactions in the scrip are not netted and all purchase and sale transactions in the same scrip in single settlement are to be settled separately. For example, the trading and settlement in securities of XYZ Ltd. have been shifted to Trade-to-Trade. An investor has bought 100 shares of this company in the morning on April 1, 2008 and he squares off purchase of these 100 shares by selling the same in the trading hours on the same day. In this case, his purchase and sale transactions would not be netted and the investor would be required to give delivery of 100 shares against his sale transaction and payment for the purchase transaction of 100 shares. What is the Exit Route Scheme of BSE? The Exit Route Scheme has been devised by BSE and approved by SEBI. This Scheme provides an exit to the small investors holding physical shares of companies where deliveries have to be given compulsorily in demat form only. It was observed that small investors having holdings of few shares and of little value were not finding it economical to open a DP account and undergo the process of getting their physical holdings dematerialised. This Scheme allows them to sell their shares in physical form. Who is eligible to sell shares under this Scheme? All small investors holding up to 500 shares of a company in physical form in respect of such companies where deliveries are to be given in demat form only are eligible to avail of this Scheme. How are the orders in physical form placed under this Scheme? On BOLT system, the "C" groups window, which is used for trading in odd lot scrips, is used for placing buy and sell orders under this Scheme.

LISTING
Listing means admission of securities to dealings on a recognised stock exchange. The securities may be of any public limited company, Central or State Government, quasi governmental and other financial institutions/corporations, municipalities, etc. Minimum Listing Requirements for New Companies The following eligibility criteria have been prescribed effective August 1, 2006 for listing of companies on BSE, through Initial Public Offerings (IPOs) & Follow-on Public Offerings (FPOs):

1. Companies have been classified as large cap companies and small cap companies. A large
cap company is a company with a minimum issue size of Rs. 10 crore and market capitalization of not less than Rs. 25 crore. A small cap company is a company other than a large cap company.

a. In respect of Large Cap Companies i. ii. iii.

The minimum post-issue paid-up capital of the applicant company (hereinafter referred to as "the Company") shall be Rs. 3 crore; and The minimum issue size shall be Rs. 10 crore; and The minimum market capitalization of the Company shall be Rs. 25 crore (market capitalization shall be calculated by multiplying the post-issue paid-up number of equity shares with the issue price).

b. In respect of Small Cap Companies i. ii. iii. iv. v.

The minimum post-issue paid-up capital of the Company shall be Rs. 3 crore; and The minimum issue size shall be Rs. 3 crore; and The minimum market capitalization of the Company shall be Rs. 5 crore (market capitalization shall be calculated by multiplying the post-issue paid-up number of equity shares with the issue price); and The minimum income/turnover of the Company shall be Rs. 3 crore in each of the preceding three 12-months period; and The minimum number of public shareholders after the issue shall be 1000.

vi.

A due diligence study may be conducted by an independent team of Chartered Accountants or Merchant Bankers appointed by BSE, the cost of which will be borne by the company. The requirement of a due diligence study may be waived if a financial institution or a scheduled commercial bank has appraised the project in the preceding 12 months.

2. For all companies : a. In respect of the requirement of paid-up capital and market capitalization, the issuers
shall be required to include in the disclaimer clause forming a part of the offer document that in the event of the market capitalization (product of issue price and the post issue number of shares) requirement of BSE not being met, the securities of the issuer would not be listed on BSE. The applicant, promoters and/or group companies, shall not be in default in compliance of the listing agreement.

b.

Minimum Requirements for Companies Delisted by BSE seeking Relisting on BSE Companies delisted by BSE and seeking relisting at BSE are required to make a fresh public offer and comply with the extant guidelines of SEBI and BSE regarding initial public offerings. Permission to Use the Name of BSE in an Issuer Company's Prospectus Companies desiring to list their securities offered through a public issue are required to obtain prior permission of BSE to use the name of BSE in their prospectus or offer for sale documents before filing the same with the concerned office of the Registrar of Companies. Submission of Letter of Application As per Section 73 of the Companies Act, 1956, a company seeking listing of its securities on BSE is required to submit a Letter of Application to all the stock exchanges where it proposes to have its securities listed before filing the prospectus with the Registrar of Companies. Allotment of Securities As per the Listing Agreement, a company is required to complete the allotment of securities offered to the public within 30 days of the date of closure of the subscription list and approach the Designated Stock Exchange for approval of the basis of allotment. In case of Book Building issues, allotment shall be made not later than 15 days from the closure of the issue, failing which interest at the rate of 15% shall be paid to the investors. Trading Permission As per SEBI Guidelines, an issuer company should complete the formalities for trading at all the stock exchanges where the securities are to be listed within 7 working days of finalization of the basis of allotment. In the event of listing permission to a company being denied by any stock exchange where it had applied for listing of its securities, the company cannot proceed with the allotment of shares. Requirement of 1% Security Companies making public/rights issues are required to deposit 1% of the issue amount with the Designated Stock Exchange before the issue opens. This amount is liable to be forfeited in the event of the company not resolving the complaints of investors regarding delay in sending refund orders/share certificates, non-payment of commission to underwriters, brokers, etc. Payment of Listing Fees All companies listed on BSE are required to pay to BSE the Annual Listing Fees by 30th April of every financial year as per the Schedule of Listing Fees prescribed from time to time.

Public Issues
Corporates may raise capital in the primary market by way of an initial public offer, rights issue or private placement. An Initial Public Offer (IPO) is the selling of securities to the public in the primary market. This Initial Public Offering can be made through the fixed price method & book building method There are two types of Public Issues:

ISSUE TYPE FIXED PRICE PROCESS

OFFER
Price at which the securities are offered and would be allotted is made known in advance to the investors A 20 % price band is offered by the issuer within which investors are allowed to bid and the final price is determined by the issuer only after closure of the bidding.

DEMAND
Demand for the securities offered is known only after the closure of the issue

PAYMENT
100 % advance payment is required to be made by the investors at the time of application.

RESERVATIONS
50 % of the shares offered are reserved for applications below Rs. 1 lakh and the balance for higher amount applications. 50 % of shares offered are reserved for QIBS, 35 % for small investors and the balance for all other investors.

BOOK BULIDING PROCESS

Demand for the securities offered , and at various prices, is available on a real time basis on the BSE website during the bidding period..

10 % advance payment is required to be made by the QIBs along with the application, while other categories of investors have to pay 100 % advance along with the application.

More about Book Building Book Building is essentially a process used by companies raising capital through Public Offerings-both Initial Public Offers (IPOs) and Follow-on Public Offers (FPOs) to aid price and demand discovery. It is a mechanism where, during the period for which the book for the offer is open, the bids are collected from investors at various prices, which are within the price band specified by the issuer. The process is directed towards both the institutional as well as the retail investors. The issue price is determined after the bid closure based on the demand generated in the process. The Process: The Issuer who is planning an offer nominates lead merchant banker(s) as 'book runners'. The Issuer specifies the number of securities to be issued and the price band for the bids. The Issuer also appoints syndicate members with whom orders are to be placed by the investors. The syndicate members input the orders into an 'electronic book'. This process is called 'bidding' and is similar to open auction. The book normally remains open for a period of 5 days. Bids have to be entered within the specified price band. Bids can be revised by the bidders before the book closes. On the close of the book building period, the book runners evaluate the bids on the basis of the demand at various price levels. The book runners and the Issuer decide the final price at which the securities shall be issued. Generally, the numbers of shares are fixed; the issue size gets frozen based on the final price per share. Allocation of securities is made to the successful bidders. The rest get refund orders.

DEBT MARKET
The Debt Market is the market where fixed income securities of various types and features are issued and traded. Debt Markets are therefore, markets for fixed income securities issued by Central and State Governments, Municipal Corporations, Govt. bodies and commercial entities like Financial Institutions, Banks, Public Sector Units, Public Ltd. companies and also structured finance instruments.

Money Market The Money Market is basically concerned with the issue and trading of securities with short term maturities or quasi-money instruments. The Instruments traded in the money-market are Treasury

Bills, Certificates of Deposits (CDs), Commercial Paper (CPs), Bills of Exchange and other such instruments of short-term maturities (i.e. not exceeding 1 year with regard to the original maturity) Why should one invest in fixed income securities? Fixed Income securities offer a predictable stream of payments by way of interest and repayment of principal at the maturity of the instrument. The debt securities are issued by the eligible entities against the moneys borrowed by them from the investors in these instruments. Therefore, most debt securities carry a fixed charge on the assets of the entity and generally enjoy a reasonable degree of safety by way of the security of the fixed and/or movable assets of the company.

Advantages: 1.) The investors benefit by investing in fixed income securities as they preserve and increase
their invested capital and also ensure the receipt of regular interest income. 2.) The investors can even neutralize the default risk on their investments by investing in Govt. securities, which are normally referred to as risk-free investments due to the sovereign guarantee on these instruments. 3.) The prices of Debt securities display a lower average volatility as compared to the prices of other financial securities and ensure the greater safety of accompanying investments. 4.) Debt securities enable wide-based and efficient portfolio diversification and thus assist in portfolio risk-mitigation. Advantages of investing in Government Securities (G-Secs) The Zero Default Risk of the G-Secs: Offer one of the best reasons for investments in G-secs so that it enjoys the greatest amount of security possible. The other advantages of investing in G- Secs are: Greater safety and lower volatility as compared to other financial instruments. Variations possible in the structure of instruments like Index linked Bonds, STRIPS Higher leverage available in case of borrowings against G-Secs. No TDS on interest payments Tax exemption for interest earned on G-Secs. up to Rs.3000/- over and above the limit of Rs.12000/- under Section 80L (as amended in the latest Budget). Greater diversification opportunities Adequate trading opportunities with continuing volatility expected in interest rates the world over

Who can issue fixed income securities? Fixed income securities can be issued by almost any legal entity like Central and State Govts., Public Bodies, Banks and Institutions, statutory corporations and other corporate bodies. There may be legal and regulatory restrictions on each of these bodies on the type of securities that can be issued by each of them. Different types of instruments normally traded in market The instruments traded can be classified into the following segments based on the characteristics of the identity of the issuer of these securities: Market Segment Government Securities Issuer Central Government Instruments Zero Coupon Bonds, Coupon Bearing Bonds, Treasury Bills, STRIPS Coupon Bearing Bonds. Govt. Guaranteed Bonds, Debentures PSU Bonds, Debentures, Commercial Paper Debentures, Bonds, Commercial Paper, Floating Rate Bonds, Zero Coupon Bonds, Inter-Corporate Deposits Certificates of Deposits, Debentures, Bonds

State Governments Public Sector Bonds Government Agencies / Statutory Bodies Public Sector Units Private Sector Bonds Corporates Banks

Financial Institutions

Certificates of Deposits, Bonds

The G-secs are referred to as SLR securities in the Indian markets as they are eligible securities for the maintenance of the SLR ratio by the Banks. The other non-Govt securities are called Non-SLR securities. Importance of the Debt Market to the economy The key role of the debt markets in the Indian Economy stems from the following reasons: Efficient mobilization and allocation of resources in the economy Financing the development activities of the Government Transmitting signals for implementation of the monetary policy Facilitating liquidity management in tune with overall short term and long term objectives.

Since the Government Securities are issued to meet the short term and long term financial needs of the government, they are not only used as instruments for raising debt, but have emerged as key instruments for internal debt management, monetary management and short term liquidity management. The returns earned on the government securities are normally taken as the benchmark rates of returns and are referred to as the risk free return in financial theory. The Risk Free rates obtained from the Gsec rates are often used to price the other non-govt. securities in the financial markets. Benefits of an efficient Debt Market to the financial system and the economy Reduction in the borrowing cost of the Government and enable mobilization of resources at a reasonable cost. Provide greater funding avenues to public-sector and private sector projects and reduce the pressure on institutional financing. Development of heterogeneity of market participants Assist in development of a reliable yield curve and the term structure of interest rates.

Different types of risks with regard to debt securities The following are the risks associated with debt securities: Default Risk: Risk that an issuer of a bond may be unable to make timely payment of interest or principal on a debt security and is also referred to as credit risk. Interest Rate Risk: can be defined as the risk emerging from an adverse change in the interest rate prevalent in the market so as to affect the yield on the existing instruments. A good case would be an upswing in the prevailing interest rate scenario leading to a situation where the investors' money is locked at lower rates whereas if he had waited and invested in the changed interest rate scenario, he would have earned more. Reinvestment Rate Risk: can be defined as the probability of a fall in the interest rate resulting in a lack of options to invest the interest received at regular intervals at higher rates at comparable rates in the market.

The following are the risks associated with trading in debt securities: Counter Party Risk: is the normal risk associated with any transaction and refers to the failure or inability of the opposite party to the contract to deliver either the promised security or the sale-value at the time of settlement. Price Risk: refers to the possibility of not being able to receive the expected price on any order due to an adverse movement in the prices.

MARKET STRUCTURE Trading structure in the Wholesale Debt Market The Debt Markets in India is dominated by Government securities, which account for between 50 - 75% of the trading volumes and the market capitalization in all markets. G-Secs account for 70 - 75% of the outstanding value of issued securities and 90-95% of the trading volumes in the Indian Debt Markets. State Government securities & Treasury Bills account for around 3-4 % of the daily trading volumes. The trading activity in the G-Sec. Market is also very concentrated currently (in terms of liquidity of the outstanding G-Secs.) with the top 10 liquid securities accounting for around 70% of the daily volumes. Main investors of Govt. Securities in India Traditionally, the Banks have been the largest category of investors in G-secs accounting for more than 60% of the transactions in the Wholesale Debt Market. The Banks are a prime and captive investor base for G-secs as they are normally required to maintain 25% of their net time and demand liabilities as SLR but it has been observed that the banks normally invest 10% to 15% more than the normal requirement in Government Securities because of the following requirements: Risk Free nature of the Government Securities Greater returns in G-Secs as compared to other investments of comparable nature

Regulation of the fixed income markets The issue and trading of fixed income securities by each of these entities are regulated by different bodies in India. For eg: Government securities and issues by Banks, Institutions are regulated by the RBI. The issue of non-government securities comprising basically issues of Corporate Debt is regulated by SEBI. Main features of G-Secs and T-Bills in India All G-Secs in India currently have a face value of Rs.100/- and are issued by the RBI on behalf of the Government of India. All G-Secs are normally coupon (Interest rate) bearing and have semi-annual coupon or interest payments with a tenor of between 5 to 30 years. This may change according to the structure of the Instrument. Treasury Bills are for short-term instruments issued by the RBI for the Govt. for financing the temporary funding requirements and are issued for maturities of 91 Days and 364 Days. T-Bills have a face value of Rs.100 but have no coupon (no interest payment). T-Bills are instead issued at a discount to the face value (say @ Rs.95) and redeemed at par (Rs.100). The difference of Rs. 5 (100 95) represents the return to the investor obtained at the end of the maturity period. State Government securities are also issued by RBI on behalf of each of the state governments and are coupon-bearing bonds with a face value of Rs.100 and a fixed tenor. They account for 3-4 % of the daily trading volumes. Segments in the secondary debt market The segments in the secondary debt market based on the characteristics of the investors and the structure of the market are: Wholesale Debt Market - where the investors are mostly Banks, Financial Institutions, the RBI, Primary Dealers, Insurance companies, Mutual Funds, Corporates and FIIs. Retail Debt Market involving participation by individual investors, provident funds, pension funds, private trusts, NBFCs and other legal entities in addition to the wholesale investor classes.

Structure of the Wholesale Debt Market The Debt Market is today in the nature of a negotiated deal market where most of the deals take place through telephones and are reported to the Exchange for confirmation. It is therefore in the nature of a wholesale market. Most prominent investors in the Wholesale Debt Market in India The Commercial Banks and the Financial Institutions are the most prominent participants in the Wholesale Debt Market in India. During the past few years, the investor base has been widened to include Co-operative Banks, Investment Institutions, cash rich Corporates, Non-Banking Finance companies, Mutual Funds and high net-worth individuals. FIIs have also been permitted to invest 100% of their funds in the debt market, which is a significant increase from the earlier limit of 30%. The government also allowed in 1998-99 the FIIs to invest in T-bills with a view towards broad basing the investor base of the same. Issuance process of G-secs G-secs are issued by RBI in either a yield-based (participants bid for the coupon payable) or pricebased (participants bid a price for a bond with a fixed coupon) auction basis. The Auction can be either a Multiple price (participants get allotments at their quoted prices/yields) Auction or a Uniform price (all participants get allotments at the same price). RBI has recently announced a non-competitive bidding facility for retail investors in G-Secs through which non-competitive bids will be allowed up to 5 percent of the notified amount in the specified auctions of dated securities. Types of trades in the Wholesale Debt Market normally two types of transactions, which are executed in the Wholesale Debt Market : An outright sale or purchase and A Repo trade

Repo trade and how it is different from a normal buy or sell transaction(**) An outright Buy or sell transaction is a one where there is no intended reversal of the trade at the point of execution of the trade. The Buy or sell transaction is an independent trade and is in no way connected with any other trade at the same or a later point of time. A Ready Forward Trade (which is normally referred to as a Repo trade or a Repurchase Agreement) is a transaction where the said trade is intended to be reversed at a later point of time at a rate which will include the interest component for the period between the two opposite legs of the transactions. So in such a transaction, one participant sells securities to other with an agreement to purchase them back at a later date. The trade is called a Repo transaction from the point of view of the seller and it is called a Reverse Repo transaction from point of view of the buyer. Repos therefore facilitate creation of liquidity by permitting the seller to avail of a specific sum of money (the value of the repo trade) for a certain period in lieu of payment of interest by way of the difference between the two prices of the two trades. Repos and reverse repos are commonly used in the money markets as instruments of short-term liquidity management and can also be termed as a collateralised lending and borrowing mechanism. Banks and Financial Institutions usually enter into reverse repo transactions to manage their reserve requirements or to manage liquidity.

BOND ANALYTICS Yield Yield refers to the percentage rate of return paid on a stock in the form of dividends, or the effective rate of interest paid on a bond or note. There are many different kinds of yields depending on the investment scenario and the characteristics of the investment. Yield To Maturity (YTM) is the most popular measure of yield in the Debt Markets and is the percentage rate of return paid on a bond, note or other fixed income security if you buy and hold the security till its maturity date. Current Yield is the coupon divided by the Market Price and gives a fair approximation of the present yield. Annual income (interest or dividends) divided by the current price of the security. This measure looks at the current price of a bond instead of its face value and represents the return an investor would expect if he or she purchased the bond and held it for a year. This measure is not an accurate reflection of the actual return that an investor will receive in all cases because bond and stock prices are constantly changing due to market factors.

Yield to Maturity computation The calculation for YTM is based on the coupon rate, length of time to maturity and market price. It is the Internal Rate of Return on the bond and can be determined by equating the sum of the cash-flows throughout the life of the bond to zero. A critical assumption underlying the YTM is that the coupon interest paid over the life of the bond is assumed to be reinvested at the same rate. Price determination in the debt markets The price of a bond in the markets is determined by the forces of demand and supply, as is the case in any market. The price of a bond in the marketplace also depends on a number of other factors and will fluctuate according to changes in Economic conditions General money market conditions including the state of money supply in the economy Interest rates prevalent in the market and the rates of new issues Future Interest Rate Expectations Credit quality of the issuer

Yield relation with price Yields and Bond Prices are inversely related. So a rise in price will decrease the yield and a fall in the bond price will increase the yield. There will be an immediate and mostly predictable effect on the prices of bonds with every change in the level of interest rates. When the prevailing interest rates in the market rise, the prices of outstanding bonds will fall to equate the yield of older bonds into line with higher-interest new issues. This will happen as there will be very few takers for the lower coupon bonds resulting in a fall in their prices. The prices would fall to an extent where the same yield is obtained on the older bonds as is available for the newer bonds. When the prevailing interest rates in the market fall, there is an opposite effect. The prices of outstanding bonds will rise, until the yield of older bonds is low enough to match the lower interest rate on the new bond issues. These fluctuations ensure that the value of a bond will never be the same throughout the life of the bond and is likely to be higher or lower than its original face value depending on the market interest rate, the time to maturity (or call as the case may be) and the coupon rate on the bond.

MARKET STRUCTURE AND TRADING METHODOLOGY IN WDS Concept of the Broken period interest as regards the Debt Market The concept of the broken period interest or the accrued interest arises as interests on bonds are received after certain fixed intervals of time to the holder who enjoys the ownership of the security at that point of time. Therefore an investor who has sold a bond which makes half-yearly interest payments three months after the previous interest payment date would not receive the interest due to him for these three months from the issuer. The interest on these previous three months would be received by the buyer who has held it for only the next three months but receive interest for the entire six month periods as he happens to be holding the security at the interest payment date. Therefore, in case of a transaction in bonds occurring between two interest payment dates, the buyer would pay interest to the seller for the period from the last interest payment date up to the date of the transaction. The interest thus calculated would include the previous date of interest payment but would not include the trade date. Clean Price and the Dirty Price in reference to trading in G-Secs G-Secs are traded on a clean price (Trade price) but settled on the dirty price (Trade price + Accrued Interest). This happens, as the coupon payments are not discounted in the price, as is the case in the other non-govt. debt instruments. Type of transactions which take place in the market The following two types of transactions take place in the Indian markets: Direct transactions between banks and other wholesale market participants which account for around 25% of the Wholesale Market volumes: Here the Banks and the Institutions trade directly between themselves either through the telephone or the NDS system of the RBI. Broker intermediated transactions, which account for around 70-75% of the trades in the market. These brokers need to be members of a Recognized Stock Exchange for RBI to allow the Banks, Primary Dealers and Institutions to undertake dealings through them.

Role of the Exchanges in the WDS BSE and other Exchanges offer order-driven screen based trading facilities for Govt. securities. The trading activity on the systems is however restricted with most trades today being put through in the broker offices and reported to the Exchange through their electronic systems which provide for reporting of "Negotiated Deals" and "Cross Deals". Three modules in the GILT system GILT permits trading in the Wholesale Debt Market through the three following avenues: Order Grabbing System - which provides for active interaction between the market participants in keeping with the negotiated deal structure of the market. Negotiated Deal Module - which permits the reporting of trades undertaken by the market participants through the members of the Exchange Cross Deal Module - permitting reporting of trades undertaken by two different market participants through a single member of the Exchange.

Membership criteria and charges for the membership of the BSE Wholesale Debt Segment The membership of the debt market segment is being granted only to the Existing Members of the Exchange. The members need to have a minimum net worth of Rs.1.5 crores for admission to undertaking dealings on the debt segment. No security deposit is applicable for the membership of the Debt Segment as in other Exchanges. The annual approval/renewal charges at present is Rs.25,000/-.

Settlement mode allowed in GILT The settlements for all the trades executed on the GILT system are on a rolling basis. Each order has a unique settlement date specified upfront at the time of order entry and used as a matching parameter. The Exchange will allow settlement periods ranging from T+0 to T+5. Aspects for settlement of trades in G-secs in GILT The Settlement for the securities traded in the Debt Segment would be on a Trade by Trade DVP basis. The primary responsibility of settling trades concluded in the wholesale segment rests directly with the participants who would settle the trades executed in the GILT system on their behalf through the Subsidiary Ledger Account of the RBI. Each transaction is settled individually and netting of transaction is not allowed. The Exchange would monitor the Clearing and Settlement process for all the trades executed or reported through the 'GILT' system. The Members need to report the settlement details to the Exchange for all the trades undertaken by them on the GILT system.

CORPORATE DEBT MARKET Structure of the Corporate Debt Market in India The Indian Primary market in Corporate Debt is basically a private placement market with most of the corporate bond issues being privately placed among the wholesale investors i.e. the Banks, Financial Institutions, Mutual Funds, Large Corporates & other large investors. The proportion of public issues in the total quantum of debt capital issued annually has decreased in the last few years. Around 92% of the total funds mobilized through corporate debt securities in the Financial Year 2002 were through the private placement route. The Debt Instruments issued by Development Financial Institutions, Public Sector Units and the debentures and other debt securities issued by public limited companies are listed in the 'F Group' at BSE. Various kinds of debt instruments available in the Corporate Debt Market The following are some of the different types of corporate debt securities issued: Non-Convertible Debentures Partly-Convertible Debentures/Fully-Convertible Debentures (convertible in to Equity Shares) Secured Premium Notes Debentures with Warrants Deep Discount Bonds PSU Bonds/Tax-Free Bonds

Trading, clearing and settlement in Corporate Debt carried out at BSE The trading in corporate debt securities in the F Group are traded on the BOLT order-matching system based on price-time priority. The trades in the 'F Group' at BSE are to be settled on a rolling settlement basis with a T+2 Cycle with effect from 1st April 2003. Trading continues from Monday to Friday during the week. The Trade Guarantee Fund (TGF) of the Exchange covers all the trades in the 'F' Group undertaken on the electronic BOLT system of the Exchange. BSE RETAIL DEBT SEGMENT (REDS) Securities/instruments traded in the Retail Debt Segment (REDS) at the Exchange The Retail trading in Central Government Securities commenced on January 16, 2003 through the BOLT System of the Exchange. Central Government Securities (G-Secs.) are currently listed at the Exchange under the G Group. The Exchange may introduce, in due course of time, retail trading in other debt securities like the following, subject to the receipt of regulatory approval for the same: State Government Securities Treasury Bills STRIPS Interest Rate Derivative products

Participants in the Retail Debt Market The following are the main investor segments who could participate in the Retail Debt Market: Mutual Funds, Provident Funds, Pension Funds, Private trusts State Level and District Level Co-operative Banks Housing Finance Companies Corporate Treasuries Hindu-Undivided Families (HUFs) Individual Investors

Membership criteria and procedure for the membership of the BSE Retail Debt Segment Eligibility Criteria for Members: The Members of the Segment possessing a net-worth of Rs. 1 crore and above are eligible to trade in the Retail Debt segment. The members are required to submit additional contribution of Rs. 5 lakhs as refundable contribution towards the separate Trade Guarantee Fund for this Segment. This contribution of Rs.5 lakhs towards the Trade Guarantee Fund could be submitted in terms of cash or FDR or Bank Guarantee. However, the Exchange has permitted the Members to earmark Rs.5 lakhs from their additional capital for a period of one month or till such time separate contribution for TGF is provided by them, whichever is earlier Retail Transactions in G-Secs. at the Exchange Retail Trading in Government Securities takes place by electronic order matching based on price-time priority through the BOLT (BSE OnLine Trading) System of the Exchange with the continuous trading sessions from 9.55 a.m. to 3.30 p.m. as is operational in the Equities Segment. The Retail Trading in Gsecs is to be settled on a rolling settlement basis with a T+2 Delivery Cycle with effect from 1st April 2003. Trading methodology in case of the Retail trading in G-Secs. Trading Methodology: The G-Secs shall be traded on the system and settled at the same price, which will be inclusive of the accrued interest i.e. the Dirty Price as per the market parlance in the Wholesale Debt Market. This is similar to the trading on the cum-interest price as is witnessed in the case of corporate debentures. The minimum order size shall be 10 units of G-Secs with a face value Rs.100/- each equivalent to an order value of Rs. 1000/- and the subsequent orders will be in lots of 10 securities each. Trading & Exposure Limits: The members of the Retail Debt Segment are permitted gross exposure in government securities along their gross exposure in equity segment upto 15 times of their additional capital deposited by them with the Exchange. However, no gross exposure is permitted to the members against their Base Minimum Capital + contribution of Rs.10 lakhs towards TGF in the cash segment. Transactions done by the members in this segment along with their transactions in the equity segment would form part of their Intra-day Trading Limits and are subject to a limit of 33.33 times of the capital deposited with the Exchange. However, institutional business would not form part of these Intra-Day & Gross Exposure limits.

Clearing & Settlement of the Retail G-Sec. transactions take place in REDS The Clearing and Settlement mechanism for the Retail trading in G-Secs is based on the existing institutional mechanism available at the Stock Exchanges for the Equity Markets. The trades executed throughout the continuous trading sessions will be netted out at the end of the trading hours through a process of multilateral netting. The transactions will be netted out member-wise and then scrip-wise so as to determine the net settlement and payment obligations of the members. The Delivery obligations and the payment orders in respect of these members are generated by the Clearing and Settlement system of the Exchange. These statements indicate the pay-in and pay-out positions of the members for securities and funds who would then give the necessary instructions to their Clearing Banks and depositories.Custodial confirmation of the retail trades in G-Secs. by using 6A-7A mechanism as available in the Equity segment is also available. The schedule of various settlement related activities like obligation download, custodial confirmation, pay-in/pay-out of funds and securities is similar to what is at present applicable in the equities segment. As per an RBI Circular, the RBI regulated entities are to settle their transactions in the Retail Debt Segment at the Exchange through a Custodian.

Security delivery shortages treatment in the Retail Debt Segment In the event of failure/shortage in delivery of securities, the Exchange would close-out such shortages at the ZCYC valuation for prices plus a 5% penalty factor which would be debited to the account of the member who has failed to deliver the securities against his sale obligation. The buyer in the event of non-delivery of securities by the seller would be eligible to receive the compensation/consideration which would be computed at the higher of either the highest trade price from the trade date to the date of close out or closing price of the security in the normal market on the close-out date plus interest calculated at the rate of overnight FIMMDA-NSE MIBOR for the close-out date. The difference between the amount debited to the seller and amount payable to the buyer on the basis discussed above would be credited to the Investor Protection Fund of the Exchange.

Margining structure at the Exchange for the Retail Debt Market

Margining - Mark to Market : The positions in the Retail Debt segment are marked to market until settlement and mark to market margin on net outstanding position of the members is collected on all open net positions. The mark to market margin is calculated based on the prices derived from the Zero Coupon Yield Curve (ZCYC). This margin is to be collected on the T+1 day along with the margin on the outstanding positions in cash segment. Margin exemption to Institutional business: Institutional business (i.e., business done by members on behalf of Indian Financial Institutions, Foreign Institutional Investors, Scheduled Commercial Banks, Mutual Funds registered with SEBI) would be exempted from margin, as is applicable in the case of transactions in the equity segment, as the institutions are required under the relevant regulations to transact only on the basis of giving and taking delivery. The members would, however, be required to mark client type 'FI' at the time of order entry for availing of exemption from payment of margins and also exclusion of such trades from Intra-day Trading and Gross Exposure Limits. Custodial trades on behalf of Provident Funds transacting through a SGL-II account (Constituent SGL a/c) would also be eligible for margin exemption. Margin Exemption against delivery: Margin exemption for early pay-in of securities in case of sale transactions as applicable for the equities segment would also be available for this segment.

Investing in the Debt Markets The main features which you need to check for any debt security is: a) Coupon (or the discount implied by the price as in the case of zero coupon bonds) and the frequency of interest payments. b) Timing of Cash Flows - In case the interest and redemption proceeds, at one single point or at different points of time, are planned to be used for meeting certain planned expenses in the future. c) Information about the Issuer and the Credit Rating - It is essential to obtain enough information about the background, the business operations, the financial position, the use of the funds being collected and the future projections to satisfy oneself of the suitability of the investment. As per the regulations in force in the capital markets, it is essential for any corporate debt security to obtain a credit rating from any of the major credit rating agencies. A proper analysis of the background and the financials of the issuer of any non-govt. debt instrument and especially the credit rating would lend greater safety to your investments.. Remember that the Yield and the Price are inversely related. So, you will be able to obtain a higher yield at a lower price. It is desirable to check on the liquidity of any corporate debt instrument before investing in it so as to ensure the availability of satisfactory exit options. The Debt Markets are suited for investors who seek decent returns over a longer time horizon with periodic cash flows. There is also a tax exemption for interest earned on G-Secs. up to Rs.3000/- under Section 80L of the Income Tax Act.

Future scenario for the Retail Debt Market in India The following are the trends, which will impact the Retail Debt Market in India in the near future: Expansion of the Retail Trading platform to enable trading in a wide range of government and non-government debt securities.

Introduction of new instruments like STRIPS, G-Secs. with call and put options, securitised paper etc. Development of the secondary market in Corporate Debt Introduction of Interest Rate Derivatives based on a wide range of underlying in the Indian Debt and Money Markets. Development of the Secondary Repo Markets.

INDICES
Free-float Index Under the 'full-market capitalization' methodology, the total market capitalization of a company, irrespective of who is holding the shares, is taken into consideration for computation of an index. However, if instead of taking the total market capitalization, only the Free-float market capitalization of a company is considered for index calculation, it is called the Free-float methodology. Free-float market capitalization is defined as that proportion of total shares issued by the company which are readily available for trading in the market. It generally excludes promoters' holding, government holding, strategic holding and other locked-in shares, which will not come to the market for trading in the normal course. Thus, the market capitalization of each company in a Free-float index is reduced to the extent of its Free-float available in the market. Free-float SENSEX is not a new Index. It is the same old 30 stock Index calculated on a more scientific and globally accepted methodology. Why a Free-float based Index? A Free-float based index is regarded as a better benchmark in comparison to a full market capitalization weighted index. It not only reflects the market trends in a more rational manner, but also aids both active and passive investing styles. It aids active managers by enabling them to benchmark their fund returns vis--vis an investible index. This enables an apple-to-apple comparison thereby facilitating better evaluation of performance of active managers. Being a perfectly replicable portfolio of stocks, a Free-float adjusted index is best suited for the passive managers as it enables them to track the index with the least tracking error. The major advantages of a free float index are: A Free-float Index reflects the market movements better. It aids passive investment because a Free-float index is easily replicable It improves index flexibility and the resultant market coverage and sector coverage It avoids the undue influence of any closely-held large-capitalization stock on the index movement It is considered as a global best practice in index construction.

Internationally, all the major index providers have shifted to the Free-float methodology. MSCI, a leading global index provider, shifted all its indices to the Free-float methodology in 2002. The MSCI India Standard Index, which is followed by FIIs to track Indian equities, is also based on the Free-float methodology. NASDAQ-100, the underlying index to the famous ETF - QQQ is based on the Free-float methodology. FTSE, Dow Jones, S&P, STOXX and other index providers are also using the Free-float methodology. BSE TECk Index, launched in July 2001, was the country's first Free-float index. On 16th June 2003, BSE launched BANKEX, a benchmark for the banking sector stocks also based on the Free-float methodology. Subsequently, SENSEX and all other BSE indices have been using this methodology (except the BSE-PSU index). Determination of the Free-float factor for each Index constituent by the BSE BSE has designed a detailed Free-float format to be filled and submitted by all index companies on a quarterly basis. BSE determines the Free-float factor for each company based on the detailed information submitted by the companies. Free-float factor is the multiple with which the total market capitalization of a company is adjusted to arrive at the Free-float market capitalization. Once the Freefloat factor of a company is determined, it is rounded-off to the higher multiple of 5 and each company is

categorized into one of the bands given below. The banding structure reduces the potential of frequent changes in Free-float factors of index companies. A Free-float factor of say 0.6 means that only 60% of the market capitalization of the company will be considered for index calculation. A free float factor occurs as 1 when more than 95% of the market capitalisation of the company is considered for index calculation. Currently ICICI ltd. Possess a free float factor of 1, as on January 2012 on Sensex. A stock market index should capture the behaviour of the overall equity market. Movements of the index should represent the returns obtained by "typical" portfolios in the country.

Ups and downs of an index

They reflect the changing expectations of the stock market about future dividends of India's corporate sector. When the index goes up, it is because the stock market thinks that the prospective dividends in the future will be better than previously thought. When prospects of dividends in the future become pessimistic, the index drops. The ideal index gives us instant-to-instant readings about how the stock market perceives the future of India's corporate sector.

The basic idea in an index

Every stock price moves for two possible reasons: news about the company (e.g. a product launch, or the closure of a factory, etc.) or news about the country (e.g. nuclear bombs, or a budget announcement, etc.). The job of an index is to purely capture the second part, the movements of the stock market as a whole (i.e. news about the country). This is achieved by averaging. Each stock contains a mixture of these two elements - stock news and index news. When we take an average of returns on many stocks, the individual stock news tends to cancel out. On any one day, there would be good stock-specific news for a few companies and bad stock-specific news for others. In a good index, these will cancel out, and the only thing left will be news that is common to all stocks. The news that is common to all stocks is news about India. That is what the index will capture.

Averaging
For technical reasons, it turns out that the correct method of averaging is to take a weighted average, and give each stock a weight proportional to its market capitalisation. Suppose an index contains two stocks A and B. A has a market capitalisation of 1000 crore and B has a market capitalisation of 3000 crore. Then we attach a weight of 1/4 to movements in A and 3/4 to movements in B.

Portfolio interpretation of index movements

It is easy to create a portfolio, which will reliably get the same returns as the index. i.e. if the index goes up by 4%, this portfolio will also go up by 4%. Suppose an index is made of two stocks, one with a market cap of 1000 crore and another with a market cap of 3000 crore. Then the index portfolio will assign a weight of 25% to the first and 75% weight to the second. If we form a portfolio of the two stocks, with a weight of 25% on the first and 75% on the second, then the portfolio returns will equal the index returns. So if you want to buy 1 lakh of this two-stock index, you would buy 25,000 of the first and 75,000 of the second; this portfolio would exactly mimic the two-stock index. A stock market index is hence just like other price indices in showing what is happening on the overall indices -- the wholesale price index is a comparable example. In addition, the stock market index is attainable as a portfolio.

Importance of Indices
By looking at an index we know how the market is faring. This information aspect also figures in myriad applications of stock market indices in economic research. This is particularly valuable when an index reflects highly up to date information) and the portfolio of an investor contains illiquid securities - in this case, the index is a lead indicator of how the overall portfolio will fare. In recent years, indices have come to the fore owing to direct applications in finance, in the form of index funds and index derivatives. Index funds are funds which passively 'invest in the index'. Index derivatives allow people to cheaply alter their risk exposure to an index (this is called hedging) and to implement forecasts about index movements (this is called speculation). Hedging using index

derivatives has become a central part of risk management in the modern economy. These applications are now a multi-trillion dollar industry worldwide, and they are critically linked up to market indices. Finally, indices serve as a benchmark for measuring the performance of fund managers. An all-equity fund should obtain returns like the overall stock market index. A 50:50 debt: equity fund should obtain returns close to those obtained by an investment of 50% in the index and 50% in fixed income. A wellspecified relationship between an investor and a fund manager should explicitly define the benchmark against which the fund manager will be compared, and in what fashion. The most important type of market index is the broad-market index, consisting of the large, liquid stocks of the country. In most countries, a single major index dominates benchmarking, index funds, index derivatives and research applications. In addition, more specialised indices often find interesting applications. In India, we have seen situations where a dedicated industry fund uses an industry index as a benchmark. In India, where clear categories of ownership groups exist, it becomes interesting to examine the performance of classes of companies sorted by ownership group. The averaging that takes place in an index is equivalent to diversification. Diversification cancels out individual stock fluctuations. From an investment perspective, diversification reduces risk. From an information perspective, diversification cancels out stock noise; the only thing left after good diversification is the common factor -- news such as nuclear bombs -- which hits all stocks and cannot possibly be removed by diversification. It is, indeed, the case that putting more stocks into an index yields more diversification. However, two things go wrong when we do this too much: First, there are diminishing returns to diversification. Going from 10 stocks to 20 stocks gives a sharp reduction in risk. Going from 50 stocks to 100 stocks gives very little reduction in risk. Going beyond 100 stocks gives almost zero reduction in risk. Hence, there is little to gain by diversifying, beyond a point. The more serious problem lies in the stocks that we take into an index when it is broadened. If the stock is illiquid, the observed prices yield contaminated information and actually worsen an index.

Problems with price information for illiquid stocks

There are three problems: 'stale prices', 'bid-ask bounce' and vulnerability to manipulation. Through these problems, an index is actually worsened when illiquid stocks are put into it.

Stale prices
Suppose we look at the closing price of an index. It is supposed to reflect the state of the stock market at 3:30 PM on NSE. Suppose an illiquid stock is in the index. The last traded price (LTP) of the stock might be an hour, or a day, or a week old! The index is supposed to show how the stock market perceives the future of the corporate sector at 3:30 PM. When an illiquid stock injects these 'stale prices' into the calculation of an index, it makes the index staler. It reduces the accuracy with which the index reflects information.

Bid-ask bounce
Suppose a stock trades at bid 1440 ask 1490. Suppose no news appears for ten minutes. But, over this period, suppose that a buy order first comes in (at 1490) followed by a sell order (at 1440). This sequence of events makes it seem that the stock price has dropped by 50. This is a totally spurious price movement! Even when no news is breaking, when a stock price is not changing, the 'bid-ask bounce' is about prices bouncing up and down between bid and ask. These changes are spurious. This problem is the greatest with illiquid stocks where the bid-ask spread is wide. When an index component shows such price changes it contaminates the index.

What about market manipulation - how would manipulation of an index take place, and how would an index be made less vulnerable to manipulation?
The index is a large entity and is intrinsically harder to manipulate when compared to individual stocks. Obviously, larger indices are harder to manipulate than smaller indices. The weak links in an index are the large, illiquid stocks. These are the Achilles heel where a manipulator obtains maximum impact upon the index at minimum cost. Optimal index manipulation consists of attacking these stocks. This is one more reason why illiquid stocks should be excluded from a market index; indeed this aspect requires that the liquidity of a stock in an index should be proportional to its market capitalisation.

The S&P CNX Nifty

Working
S&P CNX Nifty is based upon solid economic research. A trillion calculations were expended to evolve the rules inside the S&P CNX Nifty index. The results of this work are remarkably simple: (a) the correct size to use is 50, (b) stocks considered for the S&P CNX Nifty must be liquid by the 'impact cost' criterion, (c) the largest 50 stocks that meet the criterion go into the index. S&P CNX Nifty is a contrast to the adhoc methods that have gone into index construction in the preceding years, where indices were made out of intuition and lacked a scientific basis

Impact Cost
Suppose a stock trades at bid 99 and ask 101. We say the "ideal" price is 100. Now, suppose a buy order for 1000 shares goes through at 102. Then we say the market impact cost at 1000 shares is 2%. If a buy order for 2000 shares goes through at 104, we say the market impact cost at 2000 shares is 4%. Market impact cost is the best measure of the liquidity of a stock. It accurately reflects the costs faced when actually trading an index. For a stock to qualify for possible inclusion into the S&P CNX Nifty, it has to reliably have market impact cost of below 0.75 % when doing S&P CNX Nifty trades of half a crore rupees.

What do you mean by 'an S&P CNX Nifty trade'?

Earlier, we said that the index assigns weightages to index components, and the weight of a stock is proportional to its market capitalisation. This idea can be applied to buying the S&P CNX Nifty. If you buy all 50 stocks in the S&P CNX Nifty, in correct proportions, that would be called "an index trade.

What's the impact cost on a trade for 5 million of the full S&P CNX Nifty?
It is safe to think that the impact cost is 0.1% or so. This means that if S&P CNX Nifty is at 1000, a buy order goes through at 1001 and a sell order gets 999. The impact cost is not something fixed. It changes, depending upon the liquidity of the market. Indeed, the time-series of the S&P CNX Nifty impact cost is one of the best measures of changes in market liquidity over the years.

When a stock goes out and a new stock comes in, doesn't that make index levels non-comparable?
No. There are mathematical formulas, which ensure that yesterday's value and todays are comparable, even if a change in composition takes place in-between. Think of an index as a portfolio. The composition of the portfolio changes, but it is still meaningful to keep measuring the overnight returns on the portfolio from day to day. These returns, cumulated up, are the index level.

IMPORTANT POINTS ABOUT NIFTY

1.) The Nifty closing prices are calculated by taking the last half an hour weighted average closing prices of the constituents of the index. 2.) NSE tick size is 0.05 for all stocks, which encourages tight bid-ask spreads. 3.) When corporate actions take place, the market capitalisation changes and weights have to be adjusted. Rights issues, public issues and mergers all present such problems. Of course, when index set changes take place, the portfolio has to be adjusted and weights get modified.