Derivatives and Index Calculations

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Questions and Answers

What does NISM and SEBI explicitly disclaim regarding the information in the workbook?

Ownership of the content

Totality and completeness of information (correct)

Legal liability for accuracy and adequacy (correct)

The need for updates after publication

Which of the following is NOT a focus area of NISM Certification Examinations?

Derivative Securities Operations

Equities

Legal Ethics (correct)

Mutual Funds

What is the primary purpose of the School for Certification of Intermediaries (SCI) at NISM?

To monitor stock market regulations

To manage risk assessments for investment portfolios

To provide direct investment advice to clients

To develop and administer Certification Examinations (correct)

What do the certification and CPE programs aim to achieve in the securities markets?

Improving investor confidence and market intermediation Signup and view all the answers

Which of the following statements is true regarding questions in the NISM Certification examination?

Questions may include material not covered in this workbook Signup and view all the answers

What role does certification play in the careers of students and job aspirants in the securities markets?

It provides structured career paths Signup and view all the answers

Who contributed to the development and review of the workbook?

The Certification Team of NISM and industry experts Signup and view all the answers

Under which regulations are NISM certifications mandated?

Securities and Exchange Board of India (Certification of Associated Persons in the Securities Markets) Regulations, 2007 Signup and view all the answers

What is a derivative primarily defined as?

A contract whose value is derived from the value of an underlying asset. Signup and view all the answers

Which of the following is NOT considered an underlying asset for derivatives?

Real Estate Signup and view all the answers

Which historical event is associated with the speculative boom in tulip futures?

Tulip Mania in Holland Signup and view all the answers

What significant milestone occurred in the 13th Century regarding derivatives?

Cistercian Monasteries began selling wool far in advance. Signup and view all the answers

Which of the following is a key risk associated with derivatives trading?

High leverage can lead to significant losses Signup and view all the answers

What is one of the significances of derivative markets?

They provide tools for hedging against price fluctuations. Signup and view all the answers

During which period did the futures market in rice develop in Japan?

Late 17th Century Signup and view all the answers

What should you know about the nature of derivatives?

They can be based on a wide range of underlying assets. Signup and view all the answers

What was the change in the index value from January 1, 1995 to the new calculated value?

126.06% Signup and view all the answers

What is a primary consequence of tailor-made contracts not being available on exchanges?

Illiquidity in the contracts Signup and view all the answers

Which stock had the highest new market capitalization after the price change?

AZ Signup and view all the answers

What is counterparty risk?

Risk of an economic loss from one party defaulting Signup and view all the answers

How is the free float market capitalization index defined in the context of market indices?

Based on readily available equity for trading Signup and view all the answers

What happens if the market price of rice rises above the contract price at maturity?

A will purchase from the market instead of honoring the contract Signup and view all the answers

What was the total market capitalization of the stocks on January 1, 1995?

Rs. 18,800 lakhs Signup and view all the answers

How do futures contracts address the limitations of forward contracts?

They are executed through an organized exchange Signup and view all the answers

Which of the following contributes to the total market capitalization of the stocks in the index?

Price per share multiplied by the number of shares Signup and view all the answers

What is one major characteristic of futures contracts?

The clearing corporation guarantees the settlement Signup and view all the answers

Which stock showed the least percentage increase in market capitalization?

EU Signup and view all the answers

What distinguishes futures contracts from forward contracts?

Futures contracts are traded on exchanges Signup and view all the answers

How is the new value of the index calculated?

By dividing the new market cap by the old market cap and multiplying by 100 Signup and view all the answers

Which risk is also referred to as default risk or credit risk?

Counterparty risk Signup and view all the answers

Which stock had the lowest old market capitalization?

BY Signup and view all the answers

In a futures market, who decides all terms of the contract except the price?

The exchange Signup and view all the answers

What happens to the open interest if A closes their short position by buying back 50 contracts?

It remains at 150. Signup and view all the answers

On March 2, what was the total trading volume for the day?

100 contracts Signup and view all the answers

How is the price band for a futures contract determined on its first trading day?

Based on the previous day’s closing price of the underlying asset in the cash market. Signup and view all the answers

What happens to the open interest after C closes their long position by selling 100 contracts?

It falls to 50. Signup and view all the answers

Which of the following best describes a 'long position'?

An outstanding unsettled buy position in a contract. Signup and view all the answers

What was the total open interest after D closes their short position by buying back 100 contracts on March 4?

50 contracts Signup and view all the answers

What is the maximum allowable price for a contract if the previous day’s closing price was Rs.100 and the price band is 10%?

Rs.110 Signup and view all the answers

If C goes long in 100 contracts and D goes short in 100 contracts on March 2, what is the new open interest?

150 contracts Signup and view all the answers

Study Notes

### Derivatives

A derivative is a contract or a product whose value is derived from the value of some other asset known as the underlying.
There are many types of underlying assets for derivatives, including metals, energy resources, agri commodities, and financial assets.
The history of derivatives may be mapped back to several centuries, with evidence as far back as the 12th century.
The first documented futures market for rice was developed in Japan at Dojima, near Osaka in the late 17th century.

Index

There are various methods for calculating index value, including the market capitalization weighted method and the free-float market capitalization index.
The market capitalization weighted method takes the sum of the market price multiplied by the quantity of shares for each stock in the index.
Free-float market capitalization index uses the weights of each security based on free float market cap, the amount of equity readily available for trading.

Forwards

Forward contracts are non-standardized contracts between two parties to buy or sell an asset at a certain price on a future date.
Tailored contracts and lack of availability on exchanges create illiquidity in forward contracts, making it difficult to exit before maturity.
Counterparty risk in forward contracts represents the risk of economic loss due to the failure of the other party to fulfil their contractual obligation.

Futures

Futures contracts are standardized forward contracts that are traded on an exchange, overcoming the limitations of forward contracts.
The clearing corporation associated with the exchange guarantees settlement of these trades.
Traders who buy futures contracts take a long position, while those who sell take a short position.
The words buy and sell are figurative because no money or underlying asset changes hands when the deal is originated.
Features of futures include a predetermined contract size, trading on an exchange, and standard terms, except for the price.
Open interest represents the total number of outstanding contracts in the market.
Price band is the price range within which a contract is permitted to trade during a day.
Price band is calculated with respect to the previous day’s closing price of a specific contract.
Positions in derivatives market include a long position, short position, and open position:
- Long position: outstanding unsettled buy position.
- Short position: outstanding unsettled sell position.
- Open position: positions that are not settled by the end of the trading day.

Equity Derivatives

Equity derivatives are contracts whose underlying assets are stocks or indices.
Equity derivatives provide investors with opportunities for leverage, speculation, and hedging against market risk.

### NISM and SEBI

Both NISM and SEBI provide disclaimers for the information and materials they provide, especially regarding the totality, accuracy, adequacy or completeness of information and material.
NISM and SEBI do not accept legal liability based on any information contained in their materials.
The NISM certification examination will be largely based on the material in the course workbook, but NISM does not guarantee all questions in the exam will be from the covered material.

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Description

Explore the fascinating world of derivatives and index calculations in this quiz. Learn about various types of underlying assets, the history of derivatives, and the different methods for calculating index values. Test your knowledge on these financial concepts and their significance in the markets.