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NCERT Summary: Stock Markets in India- 1 - Notes | Study Indian Economy for UPSC CSE - UPSC

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A stock exchange is an organization which provides a platform for trading shares-either physical or virtual. The origin of the stock, market dates back to the year 1494, when the Amsterdam Stock Exchange was first set up. In a stock exchange, investors through stock brokers buy and sell shares in a wide range of listed companies. A given company may list in one or more exchanges by meeting and maintaining the listing requirements of the stock exchange.

In financial terminology, stock is the capital raised by a corporation, through the issuance and sale of shares. In common parlance, however, stocks and shares are used interchangeably. A shareholder is any person or organization which owns one or more shares issued by a corporation. The aggregate value of a corporation's issued shares, at current market prices, is its market capitalization. Stock broker buys and sells for an investor and does the work of arranging the transfer of stock from a seller to a buyer.

Importance of Stock Exchanges

  • For efficient working of the economy and for the smooth functioning of the corporate form of organization, the stock exchange is an essential institution.
  • an efficient medium for raising long term resources for business
  • Help raise savings from the general public by the way of issue of equity debt capital
  • attract foreign currency
  • exercise discipline on companies and make them profitable
  • investment in backward regions for job generation
  • another vehicle for investors' savings

Stock Exchanges in India
The first company that issued shares was the VOC or Dutch East India Company in. the early 17th century (1602). Since then we have come a long way. With over 25m shareholders today, India has the third largest investor base in the world after the USA and Japan. Over 9,000 companies are listed on the stock exchanges, which are serviced by approximately 7,500 stockbrokers. The Indian capital market is significant in terms of the degree of development, volume of trading and its tremendous growth potential.

Stock exchanges provide an organised market for transactions in securities and other securities. There are 24 stock exchanges in the country, 21 of them being regional ones with allocated areas. Three other are set up in the reforms era, viz. National Stock Exchange (NSE), the Over the Counter Exchange India Limited (OTCEI) and Inter-connected Stock Exchange of India Limited (1SE) Important Stock Exchanges in India are Bombay Stock Exchange, popularly known as BSE and National Stock Exchange located in Bombay.

Stock Exchanges in India —
1. Ludhiana
2. New Delhi
3. Jaipur
4. Meerut
5. Ahmedabad
6. Rajkot
7. Indore
8. Vadodara
9. Bombay
10. Pune
11. Hyderabad
12. Mangalore
13. Bangalore
14. Emakulam
15. Coimbatore
16. Madras
17. Patna
18. Karipur
19. Bhubaneshwar
20. Calcutta
21. Guwahati

The Bombay Stock Exchange, or (BSE) is the oldest stock exchange in Asia located at Dalal Street in Mumbai, India. Established in the year 1875, it is the largest securities exchange in India with more than 6,000 listed Indian companies. BSE is also the fifth largest exchange in the world with market capitalization of US $1.6 trillion (2011). About 5000 companies are listed on the BSE.

Overall performance of BSE is measured using the BSE SENSEX or the BSE 30 index. This index is composed of 30 BSE stocks. These stocks are selected from specified group shares on the basis of market cap, liquidity, depth, trading frequency and industry representation. BSE 3D was introduced in 1986. Apart from BSE 30, there are various other indices used in the BSE: Some of these include BSE 100, BSE 200, BSE 500, BSE PSU, BSE MIDCAP. BSE SMLCAP etc. One of the unique features inside the BSE includes the automatic online trading system known as BOLT that ensures an efficient and transparent market for trading in equity, debt instruments and derivatives. BSE contributes phenomenally to the overall economic development and capital markets in India.

In 2005, the status of the exchange changed from an Association of Persons (AoP) to a full fledged corporation under the BSE (Corporatization and Demutualization) Scheme, 2005 and its name was changed to The Bombay Stock Exchange Limited.

Classification of companies listed in BSE
NCERT Summary: Stock Markets in India- 1 - Notes | Study Indian Economy for UPSC CSE - UPSC

Sensex or Sensitive Index is a value-weighted index composed of 30 companies with the base 1978- 1979 = 100. It consists of the 30 largest and most actively traded blue chip stocks, representative of various sectors, on the Bombay Stock Exchange. Inclusion of the company is basically on the basis of market capitalization. The 30 companies in the index are revised periodically- some are replaced by others and new sectors may find representation as the economy evolves. The Sensex is generally regarded a mirror or barometer of the Indian stock markets and economy.

Demutualization is when management and ownership are separated. Ownership is divested from the brokers and the company becomes a public company. All stock exchanges are to be demutualised according to the Government law made in 2004. Demutualization, thus means that ownership, management and trading rights are separated in a stock exchange.

National Stock Exchange of India
The National Stock Exchange of India (NSE), is one of the largest and most advanced stock exchanges in India. In the year 1991 Pherwani Committee recommended to establish National Stock Exchange (NSE) in India. In 1992 the Government of India authorized IDBI for establishing this exchange. The National Stock Exchange of India was promoted by leading Financial Institutions and was incorporated in 1992. In 1993, it was recognized as a stock exchange. NSE commenced operations in 1994. It is located in Mumbai, the financial capital of India.
Following financial institutions were the promoters of National Stock Exchange:

  • Industrial Development Bank of India (IDBI).
  • Industrial Finance Corporation of India (IFCI).
  • Industrial credit and Investment corporation of India (ICICI).
  • Life Insurance Corporation of India (LIC).
  • General Insurance Corporation of India (GIC).
  • SBI Capital Markets Limited.
  • Stock Holding Corporation of India Limited.
  • Infrastructure Leasing and Financial services Limited.

The Standard & Poor's CRISIL NSE Index 50 or S&P CNX Nifty - Nifty 50 or simply Nifty is the leading index for large companies on the National Stock Exchange of India. The Nifty is a well diversified 50 stock index accounting for 21 sectors of the economy. The CNX Nifty Junior is an index for companies on the National Stock Exchange of India. It consists of 50 companies on the National Stock Exchange of India. It has the second tier of stocks in terms of market cap and don't make it into Nifty.

The Inter-Connected Stock Exchange of India Limited (ISE)
The Inter-Connected Stock Exchange of India Limited (ISE) is being promoted by regional stock exchanges to set up a new national level stock exchange. The ISE would provide a national market in addition to the trading facility at the regional stock exchanges.

BSE, Federation of Indian Stock Exchanges and regional stock exchanges have promoted Indonext. The regional stock exchanges that are part of Indonext include Madras Stock Exchange, Bangalore Stock Exchange, Interconnected Stock Exchanges of India, Ludhiana Stock Exchange and Vadodara Stock Exchange. Indonext is envisaged to bring liquidity and attention to stocks that are listed on RSEs.

Over the Counter Exchange of India (OTCEI)
The OTC Exchange of India (OTCEI) incorporated under the provisions of the Companies Act 1956, is a public limited company. It allows listing of small and medium sized companies. OTCEI is promoted by the Unit Trust of India, Industrial Development Bank of India, the Industrial Finance Corporation of India and others and is a recognised stock exchange.

SEBI(Securities and Exchange Board of India)
The capital markets in India are regulated by the Securities and Exchange Board of India. (SEBI) It was established in 1988 and given a statutory basis in 1992 on the basis of the Parliamentary Act- SEBI Act 1992 to regulate and develop capital market. SEBI regulates the working of stock exchanges and intermediaries such as stock brokers and merchant bankers, accords approval for mutual funds, and registers Foreign Institutional Investors who wish to trade in Indian scrips. Section 11(1) of the SEBI Act says that it shall be the duty of the Board to protect the interests of investors in securities.

SEBI promotes investor's education and training of intermediaries of securities markets. It prohibits fraudulent and unfair trade practices relating to securities markets, and inter trading in securities, with the imposition of monetary penalties, on erring market intermediaries. It also regulates substantial acquisition of shares and takeover of companies and calling for information from, carrying out inspection, conducting inquiries and audits of the stock exchanges and intermediaries and self regulatory organizations in the securities market. SEBI has its head office in Mumbai and its three regional offices in New Delhi, Calcutta and Chennai. SEBI's powers were enhanced in 2002 -strengthen the SEBS board, enlarge it to nine from six and appoint three full-time directors; given enhanced powers to conduct search and seizure etc.

SEBI and the Reforms
The Stock Exchange Seam of 1992 (Harshad Mehta) and the scam in 2000 (Ketan Parekh) led to various measures by the Government to protect the interests of the small investors. SEBI introduced reforms like improved transparency, computerisation, enactment against insider trading, restrictions on forward trading, introduction of T + 2 system of settlement etc. The restriction and elimination of forward or Contango trading, referred to in India as 'Badla' is a bold step to check speculation and manipulation of the market. Some more steps taken by SEBI to strengthen markets are:

  • SEBI reconstituted governing boards of the stock exchanges, introduced capital adequacy norms for brokers, and makes rules for making client/ broker relationship more transparent
  • SEBI enforces corporate disclosures.
  • Enforces ban on insider trading
  • Protects retail investors
  • SEBI is empowered to register and regulate mutual funds.
  • introducing a code of conduct for all credit rating agencies operating in India.
  • Clause 49 of the listing agreement that SEBI introduced mandates that all listed companies should have half the Directors on the Board as Independent Directors.

Sebi makes new rules 2009
The Securities and Exchange Board of India (SEBI) approved the "anchor investor" concept under which an investor can subscribe to up to 30 percent of the quota for institutional investors in an initial public offering. Under the new rules, an anchor investor would pay 25 percent of the total investment at the time of applying for the initial public offering, and the balance within two days of the closure of the issue. Such anchor investors would have to adhere to a lock-in period of one month from the date of the share allotment.

Capital Market Reforms
Since 1991 when the Government launched economic reforms, the following measures were taken.

  • SEBI given statutory status- that is Act of Parliament
  • Electronic trade
  • Rolling settlement to reduce speculation
  • FIIs are permitted since 1992
  • setting up of clearing houses
  • settlement guarantee funds at all stock exchanges
  • compulsory dematerialization of share certificates so as to remove problems associated with paper trading; and speed up the transfer
  • clause 49 of the listing agreement for corporate governance
  • restrictions on PNs

Primary Market
The primary market is that part of the capital markets that deals with the issuance of new securities directly by the company to the investors. Companies, governments or public sector institutions can obtain funding through the sale of a new stock or bond issue.

In the case of a new stock issue, this sale is called an initial public offering (IPO).

FPO (Follow on Public offer)
If the company already issued shares and is going to the market again with a new issue, it is called Follow on Public Offer (FPO).Secondary Market
The secondary market is the financial market for trading of securities that have already been issued in an initial public offering. Once a newly issued stock is listed on a stock exchange, investors and speculators can trade on the exchange as there are buyers and sellers.
Types of shares
There are essentially two types of shares: common stock and preferred stock. Preferred stock is generally issued to banks by the companies though retail investors are also eligible for them. They are preferred for the following reasons.

  • In terms of dividend payment, generally, they are given dividends even if the common stock holders are not.
  • When the company is to be closed, preference stock holders are given money first from the proceeds of the sale of the assets of the companies.
  • They may have enhanced voting rights such as the ability to veto mergers or acquisitions or the right of first refusal when new shares are issued (i.e. the holder of the preferred stock can buy as much as they want before the stock is offered to others).

Derivative is a financial instrument. It derives from an underlying asset- securities, debt instruments, commodities etc. The price of the derivative is directly dependent upon the value of the underlying asset in the present and the projected future trends. Futures and options are the two classes of derivates. 

Buyback of Shares
Buy back of shares is the process of a corporation's repurchase of stock it has issued. In the case of stocks, this reduces the number of shares outstanding, giving each remaining shareholder a larger percentage ownership of the company. This is usually considered a sign that the company's management is optimistic about the future and believes that the current share price is undervalued. The company also should have reserves to do so.

Reasons for buybacks include

  • putting unused cash to use
  • raising earnings per share
  • reducing the number of shareholders to reduce the cost for servicing them, etc.

Shares bought back need to be cancelled and thus the total equity shrinks and the shareholders benefit. Buyback price is more than the market prices. Companies can buy back with the reserves but can not borrow to buyback. It is allowed in India since 1998.

Rolling Settlement
A Rolling Settlements is a mechanism of settling trades. In Rolling Settlements, trades done on a single day are settled separately from the trades of another day on the basis of Trade day + 2 days (T+2). Such petting of trades is done only for the day. As such, in Rolling Settlement, settlement is carried out on a daily basis. Since trades done on a given day can not be bunched with those of another day. Thus, speculation is drastically reduced.

Commodity Exchanges
Commodity exchanges are institutions which provide a platform for trading in 'commodity futures' just as how stock markets provide space-for trading in equities and their derivatives. They thus play a critical role in price discovery where several buyers and sellers interact and determine the most efficient price for the product. Indian commodity exchanges offer trading in 'commodity futures' in a number of commodities. Presently, the regulator, Forward Markets Commission allows futures trading in over 120 commodities. There are two types of commodity exchanges in the country: national level and regional. There are five national exchanges:

  • National Commodity & Derivatives Exchange Limited (NCDEX) Multi Commodity Exchange of India Limited (MCX)
  • National Multi-Commodity Exchange of India Limited (NMCEIL)
  • ACE Derivatives and Commodity Exchange
  • Indian Commodity Exchange (ICEX)

The unique features of national level commodity exchanges are:

  • They are demutualized,
  • They provide- online platforms or screen based trading
  • They allow trading in a number of commodities and are hence multicommodity exchanges.

They are national level exchanges which facilitate trading from anywhere in the country.

FMC (Forward Market Commission)
Forward Markets Commission (FMC) headquartered at Mumbai is a regulatory authority, which is overseen by the Ministry of Consumer Affairs and Public Distribution, Govt. of India. It is a statutory body set up in 1953 under the Forward Contracts (Regulation) Act, 1952. The Commission  consists of 2-4 members. It monitors and disciplines the working of the exchanges. It recognizes an exchange or can withdraw such recognition. It collects and whenever the Commission thinks it necessary publishes information regarding the trading conditions in respect of goods. It makes inspection of the accounts and other documents of any recognized association or registered association or any member of such association whenever it considerers it necessary.

Forward Contracts (Regulation) Amendment Bill, 2010 was introduced in the Parliament. It seeks to make FMC into a Sebi-like regulator that is independent. Forward Markets Commission is at present is part of the department of consumer affairs. FMC will' given more teeth to regulate exchanges and all market participants. In addition, the bill proposes to increase the monetary penalty for contravention of the legal provision to up to Rs 25 lakh from a meagre Rs 1,000 at present.

Mutual Fund
Mutual fund — a financial intermediary that mops up money, from a group of investors, to invest in capital market so as to generate returns for the investors. Mutual fund does it for a fees, There are two types of MFs. Open-ended or open mutual funds issue shares (units) to the investors directly at any time. The price of share is based on the fund's net asset value. Open funds have no time duration, and can be purchased or redeemed at any time on demand, but not on the stock market.

An open fund issues and redeems shares on demand, whenever investors put money' into the fund or take it out. It is a collective investment scheme issued by a fund. Only a fixed number of shares are issued in an initial public offering which may be called New Fund offering (NFO). They trade on an exchange.' Share prices are determined not by the total net asset value (NAV), but by investor demand. Once the offering closes, new shares are rarely issued. They can be traded only on the secondary market (stock exchanges). Shares are not normally redeemable until the fund liquidates. On the other hand, an open-end fund where the fund company creates new shares and can redeem existing shares. The total value of all the securities in the fund divided by the number of shares in the fund is called the net asset value.

Foreign institutional investors (FIIs)
Foreign institutional investors are organizations which invest huge sums of money in financial assets - debt and shares-of companies and in other countries- a country different from the one where they are incorporated. They include banks, insurance companies retirement or pension funds hedge funds and mutual funds. Foreign individuals are not allowed to participate on their own but go through FIIs.

FIIs are allowed to 1veSt in the primary and secondary capital markets in India through the portfolio investment scheme (PIS). The ceiling for overall investment for His varies from company to company. His called hot money invested in Indian equities and debt about $30 billion in 2010.The number of registered FIIs is 1,660 and that of registered sub-accounts is above the 5,000 mark. Besides buying equities from the market, have participated in Qualified Institutional Placements (QIPS), directly from the promoters requiring, huge capital. SEBI prescribes norms to register FIIs and also to regulate FIT investments. The FII's total investments in domestic markets amount to $60 billion since India allowed them to invest here in 1992.

Reasons for FIIs having India as a favorite destination

  • growing economy
  • corporate profits are high
  • government policies are encouraging
  • compared to other countries, India has brighter prospects

FII investment is referred to as hot, money for the reason that it can leave the country at the same speed at which it comes in.

Global Depository Receipts (GDR)
Indian companies are allowed to raise equity capital in the international market through the issue of Global Depository Receipt (GDRs) GDRs are designated in dollars euro. The proceeds of the GDRS can be used for financing capital goods imports, capital expenditure including domestic purchase/ installation of plant, equipment and building and investment in software development, prepayment or scheduled repayment of earlier external borrowings, and equity investment in JVs in India. GDRs are listed on London SE or Luxembourg or elsewhere. They are also called euro issues.

The document NCERT Summary: Stock Markets in India- 1 - Notes | Study Indian Economy for UPSC CSE - UPSC is a part of the UPSC Course Indian Economy for UPSC CSE.
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