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Experts urge banks, markets to gear up for imminent advent of derivatives

Commercial banks would be ideally placed to act as clearing members of stock exchanges, when trading in equity derivatives starts after Parliament accords approval to amending the Securities Contract (Regulation) Act, treating 'derivative' as a security.

Expressing these views at a convention on Indian derivatives organised by the Invest India Economic Foundation held in Bombay today, the National Stock Exchange Managing Director Dr R H Patil said that banks, in their role as clearing members in the derivative environment, would be better suited to manage cash and pay margins to the clearing corporation on time.

''On account of the daily settlement in case of trading in equity derivatives notably index futures, we would have to start on a clean slate everyday. Banks can become clearing members of stock exchanges, as many of the big banks including the private ones have the concept of 'anywhere banking', whereby the central computer system of bank records the balances and thereby allows cash to be drawn from any branch of the bank,'' opined Patil.

The NSE chief said that extending this concept to the capital markets would make fund transfer more easier adding that this banks could act as clearing members for cash market also.

On the derivative markets of Singapore and Hong Kong, Dr Patil said that those economies had the advantage of having a well- developed financial system. He also justified the intervention by the regulatory authorities of Hong Kong during the stock market crisis there in 1997, saying that there is nothing wrong in regulators intervening during a crisis.

Dr Ajay Shah, assistant professor at the Indira Gandhi Institute of Development Research, in his address to the convention felt that derivatives is not an off-shoot of the financial sector, but a part of the real economy. Comparing derivatives to insurance, he said: ''All of us pay insurance premium to protect ourselves against risks.''

He added that use of derivative products enables firms and individuals to better themselves in managing risks. Speaking on the progress in introducing derivatives in India, Shah, who was a member of the L C Gupta Committee on Derivatives, said that the committee had completed its report, submitted it to the SEBI which has approved it and now Parliament would have to give its nod.

He further said that it is only a ''matter of weeks'' before commodity futures would take off (cotton futures would be the first to start). He added that the Reserve Bank of India's approval to interest rate swaps was a measure in the right direction. He foresees index futures and commodity futures taking off by next year.

Dr Surjit Bhalla, president, OX US Research and Investment spoke on the theme, ''The link between the political economy of UTI, badla (the rate of carry-forward deals) and futures'' advocated banning guaranteed returns on mutual funds.

He lambasted the argument that so long as the mutual fund had adequate reserves, it can offer assured returns to investors. ''What if the reserves fall to zero or turn negative?'', he questioned.

On the woes of the Unit Trust of India's US-64 scheme, he felt that the fund was buying stocks in a falling market, affected by the nuclear tests and a lacklustre budget. He said that in these circumstances, the fund was bound to underperform during the second quarter of 1998, despite doing extremely well in the last three years.

His two suggestions on the UTI were to make it independent from government control and divide the entity into 10 separate firms. He further advocated that the SEBI too should be made independent from the government and added that the capital market regulator needs professionals from other sectors of the economy and not just 'tax-accountants'.

On the badla system, Bhalla felt that investors should decide on it, rather than it being a monopoly of a few operators. He said that financial institutions like banks should also be allowed in badla.

Bombay Stock Exchange director Deena Mehta said that introducing derivatives would require great technological preparations and a change in the culture of the people in doing things.

She said that BSE would submit its application to the SEBI to start derivatives and hopes to commence trading in February, 1998. She emphasised on brokers following 'know your client' concept.

She said that risk management and control systems need to be strengthened to cope up with the volumes and avoiding financial disasters. She further said that the back-office should be ready to meet the new responsibilities and intermediaries should be able to handle the business.

The SEBI derivatives division cell chief N Parakh, in his presentation, said that the new provisions on derivatives would ensure that it is not regarded as a wager under the Indian Contract Act and laws of this act would not apply to derivatives.

He said that the ban on forward trading in 1969 would have to be amended. ''The circular that banned forward trading that year, allowed only spot delivery, hand delivery and special delivery''. ''In this direction, ban on option trading was lifted in 1995,'' he added.

Andrew Kai-Tak Wong, director, equity risk management, Warburg Dillon Read in Hong Kong, said that the key factors for the success of index futures was timing, credibility, edge and access.

''The market conditions should be agreeable and the institutions should proceed early in introducing index futures. The flow of information to participants should be effective and the plan to implement should be consistent,'' he said.

''The communication and margining system should be attractive,'' he added. He further said that the investors need to be educated and there should be exchange guarantee for members in the derivative segment.

UNI

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