Finance Case Study - Derivatives Trading in India|Finance|Case Study|Case Studies

Derivatives Trading in India

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Case Details:

Case Code : FINC026
Case Length : 15 Pages
Period : 2000 - 2003
Pub. Date : 2004
Teaching Note :Not Available
Organization : Bombay Stock Exchange
Industry : Banking and Financial Services
Countries : India

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This case study was compiled from published sources, and is intended to be used as a basis for class discussion. It is not intended to illustrate either effective or ineffective handling of a management situation. Nor is it a primary information source.

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The Debate and The Result

Those who opposed the introduction of derivatives argued that these instruments would significantly increase speculation in the market.

They said that derivatives could be used for speculation by investors by taking large price positions in the stock market while committing only a small amount of capital as margin.

For instance, instead of an investor buying stocks worth Rs.1 million (mn), he could buy futures contracts on Rs.1 mn of stocks by investing a few thousand rupees as margin. Thus, trading in derivatives encouraged investors to speculate - taking on more risk while putting forward less investment. They were quick to point out some of the disasters of the past that had occurred due to the mismanagement of trading in derivatives (Refer Exhibit III)...

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A Few Issues Remain

By January 2004, more than three and a half years of derivatives trading had been completed. However, according to several analysts and media reports, SEBI, NSE and BSE had still to resolve many issues so that the derivatives market could realize its full potential.

For instance, the issue of imposing taxes on income arising from derivatives trading still remained to be sorted out. The Income Tax Act of India did not have any specific provision regarding taxability of derivatives income. The tax authorities were still undecided on the issue, and in the absence of any provision, derivatives transactions were held on par with transactions of a speculative nature (in particular, the index futures/options which were essentially cash settled, were treated this way). Therefore, the loss, if any, arising from derivatives transactions, was treated as a speculative loss and was eligible to be set off only against speculative income upto a maximum period of eight years...

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