STOCK MARKET & GENERAL MARKET TERMS

Contents
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Stock Market and Exchange Stock Market. 04 Stock Exchange. 04 How Stock Market works?.................................................... 06 What is investment?.............................................................. 06 Primary and Secondary Market. 08 Stock Options 10 Risks involved in stock market. 10 Terms commonly used in Stock Market. 13 SEBI.21 BSE..25 Sensex - The Barometer Of Indian Capital Markets 28 DEMAT form of shares41 Mutual Funds43 Bonds47 Derivatives...51 References55

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STOCK MARKET AND EXCHANGE

STOCK MARKET
A stock market (also known as a stock exchange) has two main functions. The first function is to provide companies with a way of issuing shares to people who want to invest in the company. This can be illustrated by an example: Suppose a company has a mining lease over an area with some rich ore deposits. It wants to exploit these deposits, but it doesnt have any equipment. To buy the equipment it needs money. One way to raise money is through the stock market. The company issues a prospectus, which is a sort of advertisement informing people about the prospects of the company and inviting them to invest some money in it. When the company is floated (established) on the stock market, interested investors can become part-owners of the company by buying shares. If the company operates at a profit, shareholders benefit in two ways through the issuing of dividends in the form of cash or more shares, and through growth in the value of the shares. On the other hand, if the company does not operate at a profit (e.g., if the price of the product dips), the shareholders will probably lose money. The second function of the stock market, related to the first, is to provide a venue for the buying and selling of shares.

STOCK EXCHANGE
An exchange is an institution, organization, or association which hosts a market where stocks, bonds, options and futures, and commodities are traded. Buyers and sellers come together to trade during specific hours on business days. Exchanges impose rules and regulations on the firms and brokers that are involved with them. If a particular company is traded on an exchange, it is referred to as "listed". Companies that are not listed on a stock exchange are sold OTC (short for Over-TheCounter). Companies that have shares traded OTC are usually smaller and riskier because they do not meet the requirements to be listed on a stock exchange. What is a share? In finance a share is a unit of account for various financial instruments including stocks,

4 bonds, mutual funds, limited partnerships. In simple Words, a share or stock is a document solely to stocks is so common that it almost replaces the word stock itself. It is issued by a company, which entitles its holder to be one of the owners of the company. A share is issued by a company or can be purchased from the stock market. By owning a share you can earn a portion in the firm and by selling shares you get capital gain. So, your return is the dividend plus the capital gain. However, you also run a risk of making a capital loss if you have sold the share at a price below your buying price. STOCK MARKETS ARE BIG BUSINESS The buying and selling of shares on the worlds stock markets is big business, which is why we hear so much about it in the news. In 1994, the annual turnover in shares at the worlds largest stock market, the New York Stock Exchange (also known as Wall Street), was $US2.5 trillion( That is about Rs.125 trillion). Even the Australian Stock Exchange (the worlds twelfth largest) will turn over about a billion dollars worth of shares on a quiet day. Shares actually constitute a relatively small proportion of a stock markets turnover, with vast sums of money being channeled through other financial instruments such as derivatives, futures, options and bonds. It isnt possible here to describe what these are, but one example will show the sorts of numbers involved. In one unremarkable month in 1995, the world financial markets are reported to have traded $US1.2 trillion worth of currency. By comparison, Australias gross domestic product (which is the estimated total value of all goods and services produced in the country) for the whole year in 1995 was $US348 billion or less than a third of a single months currency trading! Many Indians have investments in shares listed on the Bombay Stock Exchange; some make a living by trading shares on a daily basis, while many others keep the same shares for years, hoping they will grow in value over time. But how do these investors know what stocks to buy, and when? Making good investment decisions depends on obtaining as much information about the market as possible. Cracking the codes used by the stock market would be a good start.

HOW STOCK MARKET WORKS?

5 In order to understand what stocks are and how stock markets work, we need to dive into history--specifically, the history of what has come to be known as the corporation, or sometimes the limited liability company (LLC). Corporations in one form or another have been around ever since one guy convinced a few others to pool their resources for mutual benefit. The first corporate charters were created in Britain as early as the sixteenth century, but these were generally what we might think of today as a public corporation owned by the government, like the postal service. Privately owned corporations came into being gradually during the early 19th century in the United States, United Kingdom and Western Europe as the governments of those countries started allowing anyone to create corporations. In order for a corporation to do business, it needs to get money from somewhere. Typically, one or more people contribute an initial investment to get the company off the ground. These entrepreneurs may commit some of their own money, but if they don't have enough, they will need to persuade other people, such as venture capital investors or banks, to invest in their business. They can do this in two ways: by issuing bonds, which are basically a way of selling debt (or taking out a loan, depending on your perspective), or by issuing stock, that is, shares in the ownership of the company. Long ago stock owners realized that it would be convenient if there were a central place they could go to trade stock with one another, and the public stock exchange was born. Eventually, today's stock markets grew out of these public places.

WHAT IS INVESTMENT?
Investment is a term with several closely-related meanings in finance and economics. It refers to the accumulation of some kind of asset in hopes of getting a future return from it. Assets such as equity shares or bonds held for their financial return (interest, dividends or capital appreciation), rather than for their use in the organizations operations. These days, you can't retire without using the returns from investments. You can't count on your social security checks to cover your expenses when you retire. It's barely enough

6 for people who are receiving it now to have food, shelter and utilities. It is important to have your own financial plan. There are many kinds of investments one can make that will make ones life much easier down the road. The following are brief descriptions for beginning investors to familiarize themselves with different kinds of investment options: 401K Plans The easiest and most popular kind of investment is a 401K plan. This is due to the fact that most jobs offer this savings program where the money can be automatically deducted from ones payroll check and one never realize it is missing. Life Insurance Life Insurance policies are another kind of investment that is fairly popular. It is a way to ensure income for ones family when he dies. It allows him a sense of security and provides a valuable tax deduction. Annuities If you are interested in tax-deferred income, then annuities may be the right kind of investment for you. This is an agreement between you and the insurer. It works to produce income for you and protect your earning potential. Brokered Certificates of Deposit (CDs) CDs are a kind of investment where you deposit money for a set amount of time. The good thing about CDs is that you can take the money out at any time without paying a penalty fee. We all know life isn't predictable, so this is a nice feature to have in your option. Real Estate Real Estate is a tangible kind of investment. It includes your land and anything permanently attached to your piece of property. This may include your home, rental properties, your company or empty pieces of land. Real estate is typically a smart and can make you a lot of money over time Return on Investments The money you earn or lose on your investment, expressed as a percentage

7 of your original investment. In Simple words, It is the amount received as a result of investing in particular ventures. Collective Investments Schemes Funds which manage money for a number of investors and pool it together. This enables investors to benefit from a larger number of individual investments and cost efficiencies. Short-Term Investments Short-Term Investments are generally investments with maturities of less than one year. Capital Investments Investments into the fixed capital (capital assets), including costs for the new construction, expansion, reconstruction and technical re-equipment of the operating enterprises, purchase of machinery, equipment, tools, accessories, project and investigation works and other costs and expenditures Investment in shares is one of the methods to liquefy your money.

PRIMARY AND SECONDARY MARKETS

There are two ways for investors to get shares from the primary and secondary markets. In primary markets, securities are bought by way of public issue directly from the company. In Secondary market share are traded between two investors. PRIMARY MARKET Market for new issues of securities, as distinguished from the Secondary Market, where previously issued securities are bought and sold. A market is primary if the proceeds of sales go to the issuer of the securities sold. SECONDARY MARKET The market where securities are traded after they are initially offered in the primary market is known as secondary market. Most trading is done in the secondary market. Generally, most shares have a face value (i.e. the value as in a balance sheet) of Rs.10 though not always offered to the public at this price. Companies can offer a share with a face value of Rs.10 to the public at a

8 higher price. The difference between the offer price and the face value is called the premium. As per the SEBI guidelines, new companies can offer shares to the public at a premium provided: 1. The promoter company has a 3 years consistent record of profitable working. The promoter takes up at least 50 per cent of the shares in the issue. parties applying to the issue should be offered the same instrument at the same terms, especially regarding the premium. 4. The prospectus should provide justification for the propose premium. On the other hand, existing companies can make a premium issue without the above restrictions. A companys aim is to raise money and simultaneously serve the equity capital. As far as accounting is concerned, premium is credited to reserves and surplus and it does not increase the equity. Thus the companies seek to make premium issues. In a buoyant stock market when good shares trade at very high prices, companies realize that its easy to command a high premium. The biggest difference between them is the length of time you hold onto the assets. An investor is more interested in the long-term appreciation of his assets, counting on that historical rise in market equity. Hes not generally concerned about short-term fluctuations in prices, because hell ride them out over the long haul. investor relies mostly on Fundamental Analysis, which is the analytical method of predicting long-term prospects of a particular asset. Most investors adopt a buy and hold approach to assets, which simply means they buy shares of some company and hold onto them for a long time. This approach can be dangerous, even devastating, in an extremely volatile market such as todays BSE or NSE Indexes Show. beloved company its about making money. What most Traders, on investors need to remember is this: investing is not about weathering storms with your the other hand, are attempting to profit on just those short-term price fluctuations. The amount of time an active trader holds onto an asset is very short: in many cases minutes, or sometimes seconds. If you can catch just two index points on an average day, you can make a comfortable living as a Trader. An 2. 3. All

STOCK OPTION
A stock option is a specific type of option with a stock as the underlying instrument (the security that the value of the option is based on). Thus it is a contract to buy (known as a "call" contract) or sell (known as a "put" contract) shares of stock, at a predetermined or calculable (from a formula in the contract) price. is having the Rights to purchase a corporation's stock at a specified price. In fact, there are two definitions of stock options. 1. The right to purchase or sell a stock at a specified price within a stated period. Options are a popular investment medium, offering an opportunity to hedge positions in other securities, to speculate on stocks with relatively little investment, and to capitalize on changes in the market value of options contracts themselves through a variety of options strategies. 2. A widely used form of employee incentive and compensation. In some Companies, Stock options constitute part of remuneration. Employee stock options are stock options for the company's own stock that are often offered to upper-level employees as part of the executive compensation package. An employee stock option is identical to a call option on the company's stock, with some extra restrictions. Performance Stock Options are Options that vest if pre-determined performance measures are achieved. The performance goal (revenue growth, stock-price increases) must be reached for the options to be exercisable or for the vesting to be accelerated. It

RISKS INVOLVED IN STOCK MARKET

1. To make Money in the Stock Market, you must assume High Risks. Tips to Lower your Risk: Do not put more than 10% of your money into any one stock Do not own more than 2-3 stocks in any industry Buy your stocks over time, not all at once Buy stocks with consistent and predictable earnings growth Buy stocks with growth rates greater than the total of inflation and interest rates Use stop-loss orders to limit your risk

10 2. Buy Stocks on the Way Down and Sell on the Way Up. False: People believe that a falling stock is cheap and a rising stock is too expensive. But on the way down, you have no idea how much further it may fall. If a stock is rising, especially if it has broken previous highs, there are no unhappy owners who want to dump it. If the stock is fairly valued, it should continue to rise. 3. You can Hedge Inflation with Stocks. When interest rates rise, people start to pull money out of the market and into bonds, so that pushes prices down. Plus the cost of business goes up, so corporate earnings go down, along with the stock prices. 4. Young People can afford to take High Risk. False: The only thing true about this is that young people have time on their side if they lose all their money. But young people have little disposable income to risk losing. If they follow the tips above, they can make money over many years. Young people have the time to be patient. Technical Analysis It is a method of evaluating future security prices and market directions based on statistical analysis of variables such as trading volume, price changes, etc., to identify patterns. It is a stock market term meaning- the attempt to look for numerical trends in a random function. The stock market used to be filled with technical analysts deciding what to buy and sell, until it was decided that their success rate is no better than chance. Now technical stock analysis is virtually non-existent. There are many instances of investors successfully trading a security using only their knowledge of the security's chart, without even understanding what the company does. Fundamental Analysis Fundamental analysis looks at a shares market price in light of the companys underlying business proposition and financial situation. It involves making both quantitative and qualitative judgments about a company. Fundamental analysis can be contrasted with 'technical analysis, which seeks to make judgments about the performance of a share based solely on its historic price behavior and without reference to the underlying business, the sector it's in, or the economy as a whole.

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TERMS COMMONLY USED IN STOCK MARKET

12 Some day-to-day terms we hear in context to the stock market are discussed henceforth: ACTIVE SHARES Shares in which there are frequent and day-to-day dealings, as distinguished from partly active shares in which dealings are not so frequent. Most shares of leading companies would be active, particularly those which are sensitive to economic and political events and are, therefore, subject to sudden price movements. Some market analysts would define active shares as those which are bought and sold at least three times a week. These shares are easy to buy or sell. BEAR (MANDIWALA) An investor who believes that a stock or the market in general will decline. A bear market is an extended period of falling prices in the overall market. BULL (TEJIWALA) An investor who thinks the market or a specific security or industry will rise. A bull market is an extended period in which the market consistently rises. STAG A cautious speculator, who applies for new securities in the anticipation that price will rise by the time of allotment of shares, is known as stag speculator. This is why; he applies for new shares with the intention that he will be selling these shares at higher price in future and earn good profit.

LAME DUCK When a bear finds it difficult to fulfill his commitment, he is called struggling like a lame duck. BONDS A bond is basically a promise note from the government or a private company. You agree

13 to give them a set amount of money as a loan and they keep it for a set number of years with a predetermined amount of interest. This is typically a safe bet and one that is a good investment for a first time investor because there is little risk of losing your money. BOOK VALUE Usually called as Book Value per Share and is calculated by dividing the Net Worth of a Company (common stock plus retained earnings) by the number of shares outstanding. This is the accounting value of a share of stock, the value of the company's assets a shareholder would theoretically receive if a company were liquidated. BROKER Every transaction in the stock exchange is carried out through licensed members called brokers. To trade in shares, you have to approach a broker However, since most stock exchange brokers deal in very high volumes, they generally do not entertain small investors. These brokers have a network of sub-brokers who provide them with orders. The general investors should identify a sub-broker for regular trading in shares and place his order for purchase and sale through the sub-broker. The sub/broker will transmit the order to his broker who will then execute it. A stock broker is a person or a firm that trades on its clients behalf, you tell them what you want to invest in and they will issue the buy or sell order. Some stock brokers also give out financial advice that you are charged for. It wasnt too long ago and investing was very expensive because you had to go through a full service broker which would give you advice on what to do and would charge you a hefty fee for it.

Types of stock broker 1. Full Service Broker - A full-service broker can provide a bunch of services such as investment research advice, tax planning and retirement planning. 2. Discount Broker A discount broker lets you buy and sell stocks at a low rate but

14 doesnt provide any investment advice. 3. Direct-Access Broker- A direct access broker lets you trade directly with the electronic communication networks (ECNs) so you can trade faster. Active traders such as day traders tend to use Direct Access Brokers So as you can tell there a few options for a stock broker and you really need to pick which ones suit you need. BROKER-DEALER A Broker-Dealer is a person or company in the business of both buying and selling securities. Also called an Agent when buying securities and a Principal when selling them, and may act as wither but not in the same transaction. Broker-Dealers must register with the Securities and Exchange Commission as well as with states in which they do business. BUSINESS CYCLE The cycle of economic growth and decline is known as business cycle. There are four stages in the business cycle: expansion, growth, contraction and recession. BACKWARDATION Charges paid by the bear speculator for extending settlement date in case of rise in price of security are known as backwardation. CAPITAL GAIN / LOSS The difference between the current market value of an asset and the original cost of the asset, with cost adjusted for any improvement or depreciation in the asset. CORPORATION A form of business organization in which the company is divided into shares of stock. A corporation is ongoing and the owners face only limited liability. CURRENT ASSETS Appears on a company's balance sheet, representing cash, accounts receivable, inventory,

15 marketable securities, prepaid expenses and other assets that can be converted to cash within one year. CONTANGO Charges paid by bull speculator for extending settlement date in case of fall in price are known as contango. DIVIDEND It is a profit earned by the company or the mutual fund, which is shared with the shareholders or unit-holders either partially or completely. DEBT/EQUITY RATIO A measure of a company's financial leverage, calculated by dividing long term debt by shareholders' equity is called debt to equity ratio. A higher debt/equity ratio generally means that a company has been aggressive in financing its growth with debt, which can result in volatile earnings as a result of the additional interest expense. DECLARATION DATE The date on which a company's Board of Directors meet to announce the date and amount of the next dividend payment. Once the payment has been authorized, it is known as a Declared Dividend, and becomes a legal liability that must be paid. DEFERRED INCOME TAXES On the balance sheet, deferred taxes are a liability that result from income already earned and recognized for accounting purposes but not for tax purposes. DEPRECIATION An expense recorded regularly on a company's books to reduce the value of a long-term tangible asset. Since it is a non-cash expense, it increases free cash flow while decreasing the amount of a company's reported earnings. DERIVATIVE A security, like an option or future, whose value is derived from another underlying security.

16 DEVALUATION A significant fall in the value of a currency, as compared to gold or another country's currency. DILUTION Dilution is the effect on a company's earnings per share caused by the conversion of convertible securities or the issuance of additional shares of stock. Dilution reduces earnings per share by increasing the number of shares potentially outstanding. EQUITY On the balance sheet, the value of the funds contributed by the owners (the stockholders) plus the retained earnings (or losses) is stated as equity. The balance sheet may list Owners' Equity or Shareholders' Equity. FLOAT The total number of outstanding shares available on the market. FIXED MATURITY PLAN The Fixed Maturity Plan or FMP has a portfolio investing in debt securities for fixed periods of time ranging from 3 months to 1 year, normally. Benefits range from having a quality portfolio, to greater predictability of returns, to protection from interest rate movements and to tax-free dividends. GOING PUBLIC The process of selling shares those were formerly privately-held to new investors for the first time. INFLATION Inflation refers to the increase in cost of living over a period of time. It is measured by changes in the Wholesale Price Index for manufacturers and the Consumer Price Index for consumers. For example, a masala dosa, which would cost you Rs.4.50 in 1990, costs you Rs.30.00, today.

17 INITIAL PUBLIC OFFERING In short known as an IPO, the first sale of stock by a company to the public. IPOs are often smaller, newer companies seeking equity capital to expand their businesses. LIABILITY The legal obligation to pay a debt is called so. Current liabilities are debts payable within twelve months; long-term liabilities are debts payable over a period of more than twelve months. MUTUAL FUND A mutual fund is a trust that pools together the investments of many investors and invests on their behalf into stocks, bonds, money markets etc. according to the mandate given to the mutual fund by the investors. Primarily invest in equities or equity-related instruments and are willing to bear short-term decline in value for possible future appreciation. The schemes generally have entry load and in exceptional cases, exit load. Investors having short-term objectives and seeking regular income are advised not to invest in these schemes. MARKET CAPITALIZATION The total dollar value of all outstanding shares, calculated by multiplying the number of shares times the current market price. NASDAQ Stands for the National Association of Securities Dealers Automated Quotation System. A nationwide computerized quotation system for current bid and asked quotations on over 5,500 over-the-counter stocks. STOCKS Stocks are a unique kind of investment because they allow you to take partial ownership in a company. Because of this, the returns are potentially bigger and they have a history of being a wise way to invest your money. SHARE

18 In finance a share is a unit of account for various financial instruments including stocks, bonds, mutual funds, limited partnerships. In simple Words, a share or stock is a document solely to stocks is so common that it almost replaces the word stock itself. It is issued by a company, which entitles its holder to be one of the owners of the company. A share is issued by a company or can be purchased from the stock market. By owning a share you can earn a portion in the firm and by selling shares you get capital gain. So, your return is the dividend plus the capital gain. However, you also run a risk of making a capital loss if you have sold the share at a price below your buying price. SHORT-TERM / LONG TERM CAPITAL GAIN / LOSS The gain/loss occurring on or before one year of capital investment is termed as Short-term capital gain/loss. If it exceeds one year then it is termed as Long-term capital gain/loss. SECURITY According to the Securities Exchange Act of 1934, this is the definition of a security: "The term 'security' means any note, stock, treasury stock, bond, debenture, certificate of interest or participation in any profit-sharing agreement or in any oil, gas, or other mineral royalty or lease, any collateral-trust certificate, pre organization certificate or subscription, transferable share, investment contract, voting-trust certificate, certificate of deposit, for a security, any put, call, straddle, option, or privilege on any security, certificate of deposit, or group or index of securities (including any interest therein or based on the value thereof), or any put, call, straddle, option, or privilege entered into on a national securities exchange relating to foreign currency, or in general, any instrument commonly known as a 'security'; or any certificate of interest or participation in, temporary or interim certificate for, receipt for, or warrant or right to subscribe to or purchase, any of the foregoing; but shall not include currency or any note, draft, bill of exchange, or banker's acceptance which has a maturity at the time of issuance of not exceeding nine months, exclusive of days of grace, or any renewal thereof the maturity of which is likewise limited. TARANIWALAS In BSE jobbers are called Taraniwalas. They may work as broker also. In BSE authorized assistant or agent of the Taraniwalas can purchase and sell securities on behalf of

19 Taraniwalas. These agents are called half commission agents. They usually specialize in one or two securities.

SEBI (Securities and Exchange Board of India)

In 1988 the Securities and Exchange Board of India (SEBI) was established by the Government of India through an executive resolution, and was subsequently upgraded as a fully autonomous body (a statutory Board) in the year 1992 with the passing of the

20 Securities and Exchange Board of India Act (SEBI Act) on 30th January 1992. In place of Government Control, statutory and autonomous regulatory boards with defined responsibilities, to cover both development & regulation of the market, and independent powers have been set up. Paradoxically this is a positive outcome of the Securities Scam of 1990-91. The basic objectives of the Board were identified as: To protect the interests of investors in securities; To promote the development of Securities Market; To regulate the securities market and For matters connected therewith or incidental thereto. Since its inception SEBI has been working targeting the securities and is attending to the fulfillment of its objectives with commendable zeal and dexterity. The improvements in the securities markets like capitalization requirements, margining, establishment of clearing corporations etc. reduced the risk of credit and also reduced the market. SEBI has introduced the comprehensive regulatory measures, prescribed registration norms, the eligibility criteria, the code of obligations and the code of conduct for different intermediaries like, bankers to issue, merchant bankers, brokers and sub-brokers, registrars, portfolio managers, credit rating agencies, underwriters and others. It has framed bye-laws, risk identification and risk management systems for Clearing houses of stock exchanges, surveillance system etc. which has made dealing in securities both safe and transparent to the end investor. Another significant event is the approval of trading in stock indices (like S&P CNX Nifty & Sensex) in 2000. A market Index is a convenient and effective product because of the following reasons: It acts as a barometer for market behavior; It is used to benchmark portfolio performance; It is used in derivative instruments like index futures and index options; It can be used for passive fund management as in case of Index Funds. Two broad approaches of SEBI is to integrate the securities market at the national level, and also to diversify the trading products, so that there is an increase in number of traders including banks, financial institutions, insurance companies, mutual funds, and primary dealers etc. to transact

21 through the Exchanges. In this context the introduction of derivatives trading through Indian Stock Exchanges permitted by SEBI in 2000 AD is a real landmark. SEBI appointed the L. C. Gupta Committee in 1998 to recommend the regulatory framework for derivatives trading and suggest bye-laws for Regulation and Control of Trading and Settlement of Derivatives Contracts. The Board of SEBI in its meeting held on May 11, 1998 accepted the recommendations of the committee and approved the phased introduction of derivatives trading in India beginning with Stock Index Futures. The Board also approved the "Suggestive Bye-laws" as recommended by the Dr LC Gupta Committee for Regulation and Control of Trading and Settlement of Derivatives Contracts. SEBI then appointed the J. R. Verma Committee to recommend Risk Containment Measures (RCM) in the Indian Stock Index Futures Market. The report was submitted in November 1998. However the Securities Contracts (Regulation) Act, 1956 (SCRA) required amendment to include "derivatives" in the definition of securities to enable SEBI to introduce trading in derivatives. The necessary amendment was then carried out by the Government in 1999. The Securities Laws (Amendment) Bill, 1999 was introduced. In December 1999 the new framework was approved. Derivatives have been accorded the status of `Securities'. The ban imposed on trading in derivatives in 1969 under a notification issued by the Central Government was revoked. Thereafter SEBI formulated the necessary regulations/bye-laws and intimated the Stock Exchanges in 2000. The derivative trading started in India at NSE in 2000 and BSE started trading in the year 2001.

Its main functions are providing for: regulating the business in stock exchanges and any other securities markets registering and regulating the working of stock brokers, sub-brokers, share transfer agents, bankers to an issue, trustees of trust deeds, registrars to an issue, merchant

22 bankers, underwriters, portfolio managers, investment advisers and such other intermediaries who may be associated with securities markets in any manner. Registering and regulating the working of the depositories, participants, custodians of securities, foreign institutional investors, credit rating agencies and such other intermediaries as the Board may, by notification, specify in this behalf. registering and regulating the working of venture capital funds and collective investment schemes including mutual funds; promoting and regulating self-regulatory organizations; prohibiting fraudulent and unfair trade practices relating to securities markets; promoting investors' education and training of intermediaries of securities markets; prohibiting insider trading in securities; regulating substantial acquisition of shares and takeover of companies; calling for information from, undertaking inspection, conducting inquiries and audits of the stock exchanges, mutual funds and other persons associated with the securities market and intermediaries and self- regulatory organisations in the securities market; calling for information and record from any bank or any other authority or board or corporation established or constituted by or under any Central, State or Provincial Act in respect of any transaction in securities which is under investigation or inquiry by the Board;19 performing such functions and exercising such powers under the provisions of

23 [...] 20 Securities Contracts (Regulation) Act, 1956, as may be delegated to it By the Central Government; levying fees or other charges for carrying out the purpose of this section; conducting research for the above purposes; calling from or furnishing to any such agencies, as may be specified by the Board, such information as may be considered necessary by it for the efficient discharge of its functions; Performing such other functions as may be prescribed.

BSE (BOMBAY STOCK EXCHANGE)

Bombay Stock Exchange Limited is the oldest stock exchange in Asia with a rich heritage. Popularly known as "BSE", it was established as "The Native Share & Stock Brokers Association" in 1875. It is the first stock exchange in the country to obtain permanent recognition in 1956 from the Government of India under the Securities Contracts (Regulation) Act, 1956.The Exchange's pivotal and pre-eminent role in the development of the Indian capital market is widely recognized and its index, SENSEX, is tracked worldwide. Earlier an Association of Persons (AOP), the Exchange is now a demutualised and corporatised entity incorporated under the provisions of the Companies Act, 1956, pursuant to the BSE (Corporatisation and Demutualization) Scheme, 2005 notified by the Securities and Exchange Board of India (SEBI).

24 Of the 22 stock exchanges in the country, Mumbai's (earlier known as Bombay), Bombay Stock Exchange is the largest, with over 6,000 stocks listed. The BSE accounts for over two thirds of the total trading volume in the country. Approximately 70,000 deals are executed on a daily basis, giving it one of the highest per hour rates of trading in the world. There are around 3,500 companies in the country which are listed and have a serious trading volume. The market capitalization of the BSE is Rs.5 trillion. The BSE `Sensex' is a widely used market index for the BSE. With demutualization, the trading rights and ownership rights have been de-linked effectively addressing concerns regarding perceived and real conflicts of interest. The Exchange is professionally managed under the overall direction of the Board of Directors. The Board comprises eminent professionals, representatives of Trading Members and the Managing Director of the Exchange. The Board is inclusive and is designed to benefit from the participation of market intermediaries. In terms of organization structure, the Board formulates larger policy issues and exercises overall control. The committees constituted by the Board are broad-based. The day-to-day operations of the Exchange are managed by the Managing Director and a management team of professionals. The Exchange has a nation-wide reach with a presence in 417 cities and towns of India. The systems and processes of the Exchange are designed to safeguard market integrity and enhance transparency in operations. During the year 2004-2005, the trading volumes on the Exchange showed robust growth. The Exchange provides an efficient and transparent market for trading in equity, debt instruments and derivatives. The BSE's On Line Trading System (BOLT) is a proprietary system of the Exchange and is BS 7799-2-2002 certified. The surveillance and clearing & settlement functions of the Exchange are ISO 9001:2000 certified. PREFACE For the premier Stock Exchange that pioneered the stock broking activity in India, 125 years of experience seem to be a proud milestone. A lot has changed since 1875 when 318 persons

25 became members of what today is called "Bombay Stock Exchange Limited" by paying a princely amount of Re1. Since then, the stock market in the country has passed through both good and bad periods. The journey in the 20th century has not been an easy one. Till the decade of eighties, there was no measure or scale that could precisely measure the various ups and downs in the Indian stock market. Bombay Stock Exchange Limited (BSE) in 1986 came out with a Stock Index that subsequently became the barometer of the Indian Stock Market. BSE-SENSEX, first compiled in 1986 is a "Market Capitalization-Weighted" index of 30 component stocks representing a sample of large, well-established and financially sound companies. The base year of BSE-SENSEX is 1978-79. The index is widely reported in both domestic and international markets through print as well as electronic media. BSE-SENSEX is not only scientifically designed but also based on globally accepted construction and review methodology. The "Market Capitalization-Weighted" methodology is a widely followed index construction methodology on which majority of global equity benchmarks are based. The growth of equity markets in India has been phenomenal in the decade gone by. Right from early nineties the stock market witnessed heightened activity in terms of various bull and bear runs. More recently, the bourses in India witnessed a similar frenzy in the 'TMT' sectors. The BSE-SENSEX captured all these happenings in the most judicial manner. One can identify the booms and bust of the Indian equity market through BSE-SENSEX. The launch of BSE-SENSEX in 1986 was later followed up in January 1989 by introduction of BSE National Index (Base: 1983-84 = 100). It comprised of 100 stocks listed at five major stock exchanges in India at Mumbai, Calcutta, Delhi, Ahmedabad and Madras. The BSE National Index was renamed as BSE-100 Index from October 14, 1996 and since then it is calculated taking into consideration only the prices of stocks listed at BSE. With a view to provide a better representation of the increased number of companies listed, increased market capitalization and the new industry groups, the Exchange constructed and launched on 27th May, 1994, two new index series viz., the 'BSE-200' and the 'DOLLEX-200' indices. Since then, BSE has come a long way in attuning itself to the varied needs of investors

26 and market participants. In order to fulfill the need of the market participants for still broader, segment-specific and sector-specific indices, the Exchange has continuously been increasing the range of its indices. The launch of BSE-200 Index in 1994 was followed by the launch of BSE500 Index and 5 sectoral indices in 1999. In 2001, BSE launched the BSE-PSU Index, DOLLEX-30 and the country's first free-float based index - the BSE TECk Index taking the family of BSE Indices to 13. The Exchange also disseminates the Price-Earnings Ratio, the Price to Book Value Ratio and the Dividend Yield Percentage on day-to-day basis of all its major indices. The values of all BSE indices (except the Dollar version of indices) are updated every 15 seconds during the market hours and displayed through the BOLT system, BSE website and news wire agencies. All BSE-Indices are reviewed periodically by the "Index Committee" of the Exchange. The committee frames the broad policy guidelines for the development and maintenance of all BSE indices. The Index Cell of the Exchange carries out the day to day maintenance of all indices and conducts research on development of new indices. BSE - OTHER INDICES Apart from BSE SENSEX, which is the most popular stock index in India, BSE uses other stock indices as well: BSE 100 BSE 500 BSEPSU BSEMIDCAP BSESMLCAP BSEBANKEX

SENSEX - THE BAROMETER OF INDIAN CAPITAL MARKETS

INTRODUCTION

27 For the premier Stock Exchange that pioneered the stock broking activity in India, 128 years of experience seems to be a proud milestone. A lot has changed since 1875 when 318 persons became members of what today is called "The Stock Exchange, Mumbai" by paying a princely amount of Re1. Since then, the country's capital markets have passed through both good and bad periods. The journey in the 20th century has not been an easy one. Till the decade of eighties, there was no scale to measure the ups and downs in the Indian stock market. The Stock Exchange, Mumbai (BSE) in 1986 came out with a stock index that subsequently became the barometer of the Indian stock market. SENSEX is not only scientifically designed but also based on globally accepted construction and review methodology. First compiled in 1986, SENSEX is a basket of 30 constituent stocks representing a sample of large, liquid and representative companies. The base year of SENSEX is 1978-79 and the base value is 100. The index is widely reported in both domestic and international markets through print as well as electronic media. The Index was initially calculated based on the "Full Market Capitalization" methodology but was shifted to the free-float methodology with effect from September 1, 2003. The "Free-float Market Capitalization" methodology of index construction is regarded as an industry best practice globally. All major index providers like MSCI, FTSE, STOXX, S&P and Dow Jones use the Free-float methodology. Due to is wide acceptance amongst the Indian investors; SENSEX is regarded to be the pulse of the Indian stock market. 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 over the years become one of the most prominent brands in the country. The growth of equity markets in India has been phenomenal in the decade gone by. Right from early nineties the stock market witnessed heightened activity in terms of various bull and bear runs. The SENSEX captured all these events in the most judicial manner. One can identify the booms and busts of the Indian stock market through SENSEX.

28

OBJECTIVES OF SENSEX Sensex is treated as the benchmark index of the Indian capital markets with wide acceptance globally among individual investors, institutional investors, foreign investors and fund managers. The main objectives of the index are to measure market movements and to be a benchmark for fund managers to compare their fund performance. SENSEX Calculation Methodology SENSEX is calculated using the "Free-float Market Capitalization" methodology. As per this methodology, 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 free-float 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 Freefloat 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 scrip etc. During market hours, prices of the index scrip, at which latest trades are executed, are used by the trading system to calculate SENSEX every 15 seconds and disseminated in real time. WHO SELECTS 30 STOCKS They are selected by the index committee. This committee consists of individuals including academicians, mutual fund managers, finance journalists, independent governing board members and other participants in the financial markets. `HOW DO THEY SELECT 30 STOCKS?

29 Well, they definitely don't do it on the basis of their individual whims and fancies. Some of the criteria they follow include: ~ The stock should have been traded on each and every trading day (the days on which the stock market works) for the past one year. ~ It should be among the top 150 companies listed by average number of trades (buying or selling of shares) and the average value of the trades (in actual rupee terms) per day over the past one year. ~ The stock must have been listed on the BSE for at least one year.

UNDERSTANDING FREE FLOAT METHOD CONCEPT Free-float Methodology refers to an index construction methodology that takes into consideration only the free-float market capitalization of a company for the purpose of index calculation and assigning weight to stocks in Index. Free-float market capitalization is defined as that proportion of total shares issued by the company that are readily available for trading in the market. It generally excludes promoters' holding, government holding, strategic holding and other lockedin shares that will not come to the market for trading in the normal course. In other words, the market capitalization of each company in a Free-float index is reduced to the extent of its readily available shares in the market. In India, BSE pioneered the concept of Free-float by launching BSE TECk in July 2001 and BANKEX in June 2003. While BSE TECk Index is a TMT benchmark, BANKEX is positioned as a benchmark for the banking sector stocks. SENSEX becomes the third index in India to be based on the globally accepted Free-float Methodology.

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MAJOR ADVANTAGES OF FREE FLOAT METHOD

A Free-float index reflects the market trends more rationally as it takes into consideration only Free-float Methodology makes the index more broad-based by reducing the concentration of

those shares that are available for trading in the market.

top few companies in Index. For example, the concentration of top five companies in SENSEX has fallen under the free-float scenario thereby making the SENSEX more diversified and broadbased.

A Free-float index aids both active and passive investing styles. It aids active managers by

enabling them to benchmark their fund returns vis--vis an invest-able 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.

Free-float Methodology improves index flexibility in terms of including any stock from the

universe of listed stocks. This improves market coverage and sector coverage of the index. For example, under a Full-market capitalization methodology, companies with large market capitalization and low free-float cannot generally be included in the Index because they tend to distort the index by having an undue influence on the index movement. However, under the Freefloat Methodology, since only the free-float market capitalization of each company is considered for index calculation, it becomes possible to include such closely held companies in the index while at the same time preventing their undue influence on the index movement.

Globally, the Free-float Methodology of index construction is considered to be an industry best

practice and all major index providers like MSCI, FTSE, S&P and STOXX have adopted the same. 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 Foreign Institutional Investors (FIIs) to track Indian equities, is also based on the Free-float Methodology. NASDAQ-100, the underlying index to the famous Exchange Traded Fund (ETF) - QQQ is based on the Free-float Methodology.

31 DEFINITION OF FREE FLOAT Share holdings held by investors that would not, in the normal course come into the open market for trading are treated as 'Controlling/ Strategic Holdings' and hence not included in free-float. In specific, the following categories of holding are generally excluded from the definition of Freefloat:

Holdings by founders/directors/ acquirers which has control element Holdings by persons/ bodies with "Controlling Interest" Government holding as promoter/acquirer Holdings through the FDI Route Strategic stakes by private corporate bodies/ individuals Equity held by associate/group companies (cross-holdings) Equity held by Employee Welfare Trusts Locked-in shares and shares which would not be sold in the open market in normal course.

The remaining shareholders would fall under the Free-float category.

DETERMINING FREE FLOAT FACTORS OF A COMPANY BSE has designed a Free-float format, which is filled and submitted by all index companies on a quarterly basis with the Exchange. (Format available on http://www.bseindia.com/) The Exchange determines the Free-float factor for each company based on the detailed information submitted by the companies in the prescribed format. Free-float factor is a multiple with which the total market capitalization of a company is adjusted to arrive at the Free-float market capitalization. Once the Free-float of a company is determined, it is rounded-off to the higher multiple of 5 and each company is categorized into one of the 20 bands given below. A Freefloat factor of say 0.55 means that only 55% of the market capitalization of the company will be considered for index calculation.

FREE FLOAT BANDS

32 % Free-Float >0 5% >5 10% >10 15% >15 20% >20 25% >25 30% >30 35% >35 40% >40 45% >45 50% Free-Float Factor 0.05 0.10 0.15 0.20 0.25 0.30 0.35 0.40 0.45 0.50 % Free-Float >50 55% >55 60% >60 65% >65 70% >70 75% >75 80% >80 85% >85 90% >90 95% >95 100% Free-Float Factor 0.55 0.60 0.65 0.70 0.75 0.80 0.85 0.90 0.95 1.00

INDEX CLOSURE ALGORITHM The closing SENSEX on any trading day is computed taking the weighted average of all the trades on SENSEX constituents in the last 30 minutes of trading session. If a SENSEX constituent has not traded in the last 30 minutes, the last traded price is taken for computation of the Index closure. If a SENSEX 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. HOW IS THE ROUTINE MAINTENANCE OF SENSEX CARRIED OUT? 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 additional issue of capital and other corporate announcements like bonus etc. do not destroy the 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. The index cell of the exchange does the day-to-day maintenance of the index within the broad index policy framework set by the index committee. The index cell takes special care to ensure that Sensex and all the other BSE indices maintain their benchmark properties by striking a delicate balance between high turnover in index scrips and its representative character. The index committee of the exchange has experts from different field of finance related to the capital markets. They include academicians, fund-managers from leading mutual funds, finance journalists, market participants, independent governing board members, and exchange

33 administration. HOW ARE ADJUSTMENTS FOR BONUS, RIGHTS AND NEWLY ISSUED CAPITAL CARRIED OUT IN SENSEX ? The arithmetic calculation involved in calculating Sensex is simple, but problem arises when one of the component stocks pays a bonus or issues rights shares. If no adjustments were made, a discontinuity would arise between the current value of the index and its previous value. The index cell of the exchange periodically adjusts the base value to take care of such corporate announcements. Adjustments for rights issues: When a company, included in the compilation of the index, issues right shares, the 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 base market capitalization = old base market capitalization X (New market capitalization/old market capitalization) For example, suppose a company issues right shares which increases the market capitalization of the shares of that company by say, Rs.100 crores. The existing base market capitalization (old base market capitalization), say, is Rs.2,450 crores and the aggregate market capitalization of all the shares included in the index before the right issue is made is, say Rs.4,781 crores. The "new base market capitalization will then be: Rs.2, 501.24 crores = 2,450 X (4,781+100)/4,781 This figure of 2,501.24 will be used as the base market capitalization for calculating the index number from then onwards till the next base change becomes necessary.

34

ONLINE COMPUTATION OF THE INDEX During market hours, prices of the index scrips, at which trades are executed, are automatically used by the trading computer to calculate the SENSEX every 15 seconds and continuously updated on all trading workstations connected to the BSE trading computer in real time.

CRITERIA FOR REVIEW AND SELECTION OF SENSEX CONSTITUENTS The scrip selection and review policy for BSE Indices is based on the objective of:

Improvement Transparency Simplicity

QUALIFICATION CRITERIA The general guidelines for selection of constituent scrips in SENSEX are as follows: A. Quantitative Criteria: 1.Final Rank: The scrip should figure in the top 100 companies listed by Final Rank. The final rank is arrived at by assigning 75% weightage to the rank on the basis of six-month average full market capitalization and 25% weightage to the liquidity rank based on six-month average daily turnover & six-month average impact cost. 2.Trading Frequency: The scrip should have been traded on each and every trading day for the last six months. Exceptions can be made for extreme reasons like scrip suspension etc. 3.Market Capitalization Weightage: The weight of each scrip in SENSEX based on six-month average Free-Float market capitalization should be at least 0.5% of the Index. 4.Industry Representation: Scrip selection would take into account a balanced representation of the listed companies in the universe of BSE. The index companies should be leaders in their industry group.

35 5.Listed History: The scrip should have a listing history of at least 3 months on BSE. However, the Committee may relax the criteria under exceptional circumstances.

B. Qualitative Criteria: TRACK RECORD In the opinion of the Committee, the company should have an acceptable track record. INDEX REVIEW FREQUENCY The Index Committee meets every quarter to review all BSE indices. However, every review meeting need not necessarily result in a change in the index constituents. In case of a revision in the Index constituents, the announcement of the incoming and outgoing scrips is made six weeks in advance of the actual implementation of the revision of the Index. BOOK BUILDING - ABOUT BOOK BUILDING Book Building is basically a capital issuance process used in Initial Public Offer (IPO) which aids price and demand discovery. It is a process used for marketing a public offer of equity shares of a company. It is a mechanism where, during the period for which the book for the IPO is open, bids are collected from investors at various prices, which are above or equal to the floor price. The process aims at tapping both wholesale and retail investors. The offer/issue price is then determined after the bid closing date based on certain evaluation criteria. THE PROCESS

The Issuer who is planning an IPO nominates a lead merchant banker as a 'book runner'. The Issuer specifies the number of securities to be issued and the price band for orders. The Issuer also appoints syndicate members with whom orders can be placed by the investors. Investors place their order with a syndicate member who inputs the orders into the 'electronic

book'. This process is called 'bidding' and is similar to open auction.

A Book should remain open for a minimum of 5 days.

36

Bids cannot be entered less than the floor price. Bids can be revised by the bidder before the issue closes. On the close of the book building period the 'book runner evaluates the bids on the basis of the

evaluation criteria which may include o o o

Price Aggression Investor quality Earliness of bids, etc. The book runner and the company conclude the final price at which it is willing to issue the

stock and allocation of securities.

Generally, the numbers of shares are fixed; the issue size gets frozen based on the price per

share discovered through the book building process.

Allocation of securities is made to the successful bidders. Book Building is a good concept and represents a capital market which is in the process of

maturing. GUIDELINES FOR BOOK BUILDING SYSTEM Rules governing book building is covered in Chapter XI of the Securities and Exchange Board of India (Disclosure and Investor Protection) Guidelines 2000. BSEs BOOK BUILDING SYSTEM

BSE offers the book building services through the Book Building software that runs on the

BSE Private network.

This system is one of the largest electronic book building networks anywhere spanning over

350 Indian cities through over 7000 Trader Work Stations via eased lines, VSATs and Campus LANS

The software is operated through book-runners of the issue and by the syndicate member

brokers. Through this book, the syndicate member brokers on behalf of themselves or their clients' place orders.

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Bids are placed electronically through syndicate members and the information is collected on

line real-time until the bid date ends.

In order to maintain transparency, the software gives visual graphs displaying price v/s

quantity on the terminals.

INITIAL PUBLIC OFFERINGS 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 or a combination of both. In case the issuer chooses to issue securities through the book building route then as per SEBI guidelines, an issuer company can issue securities in the following manner: a.100% of the net offer to the public through the book building route. b.75% of the net offer to the public through the book building process and 25% through the fixed price portion. c.Under the 90% scheme, this percentage would be 90 and 10 respectively.

Difference between shares offered through book building and offer of shares through normal public issue: Features Pricing Fixed Price process Price at which the securities are offered/allotted is known in Book Building process Price at which securities will be offered/allotted is not known in advance to the investor. Only an

advance to the investor. indicative price range is known. Demand Demand for the securities offered Demand for the securities offered can be known is known only after the closure of everyday as the book is built. the issue Payment Payment if made at the time of subscription wherein refund is Payment only after allocation.

38 given after allocation.

BOOK BUILDING - GLOSSARY

BID A bid is the demand for a security that can be entered by the syndicate/sub-syndicate members in the system. The two main components of a bid are the price and the quantity. BIDDER The person who has placed a bid in the Book Building process is called so. BOOK RUNNING LEAD MANAGER A Lead Merchant Banker who has been appointed by the Issuer Company to work as the Book Running Lead Manager for the company is called so. The name of the Book Runner Lead Manager is mentioned in the offer document of the Issuer Company. FLOOR PRICE The minimum offer price below which bids cannot be entered. The Issuer Company in consultation with the Book Running Lead Manager fixes the floor price. MERCHANT BANKER An entity registered under the Securities and Exchange Board of India (Merchant Bankers) Regulations, 1999. SYNDICATE MEMBERS Syndicate Members are the intermediaries registered with the Board and permitted to carry on activity as underwriters. The Book Running Lead Managers to the issue appoints the Syndicate

39 Members. ORDER BOOK It is an 'electronic book' that shows the demand for the shares of the company at various prices.

DEMAT FORM OF SHARES

There are two forms of shares physical or dematirialised (demat) shares. you have the choice to receive the securities in either mode. If you wish to have securities in demat mode, you need to indicate the name of the depository and also of the depository participant with whom you have depository account in your application. It is, however desirable that you hold securities in demat form as physical securities carry the risk of being fake, forged or stolen. Just as you have to open an account with a bank if you want to save your money, make cheque payments etc, Nowadays, you need to open a demat account if you want to buy or sell stocks. So it is just like a bank account where actual money is replaced by shares. You have to approach the DPs (they are like bank branches), to open your demat account. Let's say your portfolio of shares looks like this: 150 of Infosys, 50 of Wipro, 200 of HLL and 100 of ACC. All these will show in your demat account. So you don't have to possess any physical certificates showing that you own these shares. They are all held electronically in your account. As you buy and sell the shares, they are adjusted in your account. Just like a bank passbook or statement, the DP will provide you with periodic statements of holdings and transactions. Is a demat account a must? Nowadays, practically all trades have to be settled in dematerialized form. Although the market regulator, the Securities and Exchange Board of India (SEBI), has allowed trades of up to 500 shares to be settled in physical form, nobody Though the company is under obligation to offer the securities in both physical and demat mode,

40 wants physical shares any more. So a demat account is a must for trading and investing. Most banks are also DP participants, as are many brokers.

DIFFERENCE BETWEEN A BROKER AND A DP A broker is separate from a DP. A broker is a member of the stock exchange, who buys and sells shares on his behalf and on behalf of his clients. A DP will just give you an account to hold those shares.

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MUTUAL FUNDS
A mutual fund is a form of collective investment that pools money from many investors and invests the money in stocks, bonds, short-term money market instruments, and/or other securities. [1] In a mutual fund, the fund manager trades the fund's underlying securities, realizing capital gains or loss, and collects the dividend or interest income. The investment proceeds are then passed along to the individual investors. The value of a share of the mutual fund, known as the net asset value (NAV), is calculated daily based on the total value of the fund divided by the number of shares purchased by investors. USAGE Mutual funds can invest in many different kinds of securities. The most common are cash, stock, and bonds, but there are hundreds of sub-categories. Stock funds, for instance, can invest primarily in the shares of a particular industry, such as technology or utilities. These are known as sector funds. Bond funds can vary according to risk (high yield or junk bonds, investment-grade corporate bonds), type of issuers (government agencies, corporations, or municipalities), or maturity of the bonds (short or long term). Both stock and bond funds can invest in primarily US securities (domestic funds), both US and foreign securities (global funds), or primarily foreign securities (international funds). By law, mutual funds cannot invest in commodities and their derivatives or in real estate. However, there do exist real estate investment trusts, or REITs, which invest solely in real estate or mortgages, and mutual funds are allowed to hold shares in REITs. A mutual fund may restrict itself in other ways. These restrictions, permissions, and policies are found in

42 the prospectus, which every open-end mutual fund must make available to a potential investor before accepting his or her money. Most mutual funds' investment portfolios are continually adjusted under the supervision of a professional manager, who forecasts the future performance of investments appropriate for the fund and chooses the ones which he or she believes will most closely match the fund's stated investment objective. A mutual fund is administered through a parent management company, which may hire or fire fund managers. Mutual funds are subject to a special set of regulatory, accounting, and tax rules. Unlike most other types of business entities, they are not taxed on their income as long as they distribute substantially all of it to their shareholders. Also, the type of income they earn is often unchanged as it passes through to the shareholders. Mutual fund distributions of taxfree municipal bond income are also tax-free to the shareholder. Taxable distributions can either be ordinary income or capital gains, depending on how the fund earned it.

TYPES OF MUTUAL FUNDS Open-end fund The term Mutual fund is the common name for an open-end investment company. Being open-ended means that at the end of every day, the investment management company sponsoring the fund issues new shares to investors and buys back shares from investors wishing to leave the fund. Mutual Funds may be legally structured as corporations or business trusts but in either instance are classed as open-end investment companies by the SEC. Other funds have a limited number of shares; these are either closed-end fund or unit investment trusts neither of which are mutual funds. Exchange-traded funds A relatively new innovation, the exchange traded fund (ETF), is often formulated as an open-end investment company. The way ETFs work combines characteristics of both

43 mutual funds and closed-end funds. An ETF usually tracks a stock index (see Index funds). Shares are only created or redeemed by institutional investors in large blocks (typically 50,000 shares). Investors typically purchase shares in small quantities through brokers at a small premium or discount to the net asset value through which the institutional investor makes their profit. Because the institutional investors handle the majority of trades, ETFs are more efficient than traditional mutual funds and therefore tend to have lower expenses. ETFs are traded throughout the day on a stock exchange, just like closed-end funds. Equity funds An equity fund, which mainly consists of stock investments, is the most common type of mutual fund. Equity funds hold 49 percent of total funds invested in mutual funds in the United States. Oftentimes equity funds focus investments on particular strategies and certain types of companies. Capitalization Some mutual funds focus investments on companies of particular size ranges, with size measured by their market capitalization. The size ranges include micro-cap (very small companies), small-cap, mid-cap, and large-cap (large companies). Fund managers and other investment professionals have varying definitions of these market cap ranges. NET ASSET VALUE The net asset value, or NAV, is a fund's value of its holdings, usually expressed as a pershare amount. For most funds, the NAV is determined daily, after the close of trading on some specified financial exchange, but some funds update their NAV multiple times during the trading day.

TURNOVER

44 Turnover is a measure of the amount of securities that are bought and sold, usually in a year, and usually expressed as a percentage of net asset value. It shows how actively managed the fund is.

MUTUAL FUNDS vs. OTHER INVESTMENTS Mutual funds offer several advantages over stock investments, including diversification and professional management. A mutual fund may hold investments in hundreds or thousands of stocks, thus reducing risk of any particular stock. Also, the transaction costs associated with buying individual stocks are also spread around among all the mutual fund shareholders. As well, a mutual fund benefits from professional fund managers who can apply their expertise and dedicate time to research investment options. Mutual funds, however, are not immune to risks. Mutual funds share the same risks associated with the types of investments the fund makes. If the fund mainly invests in stocks, the mutual fund is usually subject to the same ups and downs and risks as the stock market. CRITICISM OF MUTUAL FUNDS The primary criticism of actively managed mutual funds comes from the historical fact that, over long periods of time, most have not returned as much as an index fund would. There are also other criticisms levied against mutual funds as a consequence of the first criticism. One critique covers the concept of the sales load, an upfront or deferred fee as high as 8.5 percent of the amount invested in a fund.

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BONDS
In finance, a bond is a debt security, in which the issuer owes the holders a debt and is obliged to repay the principal and interest (the coupon). Other stipulations may also be attached to the bond issue, such as the obligation for the issuer to provide certain information to the bond holder, or limitations on the behavior of the issuer. Bonds are generally issued for a fixed term (the maturity) longer than one year. A bond is just a loan, but in the form of a security, although terminology used is rather different. The issuer is equivalent to the borrower, the bond holder to the lender and the coupon to the interest. Debt securities with a maturity shorter than one year are typically bills, certificates of deposit or commercial paper, and considered money market instruments. Bonds and stocks are both securities, but the difference is that stock holders own a part of the issuing company (have an equity stake), whereas bond holders are in essence lenders to the issuer. Also bonds have a definite lifespan, their maturity, whereas stocks may be held indefinitely. An exception is a consol bond, which is perpetuity.

Types of bond Fixed rate bonds have a coupon that remains constant throughout the life of the bond.

46 Floating rate notes (FRN's) have a coupon that is linked to a money market index, such as LIBOR or EURIBOR, for example three months USD LIBOR +0.20%. The coupon is then reset periodically, normally every three months. High yield bonds are bonds that are rated below investment grade by the credit rating agencies. As these bonds are relatively risky, investors expect to earn a higher yield, hence the name high yield bonds. Those market participants that want to emphasize the risky nature of the bonds also call them junk bonds. Zero coupon bonds do not pay any interest. They trade at a substantial discount from par. The bond holder receives the full principal amount on the maturity date. An example of zero coupon bonds is Series E savings bonds issued by the U.S. Government. Zero coupon bonds may be created from fixed rate bonds by financial institutions by "stripping off" the coupons. In other words, the coupons are separated from the final principal payment of the bond and traded independently. Inflation linked bonds, in which the principal amount is indexed to inflation. The interest rate is lower than for fixed rate bonds with a comparable maturity. However, as the principal amount grows, the payments increase with inflation. The government of the United Kingdom was the first to issue inflation linked Gilts in the 1980s. Treasury Inflation-Protected Securities (TIPS) and I-bonds are examples of inflation linked bonds issued by the U.S. Government. Asset-backed securities are bonds whose interest and principal payments are backed by underlying cash flows from other assets. Examples of asset-backed securities are mortgage-backed securities (MBS), collateralized mortgage obligations (CMO) and collateralized debt obligations (CDO). Subordinated bonds are those that have a lower priority than other bonds of the issuer in case of liquidation. In case of bankruptcy, there is a hierarchy of creditors. First the liquidator is paid, then government taxes, etc. The first bond holders in line to be paid are those holding what is called senior bonds. After they have been paid, the subordinated bond holders are paid. As a result, the risk is higher.

47 Therefore, subordinated bonds usually have lower credit rating then senior bonds. The main examples of subordinated bonds can be found in bonds issued by banks, and asset-backed securities. The latter are often issued in tranches. The senior tranches get paid back first, the subordinated tranches later. Perpetual bonds are also often called perpetuities. They have no maturity date. The most famous of these are the UK Consols, which are also known as Treasury Annuities or Undated Treasuries. Some of these were issued back in 1888 and still trade today. Some ultra long-term bonds (sometimes a bond can last centuries: Weat Shore Railroad issued a bond which matures in 2361 (i.e. 24th century)) are sometimes viewed as perpetuities from a financial point of view, with the current value of principal near zero.

BOND TERMINOLOGY Bonds may have characteristics that are good for the buyer, the seller, or both. Here are some features a bond may (or may not) offer: Mature - Bonds have lifetimes. Depending on the type of bond, that lifetime can last anywhere from one month to 50 years. Callable - This is a term that means the company or agency that issued the bond has the right to call the bond back in at a time of their choice. In other words they buy the bond back before it matures. They might do this at a time when interest rates are falling in order to issue new bonds at lower rates so they'll save money. This isn't always a bad deal for those who bought the bonds either, because there is an extra "premium" added to the face value of the bond. Put provision - Just as call ability allows the seller to call the bond back before it matures, some (but not too many) bonds have a "put provision" that gives the person who bought the bond a chance to sell it back at face value before it matures. It can't be done at any time, however; the seller must schedule this ahead of time.

48 People who own bonds sometimes "put" their bonds when interest rates are rising so they can invest their money where it will earn more. Convertible bonds - Sometimes bonds can be converted into stock in the company that issued them. At the time the convertible bonds are issued, exactly when and at what price they can be converted to stocks is specified. This type of bond usually offers lower interest rates initially, but they also offer the potential for higher earnings as a stock. Secured bonds - Bonds that are backed by collateral are called "secured" bonds. This means that the company or agency that issued the bond also has money or assets to cover the bond's value. This money or the assets would be given to the people who bought the bonds in the event the company went bankrupt. Unsecured bonds - Also called debentures, unsecured bonds are not backed by collateral; they're simply backed by the creditworthiness of the company or agency issuing the bonds. Government bonds are unsecured because the U.S. government is so creditworthy.

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DERIVATIVES
A derivative is a generic term for specific types of investments from which payoffs over time are derived from the performance of assets (such as commodities, shares or bonds), interest rates, exchange rates, or indices (such as a stock market index, consumer price index (CPI) or an index of weather conditions). This performance can determine both the amount and the timing of the payoffs. The diverse range of potential underlying assets and payoff alternatives leads to a huge range of derivatives contracts available to be traded in the market. The main types of derivatives are futures, forwards, options and swaps. TYPES OF DERIVATIVES - OTC AND EXCHANGE TRADED Broadly speaking there are two distinct groups of derivative contracts, which are distinguished by the way that they are traded in market: Over-the-counter (OTC) derivatives are contracts that are traded directly between two parties, without going through an exchange or other intermediary. Products such as swaps, forward rate agreements, and exotic options are almost always traded in this way. The OTC derivatives market is huge. Exchange-traded derivatives are those derivatives products that are traded via

Derivatives exchanges. A derivatives exchange acts as an intermediary to all transactions, and takes Initial margin from both sides of the trade to act as a guarantee. The world's largest derivatives exchanges (by number of transactions) are the Korea Exchange (which

50 lists KOSPI Index Futures & Options), Eurex (which lists a wide range of European products such as interest rate & index products), Chicago Mercantile Exchange and the Chicago Board of Trade.

- COMMON CONTRACT TYPES There are three major classes of derivatives: Futures/Forwards, which are contracts to buy or sell an asset at a specified future date. Options which are contracts that give the buyer the right (but not the obligation) to buy or sell an asset at a specified future date. Swaps, where the two parties agree to exchange cash flows

VALUATION MARKET PRICE AND FAIR VALUE Two common measures of value are: Market price, i.e. the price at which traders are willing to buy or sell the contract Fair value or the theoretical price, i.e. a rational and unbiased estimate of the contract's fundamental value

DETERMINING THE MARKET PRICE For exchange traded derivatives, market price is usually transparent (often published in real-time by the exchange, based on all the current bids and offers placed on that particular contract at any one time). Complications can arise with OTC or floor-traded contracts though, as trading are handled manually, making it difficult to automatically broadcast prices. In particular with OTC contracts, there is no central exchange to collate and disseminate prices.

51 DETERMINING FAIR VALUE The fair value of a derivatives contract is often complex, partly because of the immense variation in the contracts, and partly because there are often many different variables to consider. Fair valuation of derivatives is a central topic of financial mathematics, where "fair" refers to the absence of arbitrage, meaning that no risk less profits can be made by trading in assets. Crucial to the valuation of derivatives is also the stochastic of the underlying assets, typically expressed as a stochastic process.

USAGES INSURANCE AND HEDGING One use of derivatives is as a tool to transfer risk. For example, farmers can sell futures contracts on a crop to a speculator before the harvest. The farmer offloads (or hedges) the risk that the price will rise or fall, and the speculator accepts the risk with the possibility of a large reward. The farmer knows for certain the revenue he will get for the crop that he will grow; the speculator will make a profit if the price rises, but also risks making a loss if the price falls. It is not unknown for farmers to walk away smiling, when they have lost out in the derivatives market, as the result of a hedge. In this case, they have profited from the real market from the sale of their crops. Contrary to popular belief, financial markets are not always a zero-sum game. This is an example of a situation where both parties in a financial markets transaction benefit. Another example is the company General Electric. This company uses derivatives to "match funding" (GE web cast on derivatives) to mitigate interest rate and currency risk, and to lock in material costs. The program is strictly for forecasted and highly anticipated needs, and not a means to generate non-operating revenues. 90% of all derivatives revenue produced by derivatives sellers is for this kind of cost, cash, accounts receivable and accounts payable planning.

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SPECULATION AND ARBITRAGE Of course, speculators may trade with other speculators as well as with hedgers. In most financial derivatives markets, the value of speculative trading is far higher than the value of true hedge trading. As well as outright speculation, derivatives traders may also look for arbitrage opportunities between different derivatives on identical or closely related underlying securities. Other uses of derivatives are to gain an economic exposure to an underlying security in situations where direct ownership of the underlying is too costly or is prohibited by legal or regulatory restrictions, or to create a synthetic short position. In addition to directional plays (i.e. simply betting on the direction of the underlying security), speculators can use derivatives to place bets on the volatility of the underlying security. This technique is commonly used when speculating with traded options. Speculative trading in derivatives gained a great deal of notoriety in 1995 when Nick Leeson, a trader at Barings Bank, made poor and unauthorized investments in index futures. Through a combination of poor judgment on his part, lack of oversight by management, a naive regulatory environment and unfortunate outside events, Leeson incurred a 1.3 billion dollar loss that bankrupted the centurys old financial institution. PRICING AND INFORMATION SHARING Futures markets are unusually efficient at gathering and processing information, and are often an extremely accurate predictor of events such as interest rate movements and oil price movements. DARPA also examined the idea of developing a futures market for world events, the Policy Analysis Market, with the idea of predicting terrorism amongst other things. The idea was halted due to political uproar, as it was pointed out that terrorists could trade on the market and directly profit from their activities.

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REFERENCES

1. Book: Profitable Investment in Shares- Grewal, G.S. 2. Online Encyclopedia: Wikipedia (www.wikipedia.com) 3. Online Trivia Website: How Stuff Works? (www.howstuffworks.com) 4. Official Website of BSE (www.bseindia.com) 5. Investment-Specific Website (www.investmentpedia.com) 6. References of Peoplea. Mr. Nishant Seth b. Mr. Tarun Jyot Singh c. Relatives and family members who take keen interest in Stock Markets Analysis