CHAPTER-1 INTRODUCTION TO FINANCIAL MARKET
A financial market is a market in which people and entities can trade financial securities, commodities, and other fungible items of value at low transaction costs and at prices that reflect supply and demand. Securities include stocks and bonds, and commodities include precious metals or agricultural goods. There are both general markets (where many commodities are traded) and specialized markets (where only one commodity is traded). Markets work by placing many interested buyers and sellers, including households, firms, and government agencies, in one "place", thus making it easier for them to find each other. An economy which relies primarily on interactions between buyers and sellers to allocate resources is known as a market economy in contrast either to a command economy or to a non-market economy such as a gift economy.
1
In Finance, Financial Markets Facilitate: o
The raising of capital (in the capital markets)
o
The transfer of risk (in the derivatives markets)
o
Price discovery
o
Global transactions with integration of financial markets
o
The transfer of liquidity (in the money markets)
o
International trade (in the currency markets)
DEFINITION:
In economics, typically, the term market means the aggregate of possible buyers and sellers of a certain good or service and the transactions between them. The term "market" is sometimes used for what are more strictly exchanges, organizations that facilitate the trade in financial securities, e.g., a stock exchange or commodity exchange. This may be a physical location (like the NYSE, BSE, and NSE) or an electronic system (like NASDAQ). Much trading of stocks takes place on o n an exchange; still, corporate actions (merger, spinoff) are outside an exchange, while any two companies or people, for whatever reason, may agree to sell stock from the one to the other without using an exchange. Trading of currencies and bonds is largely on a bilateral basis, although some bonds trade on a stock exchange, and people are building electronic systems for these as well, similar to stock exchanges. Financial markets can be domestic or they can be international.
2
In Finance, Financial Markets Facilitate: o
The raising of capital (in the capital markets)
o
The transfer of risk (in the derivatives markets)
o
Price discovery
o
Global transactions with integration of financial markets
o
The transfer of liquidity (in the money markets)
o
International trade (in the currency markets)
DEFINITION:
In economics, typically, the term market means the aggregate of possible buyers and sellers of a certain good or service and the transactions between them. The term "market" is sometimes used for what are more strictly exchanges, organizations that facilitate the trade in financial securities, e.g., a stock exchange or commodity exchange. This may be a physical location (like the NYSE, BSE, and NSE) or an electronic system (like NASDAQ). Much trading of stocks takes place on o n an exchange; still, corporate actions (merger, spinoff) are outside an exchange, while any two companies or people, for whatever reason, may agree to sell stock from the one to the other without using an exchange. Trading of currencies and bonds is largely on a bilateral basis, although some bonds trade on a stock exchange, and people are building electronic systems for these as well, similar to stock exchanges. Financial markets can be domestic or they can be international.
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BASIC ROLES OF THE FINANCIAL MARKET:
In a very simple economy, there are two sets of economic agents: households and firms. Households save and the firms invest. It is the role of the financial sector to ensure that the savings of the household sector reaches the firms, which need the resources for investment. In reality the economy is of course much more complex than this overly simplified system. In a real economy, savers include not only households but also firms and government. Similarly, investments can be made by not only firms, but also households and the government. However, even in a more complex economy, the main function of the financial system essentially involves the mobilization of resources from those who have surplus and allocation of these resources to those who face deficit. In other words, the financial sector plays the role of an intermediary by ensuring smooth flow of resources from those who have surplus funds to those who have a shortage of o f funds. The second important role of the financial system is that of risk management. Every business enterprise involves risk. The financial institutions provide a framework for evaluating these risks. The financial market allows sharing, trading and transferring of risk among different economic agents. The third role of the financial markets is to pool and communicate information efficiently, so that market prices reflect available information. One of the important requisite for the accelerated development of an economy is the existence of a dynamic financial market. A financial market helps the economy in the following manner.
3
o
Saving Mobilization:
Obtaining funds from the savers or surplus units such as household individuals, business firms, public sector units, central government, state governments etc. is an important role played by financial markets.
o
Investment:
Financial markets play a crucial role in arranging to invest funds thus collected in those units which are in need of the same.
o
National Growth:
An important role played by financial market is that, they contributed to a nation’s
growth by ensuring unfettered flow of surplus funds to deficit units. Flow of funds for productive purposed is also made possible.
o
Entrepreneurship Growth:
Financial market contributes to the development of the entrepreneurial claw by making available the necessary financial resources.
o
Industrial Development:
The different components of financial markets help an accelerated growth of industrial and economic development of a country, thus contributing to raising the standard of living and the society of well-being.
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CHAPTER 2 -INDIAN FINANCIAL MARKET
WHAT IS INDIA FINANCIAL MARKET?
What does the India Financial market comprise of? It talks about the primary market, FDIs, alternative investment options, banking and insurance and the pension sectors, asset management segment as well. With all these elements in the India Financial market, it happens to be one of the oldest across the globe and is definitely the fastest growing and best among all the financial markets of the emerging economies. The history of Indian capital markets spans back 200 years, around the end of the 18th century. It was at this time that India was under the rule of the East India Company. The capital market of India initially developed around Mumbai; with around 200 to 250 securities brokers participating in active trade during the second half of the 19th century.
SCOPE OF THE INDIA FINANCIAL MARKET:
The financial market in India at present is more advanced than many other sectors as it became organized as early as the 19th century with the securities exchanges in Mumbai, Ahmadabad and Kolkata. In the early 1960s, the number of securities exchanges in India became eight - including Mumbai, Ahmadabad and Kolkata. Apart from these three exchanges, there was the Madras, Kanpur, Delhi, Bangalore and Pune exchanges as well. Today there are 23 regional securities exchanges in India. The Indian stock markets till date have remained stagnant due to the rigid economic controls. It was only in 1991, after the liberalization process that the India securities market witnessed a flurry of IPOs serially. The market saw many new companies spanning across different industry segments and business began to flourish. 5
The launch of the NSE (National Stock Exchange) and the OTCEI (Over the Counter Exchange of India) in the mid 1990s helped in regulating a smooth and transparent form of securities trading. The regulatory body for the Indian capital markets was the SEBI (Securities and Exchange Board of India). The capital markets in India experienced turbulence after which the SEBI came into prominence. The market loopholes had to be bridged by taking drastic measures.
POTENTIAL OF THE INDIA FINANCIAL MARKET:
India Financial Market helps in promoting the savings of the economy - helping to adopt an effective channel to transmit various financial policies. The Indian financial sector is well-developed, competitive, efficient and integrated to face all shocks. In the India financial market there are various types of financial products whose prices are determined by the numerous buyers and sellers in the market. The other determinant factor of the prices of the financial products is the market forces of demand and supply. The various other types of Indian markets help in the functioning of the wide India financial sector.
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FEATURES OF THE FINANCIAL MARKET IN INDIA:
o
India Financial Indices - BSE 30 Index, various sector indexes, stock quotes, Sensex
charts, bond prices, foreign exchange, Rupee & Dollar Chart o
o
Indian Financial market news Stock News - Bombay Stock Exchange, BSE Sensex 30 index, S&P CNX-Nifty,
company information, issues on market capitalization, corporate earnings statements o
Fixed Income - Corporate Bond Prices, Corporate Debt details, Debt trading activities,
Interest Rates, Money Market, Government Securities, Public Sector Debt, External Debt Service o
Foreign Investment - Foreign Debt Database composed by BIS, IMF, OECD,& World
Bank, Investments in India & Abroad o
Global Equity Indexes - Dow Jones Global indexes, Morgan Stanley Equity Indexes
o
Currency Indexes - FX & Gold Chart Plotter, J. P. Morgan Currency Indexes
o
National and Global Market Relations
o
Mutual Funds, Insurance
o
Loans
o
Forex and Bullion.
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CHAPTER-3 TYPES OF FINANCIAL MARKET
CAPITAL MARKET:
Capital markets provide for the buying and selling of long term debt or equity backed securities. When they work well, the capital markets channel the wealth of savers to those who can put it to long term productive use, such as companies or governments making long term investments. Financial regulators, such as the UK's Financial Services Authority (FSA) or the U.S. Securities and Exchange Commission (SEC), oversee the capital markets in their designated jurisdictions to ensure that investors are protected against fraud, among other duties. It Consists Of: i.
Stock markets, which provide financing through the issuance of shares or
common stock, and enable the subsequent trading thereof.
8
ii.
Bond markets, which provide financing through the issuance of bonds, and
enable the subsequent trading thereof . The Capital Market Is Subdivided Into:
PRIMARY MARKET
The primary market is that part of the capital markets that deals with the issuance of new securities. Companies, governments or public sector institutions can obtain funding through the sale of a new stock or bond issue. This is typically done through a syndicate [disambiguation needed] of securities dealers. The process of selling new issues to investors is called underwriting. In the case of a new stock issue, this sale is an initial public offering (IPO). Dealers earn a commission that is built into the price of the security offering, though it can be found in the prospectus. Primary markets create long term instruments through which corporate entities borrow from capital market.
Features Of Primary Markets Are: o
This is the market for new long term equity capital. The primary market is the market where the securities are sold for the first time. Therefore it is also called the new issue market (NIM).
o
In a primary issue, the securities are issued by the company directly to investors.
o
The company receives the money and issues new security certificates to the investors.
o
Primary issues are used by companies for the purpose of setting up new business or for expanding or modernizing the existing business.
o
The primary market performs the crucial function of facilitating capital formation in the economy. 9
o
The new issue market does not include certain other sources of new long term external finance, such as loans from financial institutions. Borrowers in the new issue market may be raising capital for converting private capital into public capital; this is known as "going public."
o
The financial assets sold can only be redeemed by the original holder.
Methods Of Issuing Securities In The Primary Market Are:
o
Public issuance, including initial public offering;
o
Rights issue (for existing companies);
o
Preferential issue.
SECONDARY MARKET:
The secondary market, also called aftermarket, is the financial market in which previously issued financial instruments such as stock, bonds, options, and futures are bought and sold. Another frequent usage of "secondary market" is to refer to loans which are sold by a mortgage bank to investors such as Fannie Mae and Freddie Mac. The term "secondary market" is also used to refer to the market for any used goods or assets, or an alternative use for an existing product or asset where the customer base is the second market (for example, corn has been traditionally used primarily for food production and feedstock, but a "second" or "third" market has developed for use in ethanol production). With primary issuances of securities or financial instruments, or the primary market, investors purchase these securities directly from issuers such as corporations issuing shares in an 10
IPO or private placement, or directly from the federal government in the case of treasuries. After the initial issuance, investors can purchase from other investors in the secondar y market. The secondary market for a variety of assets can vary from loans to stocks, from fragmented to centralized, and from illiquid to very liquid. The major stock exchanges are the most visible example of liquid secondary markets - in this case, for stocks of publicly traded companies. Exchanges such as the New York Stock Exchange, London Stock Exchange and NASDAQ provide a centralized, liquid secondary market for the investors who own stocks that trade on those exchanges. Most bonds and structured products trade “over the counter,” or by phoning the bond desk of one’s broker -dealer. Loans sometimes trade online using a Loan
Exchange.
o
Function Of Secondary Market:
In the secondary market, securities are sold by and transferred from one investor or speculator to another. It is therefore important that the secondary market be highly liquid (originally, the only way to create this liquidity was for investors and speculators to meet at a fixed place regularly; this is how stock exchanges originated, see History of the Stock Exchange). As a general rule, the greater the number of investors that participate in a given market place and the greater the centralization of that market place, the more liquid the market. Fundamentally, secondary markets mesh the investor's preference for liquidity (i.e., the investor's desire not to tie up his or her money for a long period of time, in case the investor needs it to deal with unforeseen circumstances) with the capital user's preference to be able to use the capital for an extended period of time. 11
Accurate share price allocates scarce capital more efficiently when new projects are financed through a new primary market offering, but accuracy may also matter in the secondary market because: 1) Price accuracy can reduce the agency costs of management, and make hostile takeover a less risky proposition and thus move capital into the hands of better managers, 2) Accurate share price aids the efficient allocation of debt finance whether debt offerings or institutional borrowing. Capital Market Primary Market
New stock or bond issues are sold
Secondary Market
Existing securities are sold and
to investors, often via a mechanism
bought among investors or traders,
known as underwriting.
usually on a securities exchange, over-the-counter, or elsewhere.
The main entities seeking to raise
The
existence
of
secondary
long term funds on the primary
markets increases the willingness
capital markets are governments
of investors in primary markets, as
(which may be municipal, local or
they know they are likely to be
national) and business enterprises
able to swiftly cash out their
(companies).
investments if the need arises.
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Governments tend to issue only bonds, whereas companies often issue either equity or bonds.
The main entities purchasing the bonds or stock include pension funds,
hedge
funds,
sovereign
wealth funds, and less commonly wealthy individuals and investment banks trading on their own behalf.
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MONEY MARKET:
The money market is a market for short-term funds, which deals in financial assets whose period of maturity is upto one year. It should be noted that money market does not deal in cash or money as such but simply provides a market for credit instruments such as bills of exchange, promissory notes, commercial paper, treasury bills, etc. These financial instruments are close substitute of money. These instruments help the business units, other organisations and the Government to borrow the funds to meet their short-term requirement. Money market does not imply to any specific market place. Rather it refers to the whole networks of financial institutions dealing in short-term funds, which provides an outlet to lenders and a source of supply for such funds to borrowers. Most of the money market transactions are taken place on telephone, fax or Internet. The Indian money market consists of Reserve Bank of India, Commercial banks, Cooperative banks, and other specialized financial institutions. The Reserve Bank of India is the leader of the money market in India. Some Non-Banking Financial Companies (NBFCs) and financial institutions like LIC, GIC, UTI, etc. also operate in the Indian money market.
o
Functions of the money market: o
Transfer of large sums of money.
o
Transfer from parties with surplus funds to parties with a deficit.
o
Allow governments to raise funds.
o
Help to implement monetary policy.
o
Determine short-term interest rates.
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o
Participants:
The money market consists of financial institutions and dealers in money or credit who wish to either borrow or lend. Participants borrow and lend for short periods of time, typically up to thirteen months. Money market trades in short-term financial instruments commonly called "paper." This contrasts with the capital market for longer-term funding, which is supplied by bonds and equity. The core of the money market consists of interbank lending--banks borrowing and lending to each other using commercial paper, repurchase agreements and similar instruments. These instruments are often benchmarked to (i.e. priced by reference to) the London Interbank Offered Rate (LIBOR) for the appropriate term and currency. Finance companies typically fund themselves by issuing large amounts of asset-backed commercial paper (ABCP) which is secured by the pledge of eligible assets into an ABCP conduit.
Examples
of
eligible
assets
include
auto
loans,
credit
card
receivables,
residential/commercial mortgage loans, mortgage-backed securities and similar financial assets. Certain large corporations with strong credit ratings, such as General Electric, issue commercial paper on their own credit. Other large corporations arrange for banks to issue commercial paper on their behalf via commercial paper lines.
o
Trading companies often purchase bankers' acceptances to be tendered for payment to overseas suppliers.
o
Retail and institutional money market funds
o
Banks
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o
Central banks
o
Cash management programs
o
Merchant Banks
o
Money Market Instruments:
Money Market Instruments Certificate Of Deposit
Time
deposit,
commonly
offered
to
consumers by banks, thrift institutions, and credit unions. Repurchase Agreements
Short-term loans — normally for less than two weeks and frequently for one day — arranged by selling securities to an investor with an agreement to repurchase them at a fixed price on a fixed date.
Commercial Paper
Unsecured promissory notes with a fixed maturity of one to 270 days; usually sold at a discount from face value.
Eurodollar Deposit
Deposits made in U.S. dollars at a bank or bank branch located outside the United States.
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Federal Agency Short-Term Securities
(In the U.S.). Short-term securities issued by government sponsored enterprises such as the Farm Credit System, the Federal Home Loan Banks and the Federal National Mortgage Association.
Federal Funds
(In the U.S.). Interest-bearing deposits held by banks and other depository institutions at the Federal Reserve; these are immediately available funds that institutions borrow or lend, usually on an overnight basis. They are lent for the federal funds rate.
Municipal Notes
(In the U.S.). Short-term notes issued by municipalities
in
anticipation
of
tax
receipts or other revenues. Treasury Bills
Short-term debt obligations of a national government that are issued to mature in three to twelve months.
Money Funds
Pooled
short
maturity,
high
quality
investments which buy money market securities
on
behalf
institutional investors.
17
of
retail
or
Foreign Exchange Swaps
Exchanging a set of currencies in spot date and the reversal of the exchange of currencies at a predetermined time in the future.
o
Difference Between Money Markets And Capital Markets:
The Money markets are used for the raising of short term finance, sometimes for loans that are expected to be paid back as early as overnight. Whereas the Capital markets are used for the raising of long term finance, such as the purchase of shares or for loans that are not expected to be fully paid back for at least a year. Funds borrowed from the money markets are typically used for general operating expenses, to cover brief periods of illiquidity. For example a company may have inbound payments from customers that have not yet cleared, but may wish to immediately pay out cash for its payroll. When a company borrows from the primary capital markets, often the purpose is to invest in additional physical capital goods, which will be used to help increase its income. It can take many months or years before the investment generate sufficient return to pay back its cost, and hence the finance is long term. Together, money markets and capital markets form the financial markets as the term is narrowly understood.
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OTHER TYPES OF FINANCIAL MARKET
COMMODITY MARKETS
DERIVATIVES MARKETS
FUTURES MARKETS
INSURANCE MARKETS
FOREIGN EXCHANGE MARKETS
A. COMMODITY MARKET:
Commodity markets are markets where raw or primary products are exchanged. These raw commodities are traded on regulated commodities exchanges, in which they are bought and sold in standardized contracts. This article focuses on the history and current debates regarding global commodity markets. It covers physical product (food, metals, and electricity) markets but not the ways that services, including those of governments, nor investment, nor debt, can be seen as a commodity. Articles on reinsurance markets, stock markets, bond markets and currency markets cover those concerns
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separately and in more depth. One focus of this article is the relationship between simple commodity money and the more complex instruments offered in the commodity markets. B. DERIVATIVES MARKET:
The derivatives market is the financial market for derivatives, financial instruments like futures contracts or options, which are derived from other forms of assets. The market can be divided into two, that for exchange-traded derivatives and that for over-the-counter derivatives. The legal nature of these products is very different as well as the way they are traded, though many market participants are active in both.
Types of Der ivatives: The most commonly used derivatives contracts are forwards, futures and
options, which we shall discuss these in detail in the FMM-II later. Here we take a brief look at various derivatives contracts that have come to be used.
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Forwards : A forward contract is a customized contract between two entities, where
settlement takes place on a specific date in the future at today’s pre-agreed price.
A futures contract is an agreement between two parties to buy or sell an asset at a Futures: certain time in the future at a certain price. Futures contracts are special types of forward contracts in the sense that the former are standardized exchange-traded contracts.
: Options are of two types - calls and puts. Calls give the buyer the right but not the Options
obligation to buy a given quantity of the underlying asset, at a given price on or before a given future date. Puts give the buyer the right, but not the obligation to sell a given quantity of the underlying asset at a given price on or before a given date.
: Options generally have lives of up to one year, the majority of options traded on Warrants
options exchanges having a maximum maturity of nine months. Longer-dated options are called warrants and are generally traded over-the-counter.
The acronym LEAPS means Long-Term Equity Anticipation Securities. These are LEAPS: options having a maturity of up to three years.
: Basket options are options on portfolios of underlying assets. The underlying Baskets
asset is usually a moving average or a basket of assets. Equity index options are a form of basket options.
Swaps are private agreements between two parties to exchange cash flows in the Swaps: future according to a prearranged formula. They can be regarded as portfolios of forward contracts. The two commonly used swaps are: Interest rate swap s: These entail swapping only the interest related cash flows between
the parties in the same currency and
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Cur rency swap s: These entail swapping both principal and interest between the parties,
with the cash flows in one direction being in a different currency than those in the opposite direction.
Swaptions are options to buy or sell a swap that will become operative at the Swaptions: 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.
C. FUTURES EXCHANGE:
A futures exchange or futures market is a central financial exchange where people can trade standardized futures contracts; that is, a contract to buy specific quantities of a commodity or financial instrument at a specified price with delivery set at a specified time in the future. These types of contracts fall into the category of derivatives. Such instruments are priced according to the movement of the underlying asset (stock, physical commodity, index, etc.). The aforementioned category is named "derivatives" because the value of these instruments is derived from another asset class. D. INSURANCE:
Insurance is a form of risk management primarily used to hedge against the risk of a contingent, uncertain loss. Insurance is defined as the equitable transfer of the risk of a loss, from one entity to another, in exchange for payment. An insurer, or insurance carrier, is a company selling the insurance; the insured, or policyholder, is the person or entity buying the insurance policy. The 22
amount to be charged for a certain amount of insurance coverage is called the premium. Risk management, the practice of appraising and controlling risk, has evolved as a discrete field of study and practice. The transaction involves the insured assuming a guaranteed and known relatively small loss in the form of payment to the insurer in exchange for the insurer's promise to compensate (indemnify) the insured in the case of a financial (personal) loss. The insured receives a contract, called the insurance policy, which details the conditions and circumstances under which the insured will be financially compensated. E. FOREIGN EXCHANGE MARKET:
The foreign exchange market (forex, FX, or currency market) is a form of exchange for the global decentralized trading of international currencies. Financial centers around the world function as anchors of trading between a wide range of different types of buyers and sellers around the clock, with the exception of weekends. EBS and Reuters' dealing 3000 are two main interbank FX trading platforms. The foreign exchange market determines the relative values of different currencies. The foreign exchange market assists international trade and investment by enabling currency conversion. For example, it permits a business in the United States to import goods from the European Union member states especially Euro zone members and pay Euros, even though its income is in United States dollars. It also supports direct speculation in the value of currencies, and the carry trade, speculation based on the interest rate differential between two currencies.
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In a typical foreign exchange transaction, a party purchases some quantity of one currency by paying some quantity of another currency. The modern foreign exchange market began forming during the 1970s after three decades of government restrictions on foreign exchange transactions (the Bretton Woods system of monetary management established the rules for commercial and financial relations among the world's major industrial states after World War II), when countries gradually switched to floating exchange rates from the previous exchange rate regime, which remained fixed as per the Bretton Woods system. The foreign exchange market is unique because of the following characteristics:
o
Its huge trading volume representing the largest asset class in the world leading to high liquidity;
o
Its geographical dispersion;
o
Its continuous operation: 24 hours a day except weekends, i.e., trading from 20:15 GMT on Sunday until 22:00 GMT Friday;
o
The variety of factors that affect exchange rates;
o
The low margins of relative profit compared with other markets of fixed income; and
o
The use of leverage to enhance profit and loss margins and with respect to account size.
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CHAPTER 4- INDIAN EQUITY MARKET/DEBT MARKET
The Indian Equity Market is more popularly known as the Indian Stock Market. The Indian equity market has become the third biggest after China and Hong Kong in the Asian region. According to the latest report by ADB, it has a market capitalization of nearly $600 billion. As of March 2009, the market capitalization was around $598.3 billion (Rs 30.13 lakh crore) which is one-tenth of the combined valuation of the Asia region. The market was slow since early 2007 and continued till the first quarter of 2009. A stock exchange has been defined by the Securities Contract (Regulation) Act, 1956 as an organization, association or body of individuals established for regulating, and controlling of securities.
The Indian equity market depends on three factors -
Funding into equity from all over the world
Corporate houses performance
Monsoons
The stock market in India does business with two types of fund namely private equity fund and venture capital fund. It also deals in transactions which are based on the two major indices Bombay Stock Exchange (BSE) and National Stock Exchange of India Ltd. (NSE). The market also includes the debt market which is controlled by wholesale dealers, primary dealers and banks. The equity indexes are allied to countries beyond the border as common calamities affect markets. E.g. Indian and Bangladesh stock markets are affected by monsoons. 25
The equity market is also affected through trade integration policy. The country has advanced both in foreign institutional investment (FII) and trade integration since 1995. This is a very attractive field for making profit for medium and long term investors, short-term swing and position traders and very intra day traders. The Indian market has 22 stock exchanges. The larger companies are enlisted with BSE and NSE. The smaller and medium companies are listed with OTCEI (Over The counter Ex change of India). The functions of the Equity Market in India are supervised by SEBI (Securities Exchange Board of India). History of Indian Equity Market The history of the Indian equity market goes back to the 18th century when securities of the East India Company were traded. Till the end of the 19th century, the trading of securities was unorganized and the main trading centers were Calcutta (now Kolkata) and Bombay (now Mumbai). Trade activities prospered with an increase in share price in India with Bombay becoming the main source of cotton supply during the American Civil War (1860-61). In 1865, there was drop in share prices. The stockbroker association established the Native Shares and Stock Brokers Association in 1875 to organize their activities. In 1927, the BSE recognized this association, under the Bombay Securities Contracts Control Act, 1925. The Indian Equity Market was not well organized or developed before independence. After independence, new issues were supervised. The timing, floatation costs, pricing, interest rates were strictly controlled by the Controller of Capital Issue (CII). For four and half decades, companies were demoralized and not motivated from going public due to the rigid rules of the Government. 26
In the 1950s, there was uncontrollable speculation and the market was known as 'Satta Bazaar'. Speculators aimed at companies like Tata Steel, Kohinoor Mills, Century Textiles, Bombay Dyeing and National Rayon. The Securities Contracts (Regulation) Act, 1956 was enacted by the Government of India. Financial institutions and state financial corporation were developed through an established network. In the 60s, the market was bearish due to massive wars and drought. Forward trading transactions and 'Contracts for Clearing' or 'badla' were banned by the Government. With financial institutions such as LIC, GIC, some revival in the markets could be seen. Then in 1964, UTI, the first mutual fund of India was formed. In the 70's, the trading of 'badla' resumed in a different form of 'hand delivery contract'. But the Government of India passed the Dividend Restriction Ordinance on 6th July, 1974. According to the ordinance, the dividend was fixed to 12% of Face Value or 1/3 rd of the profit under Section 369 of The Companies Act, 1956 whichever is lower. This resulted in a drop by 20% in market capitalization at BSE (Bombay Stock Exchange) overnight. The stock market was closed for nearly a fortnight. Numerous multinational companies were pulled out of India as they had to dissolve their majority stocks in India ventures for the Indian public under FERA, 1973. The 80's saw a growth in the Indian Equity Market. With liberalized policies of the government, it became lucrative for investors. The market saw an increase of stock exchanges, there was a surge in market capitalization rate and the paid up capital of the listed companies. The 90s was the most crucial in the stock market's history. Indians became aware of 'liberalization' and 'globalization'. In May 1992, the Capital Issues (Control) Act, 1947 was 27
abolished. SEBI which was the Indian Capital Market's regulator was given the power and overlook new trading policies, entry of private sector mutual funds and private sector banks, free prices, new stock exchanges, foreign institutional investors, and market boom and bust. In 1990, there was a major capital market scam where bankers and brokers were involved. With this, many investors left the market. Later there was a securities scam in 1991-92 which revealed the inefficiencies and inadequacies of the Indian financial system and called for reforms in the Indian Equity Market. Two new stock exchanges, NSE (National Stock Exchange of India) established in 1994 and OTCEI (Over the Counter Exchange of India) established in 1992 gave BSE a nationwide competition. In 1995-96, an amendment was made to the Securities Contracts (Regulation) Act, 1956 for introducing options trading. In April 1995, the National Securities Clearing Corporation (NSCC) and in November 1996, the National Securities Depository Limited (NSDL) were set up for demutualised trading, clearing and settlement. Information Technology scrips were the major players in the late 90s with companies like Wipro, Satyam, and Infosys. In the 21st century, there was the Ketan Parekh Scam. From 1st July 2001, 'Badla' was discontinued and there was introduction of rolling settlement in all scrips. In February 2000, permission was given for internet trading and from June, 2000, futures trading started. India Commodity Market
India commodity market consists of both the retail and the wholesale market in the country. The commodity market in India facilitates multi commodity exchange within and outside the country based on requirements. Commodity trading is one facility that investors can explore for investing their money. The India Commodity market has undergone lots of changes due to the changing 28
global economic scenario; thus throwing up many opportunities in the process. Demand for commodities both in the domestic and global market is estimated to grow by four times than the demand currently is by the next five years. Commodity Trading
Commodity trading is an interesting option for those who wish to diversify from the traditional options like shares, bonds and portfolios. The Government has made almost all commodities entitled for futures trading. Three multi commodity exchanges have been set up in the country to facilitate this for the retail investors. The three national exchanges in India are: Multi Commodity Exchange (MCX) National Commodity and Derivatives Exchange (NCDEX) National Multi-Commodity Exchange (NMCE)
Commodity trading in India is still at its early days and thus requires an aggressive growth plan with innovative ideas. Liberal policies in commodity trading will definitely boost the commodity trading. The commodities and future market in the country is regulated by Forward Markets commission (FMC). Wholesale Market
The wholesale market in India, an important component of the India commodity market, traditionally dealt with framers and manufacturers of goods. However, in the present scenario, their roles have changed to a large extent due to the enormous growth that the economy has witnessed. The lengthy process of wholesalers buying from manufacturers; then selling it to retailers who in turn sold it to consumers does not seem feasible today. An improvement in the 29
transport facility has made the interaction between the retailer and manufacturer easier; the need for a wholesale market is gradually diminishing. Retail Market
The retail market in India is currently witnessing a boom. The growth in the India commodity market is largely attributed to this boom in the retail market. Policy reforms and liberal government policies have ensured that this sector is growing at a good pace. Some of the reasons attributed to the growth of retail sector in India include the large population of the country who has an increased purchasing power in their hand. Another factor is the heavy inflow of foreign direct investment in this sector. More than 80% of the retail industry in the country is concentrated in large cities. India Commodity Market - Global Scenario
Despite having a robust economy, India's share in the global commodity market is not as big as estimated. Except gold the share in other sectors of the commodity market is not very significant. India accounts for 3% of the global oil demands and 2% of global copper demands. In agriculture India's contribution to international trade volume is rather less compared to the huge production base available. Various infrastructure development projects that are being undertaken in India are being seen as a key growth driver in the coming days.
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INDIAN DEBT MARKET
Debt market refers to the financial market where investors buy and sell debt securities, mostly in the form of bonds. These markets are important source of funds, especially in a developing economy like India. India debt market is one of the largest in Asia. Like all other countries, debt market in India is also considered a useful substitute to banking channels for finance. The most distinguishing feature of the debt instruments of Indian debt market is that the return is fixed. This means, returns are almost risk-free. This fixed return on the bond is often termed as the 'coupon rate' or the 'interest rate'. Therefore, the buyer (of bond) is giving the seller a loan at a fixed interest rate, which equals to the coupon rate.
Classification of Indian Debt Market
Indian debt market can be classified into two categories:
Government Securities Market (G-Sec Market): It consists of central and state
government securities. It means that, loans are being taken by the central and state government. It is also the most dominant category in the India debt market.
Bond Market: It consists of Financial Institutions bonds, Corporate bonds and
debentures and Public Sector Units bonds. These bonds are issued to meet financial requirements at a fixed cost and hence remove uncertainty in financial costs.
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Advantages
The biggest advantage of investing in Indian debt market is its assured returns. The returns that the market offer is almost risk-free (though there is always certain amount of risks, however the trend says that return is almost assured). Safer are the government securities. On the other hand, there are certain amounts of risks in the corporate, FI and PSU debt instruments. However, investors can take help from the credit rating agencies which rate those debt instruments. The interest in the instruments may vary depending upon the ratings. Another advantage of investing in India debt market is its high liquidity. Banks offer easy loans to the investors against government securities. Disadvantages
As there are several advantages of investing in India debt market, there are certain disadvantages as well. As the returns here are risk free, those are not as high as the equities market at the same time. So, at one hand you are getting assured returns, but on the other hand, you are getting less return at the same time. Retail participation is also very less here, though increased recently. There are also some issues of liquidity and price discovery as the retail debt market is not yet quite well developed. Debt Instruments
There are various types of debt instruments available that one can find in Indian debt market. Government Securities
It is the Reserve Bank of India that issues Government Securities or G-Secs on behalf of the Government of India. These securities have a maturity period of 1 to 30 years. G-Secs offer fixed 32
interest rate, where interests are payable semi-annually. For shorter term, there are Treasury Bills or T-Bills, which are issued by the RBI for 91 days, 182 days and 364 days. Corporate Bonds
These bonds come from PSUs and private corporations and are offered for an extensive range of tenures up to 15 years. There are also some perpetual bonds. Comparing to G-Secs, corporate bonds carry higher risks, which depend upon the corporation, the industry where the corporation is currently operating, the current market conditions, and the rating of the corporation. However, these bonds also give higher returns than the G-Secs. Certificate of Deposit
These are negotiable money market instruments. Certificate of Deposits (CDs), which usually offer higher returns than Bank term deposits, are issued in demat form and also as a Usance Promissory Notes. There are several institutions that can issue CDs. Banks can offer CDs which have maturity between 7 days and 1 year. CDs from financial institutions have maturity between 1 and 3 years. There are some agencies like ICRA, FITCH, CARE, CRISIL etc. that offer ratings of CDs. CDs are available in the denominations of ` 1 Lac and in multiple of that. Commercial Papers
There are short term securities with maturity of 7 to 365 days. CPs are issued by corporate entities at a discount to face value. - See more at: http://business.mapsofindia.com/india-market/debt.html#sthash.Jkrwow1P.dpuf
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CHAPTER -5 INDIAN STOCK EXCHANGES
As indicated above, stock exchange is the term commonly used for a secondary market, which provide a place where different types of existing securities such as shares, debentures and bonds, government securities can be bought and sold on a regular basis. A stock exchange is generally organised as an association, a society or a company with a limited number of members. It is open only to these members who act as brokers for the buyers and sellers. The Securities Contract (Regulation) Act has defined stock exchange as an “ association, organisation or body
of individuals, whether incorporated or not, established for the purpose of assisting, regulating and controlling business of buying, selling and dealing in securities”.
THE MAIN CHARACTERISTICS OF A STOCK EXCHANGE ARE:
1. It is an organized market. 2. It provides a place where existing and approved securities can be bought and sold easily. 3. In a stock exchange, transactions take place between its members or their authorized agents. 4. All transactions are regulated by rules and by laws of the concerned stock exchange. 5. It makes complete information available to public in regard to prices and volume of transactions taking place every day. It may be noted that all securities are not permitted to be traded on a recognised stock exchange. It is allowed only in those securities (called listed securities) that have been duly approved for the purpose by the stock exchange authorities. The method of trading nowa- days, however, is quite simple on account of the availability of on-line trading facility with the help of computers. It is also quite fast as it takes just a few minutes to strike a deal through the brokers who may be available close by. Similarly, on account of the system of scrip-less trading and
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rolling settlement, the delivery of securities and the payment of amount involved also take very little time, say, 2 days.
FUNCTIONS OF A STOCK EXCHANGE
The functions of stock exchange can be enumerated as follows: 1.
Provides ready and continuous market: By providing a place where listed securities can be
bought and sold regularly and conveniently, a stock exchange ensures a ready and continuous market for various shares, debentures, bonds and government securities. This lends a high degree of liquidity to holdings in these securities as the investor can encash their holdings as and when they want. 2.
Provides information about prices and sales: A stock exchange maintains complete record
of all transactions taking place in different securities every day and supplies regular information on their prices and sales volumes to press and other media. In fact, now-a-days, you can get information about minute to minute movement in prices of selected shares on TV channels like CNBC, Zee News, NDTV and Headlines Today. This enables the investors in taking quick decisions on purchase and sale of securities in which they are interested. Not only that, such information helps them in ascertaining the trend in prices and the worth of their holdings. This enables them to seek bank loans, if required. 3. Provides safety to dealings and investment: Transactions on the stock exchange are
conducted only amongst its members with adequate transparency and in strict conformity to its rules and regulations which include the procedure and timings of delivery and payment to be followed. This provides a high degree of safety to dealings at the stock exchange. There is little risk of loss on account of non-payment or nondelivery. Securities and Exchange Board of India
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(SEBI) also regulates the business in stock exchanges in India and the working of the stock brokers. Not only that, a stock exchange allows trading only in securities that have been listed with it; and for listing any security, it satisfies itself about the genuineness and soundness of the company and provides for disclosure of certain information on regular basis. Though this may not guarantee the soundness and profitability of the company, it does provide some assurance on their genuineness and enables them to keep track of their progress. 4. Helps in mobilisation of savings and capital formation: Efficient functioning of stock
market creates a conducive climate for an active and growing primary market. Good performance and outlook for shares in the stock exchanges imparts buoyancy to the new issue market, which helps in mobilising savings for investment in industrial and commercial establishments. Not only that, the stock exchanges provide liquidity and profitability to dealings and investments in shares and debentures. It also educates people on where and how to invest their savings to get a fair return. This encourages the habit of saving, investment and risk-taking among the common people. Thus it helps mobilising surplus savings for investment in corporate and government securities and contributes to capital formation. 5. Barometer of economic and business conditions: Stock exchanges reflect the changing
conditions of economic health of a country, as the shares prices are highly sensitive to changing economic, social and political conditions. It is observed that during the periods of economic prosperity, the share prices tend to rise. Conversely, prices tend to fall when there is economic stagnation and the business activities slow down as a result of depressions. Thus, the intensity of trading at stock exchanges and the corresponding rise on fall in the prices of securities reflects the investors’ assessment of the economic and business conditions in a country, and acts as the
barometer which indicates the general conditions of the atmosphere of business.
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6. Better Allocation of funds: As a result of stock market transactions, funds flow from the less
profitable to more profitable enterprises and they avail of the greater potential for growth. Financial resources of the economy are thus better allocated.
ADVANTAGES OF STOCK EXCHANGES
Having discussed the functions of stock exchanges, let us look at the advantages which can be outlined from the point of view of (a) Companies, (b) Investors, and (c) the Society as a whole. (a) To the Companies
(i) The companies whose securities have been listed on a stock exchange enjoy a better goodwill and credit-standing than other companies because they are supposed to be financially sound. (ii) The market for their securities is enlarged as the investors all over the world become aware of such securities and have an opportunity to invest (iii) As a result of enhanced goodwill and higher demand, the value of their securities increases and their bargaining power in collective ventures, mergers, etc. is enhanced. (iv) The companies have the convenience to decide upon the size, price and timing of the issue.
(b) To the Investors:
(i) The investors enjoy the ready availability of facility and convenience of buying and selling the securities at will and at an opportune time. (ii) Because of the assured safety in dealings at the stock exchange the investors are free from any anxiety about the delivery and payment problems.
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(iii) Availability of regular information on prices of securities traded at the stock exchanges helps them in deciding on the timing of their purchase and sale. (iv) It becomes easier for them to raise loans from banks against their holdings in securities traded at the stock exchange because banks prefer them as collateral on account of their liquidity and convenient valuation.
(c) To the Society
(i) The availability of lucrative avenues of investment and the liquidity thereof induces people to save and invest in long-term securities. This leads to increased capital formation in the country. (ii) The facility for convenient purchase and sale of securities at the stock exchange provides support to new issue market. This helps in promotion and expansion of industrial activity, which in turn contributes, to increase in the rate of industrial growth. (iii) The Stock exchanges facilitate realisation of financial resources to more profitable and growing industrial units where investors can easily increase their investment substantially. (iv) The volume of activity at the stock exchanges and the movement of share prices reflect the changing economic health. (v) Since government securities are also traded at the stock exchanges, the government borrowing is highly facilitated. The bonds issued by governments, electricity boards, municipal corporations and public sector undertakings (PSUs) are found to be on offer quite frequently and are generally successful.
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LIMITATIONS OF STOCK EXCHANGES
Like any other institutions, the stock exchanges too have their limitations. One of the common evils associated with stock exchange operations is the excessive speculation. You know that speculation implies buying or selling securities to take advantage of price differential at different times. The speculators generally do not take or give delivery and pay or receive full payment. They settle their transactions just by paying the difference in prices. Normally, speculation is considered a healthy practice and is necessary for successful operation of stock exchange activity. But, when it becomes excessive, it leads to wide fluctuations in prices and various malpractices by the vested interests. In the process, genuine investors suffer and are driven out of the market. Another shortcoming of stock exchange operations is that security prices may fluctuate due to unpredictable political, social and economic factors as well as on account of rumours spread by interested parties. This makes it difficult to assess the movement of prices in future and build appropriate strategies for investment in securities. However, these days good amount of vigilance is exercised by stock exchange authorities and SEBI to control activities at the stock exchange and ensure their healthy functioning, about which you will study later.
SPECULATION IN STOCK EXCHANGES
The buyers and sellers at the stock exchange undertake two types of operations, one for speculation and the other for investment. Those who buy securities primarily to earn a regular income from such investment and possibly make some long-term gain on account of price rise in future are called investors. They take delivery of the securities and make full payment of the price. Such transactions are called investment transactions. But, when the securities are bought
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with the sole object of selling them in future at higher prices or these are sold now with the intention of buying at a lower price in future, are called speculation transactions. The main objective of such transactions is to take advantage of price differential at different times. The stock exchange also provides for settlement of such transactions even by receiving or paying, as the case may be, just the difference in prices. For example, Rashmi bought 200 shares of Moser Baer Ltd. at Rs. 210 per share and sold them at Rs. 235 per share. He does not take and give delivery of the shares but settles the transactions by receiving the difference in prices amounting to Rs. 5,000 minus brokerage. In another case, Mohit bought 200 shares of Seshasayee Papers Ltd. at Rs. 87 per share and sold them at Rs. 69 per share. He settles these transactions by simply paying the difference amounting to Rs. 3600 plus brokerage. However, now-a-days stock exchanges have a system of rolling settlement. Such facility is limited only to transactions.
STOCK EXCHANGES IN INDIA
The first organised stock exchange in India was started in Mumbai known as Bombay Stock Exchange (BSE). It was followed by Ahmedabad Stock Exchange in 1894 and Kolkata Stock Exchange in 1908. The number of stock exchanges in India went upto 7 by 1939 and it increased to 21 by 1945 on account of heavy speculation activity during Second World War. A number of unorganised stock exchanges also functioned in the country without any formal set-up and were known as kerb market. The Security Contracts (Regulation) Act was passed in 1956 for recognition and regulation of Stock Exchanges in India. At present we have 23 stock exchanges in the country. Of these, the most prominent stock exchange that came up is National Stock Exchange (NSE). It is also based in Mumbai and was promoted by the leading financial institutions in India. It was incorporated in 1992 and commenced operations in 1994. This stock
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exchange has a corporate structure, fully automated screen-based trading and nation-wide coverage. Another stock exchange that needs special mention is Over The Counter Exchange of India (OTCEI). It was also promoted by the financial institutions like UTI, ICICI, IDBI, IFCI, LIC etc. in September 1992 specially to cater to small and medium sized companies with equity capital of more than Rs.30 lakh and less than Rs.25 crore. It helps entrepreneurs in raising finances for their new projects in a cost effective manner. It provides for nationwide online ringless trading with 20 plus representative offices in all major cities of the country. On this stock exchange, securities of those companies can be traded which are exclusively listed on OTCEI only. In addition, certain shares and debentures listed with other stock exchanges in India and the units of UTI and other mutual funds are also allowed to be traded on OTCEI as permitted securities. It has been noticed that, of late, the turnover at this stock exchange has considerably reduced and steps have been afoot to revitalise it. In fact, as of now, BSE and NSE are the two Stock Exchanges, which enjoy nation-wide coverage and handle most of the business in securities in the country. REGULATIONS OF STOCK EXCHANGES
As indicated earlier, the stock exchanges suffer from certain limitations and require strict control over their activities in order to ensure safety in dealings thereon. Hence, as early as 1956, the Securities Contracts (Regulation) Act was passed which provided for recognition of stock exchanges by the central Government. It has also the provision of framing of proper bylaws by every stock exchange for regulation and control of their functioning subject to the approval by the Government. All stock exchanges are required submit information relating to its affairs as required by the Government from time to time. The Government was given wide powers relating to listing of securities, make or amend bylaws, withdraw recognition to, or supersede the
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governing bodies of stock exchange in extraordinary/abnormal situations. Under the Act, the Government promulgated the Securities Regulations (Rules) 1957, which provided inter alia for the procedures to be followed for recognition of the stock exchanges, submission of periodical returns and annual returns by recognised stock exchanges, inquiry into the affairs of recognised stock exchanges and their members, and requirements for listing of securities.
ROLE OF SEBI
As part of economic reforms programme started in June 1991, the Government of India initiated several capital market reforms, which included the abolition of the office of the Controller of Capital Issues (CCI) and granting statutory recognition to Securities Exchange Board of India (SEBI) in 1992 for (a) protecting the interest of investors in securities; (b) promoting the development of securities market; (c) regulating the securities market; and (d) matters connected there with or incidental thereto. SEBI has been vested with necessary powers concerning various aspects of capital market such as:
(i)
Regulating the business in stock exchanges and any other securities market;
(ii) Registering and regulating the working of various intermediaries and mutual funds; (iii) Promoting and regulating self regulatory organizations; (iv) Promoting investors education and training of intermediaries; (v) Prohibiting insider trading and unfair trade practices;
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(vi) Regulating substantial acquisition of shares and takeover o f companies; (vii) Calling for information, undertaking inspection, conducting inquiries and aud it of stock Exchanges, and intermediaries and self regulation organizations in the stock market; (viii) Performing such functions and exercising such powers under the provisions of the Capital Issues (Control) Act, 1947 and the Securities Contracts (Regulation) Act, 1956 as may be delegated to it by the Central Government. As part of its efforts to protect investors’ interests, SEBI has initiated many primary market reforms, which include improved
disclosure standards in public issue documents, introduction of prudential norms and simplification of issue procedures. Companies are now required to disclose all material facts and risk factors associated with their projects while making public issue. All issue documents are to be vetted by SEBI to ensure that the disclosures are not only adequate but also authentic and accurate. SEBI has also introduced a code of advertisement for public issues for ensuring fair and truthful disclosures. Merchant bankers and all mutual funds including UTI have been brought under the regulatory framework of SEBI. A code of conduct has been issued specifying a high degree of responsibility towards investors in respect of pricing and premium fixation of issues. To reduce cost of issue, underwriting of issues has been made optional subject to the condition that the issue is not under-subscribed. In case the issue is under-subscribed i.e., it was not able to collect 90% of the amount offered to the public, the entire amount would be refunded to the investors. The practice of preferential allotment of shares to promoters at prices unrelated to the prevailing market prices has been stopped and private placements have been made more restrictive. All primary issues have now to be made through depository mode. The initial public offers (IPOs) can go for book building for which the price band and issue size have to be disclosed. Companies with dematerialized shares can alter the par value as and when they so
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desire.As for measures in the secondary market, it should be noted that all statutory powers to regulate stock exchanges under the Securities Contracts (Regulation) Act have now been vested with SEBI through the passage of securities law (Amendment) Act in 1995. SEBI has duly notified rules and a code of conduct to regulate the activities of intermediaries in the securities market and then registration in the securities market and then registration with SEBI is made compulsory. It has issued guidelines for composition of the governing bodies of stock exchanges so as to include more public representatives. Corporate membership has also been introduced at the stock exchanges. It has notified the regulations on insider trading to protect and preserve the integrity of stock markets and issued guidelines for mergers and acquisitions. SEBI has constantly reviewed the traditional trading systems of Indian stock exchanges and tried to simplify the procedure, achieve transparency in transactions and reduce their costs. To prevent excessive speculations and volatility in the market, it has done away with badla system, and introduced rolling settlement and trading in derivatives. All stock exchanges have been advised to set-up Clearing Corporation / settlement guarantee fund to ensure timely settlements. SEBI organizes training programmers for intermediaries in the securities market and conferences for investor education all over the country from time to time.
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