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Chapter 2: Introduction To Securities Market

Chapter 2: Introduction To Securities Market – NISM-Series-XV Research Analyst Exam Study Notes Download PDF Book

Introduction to Securities and Securities Market

Understanding Securities and Securities Market

Short Pointers:

  1. Securities are transferable financial instruments showing debt or ownership in assets.
  2. Types include equity shares, preference shares, debentures, bonds, etc.
  3. Issued by companies, financial institutions, and governments.
  4. Investors buy securities to convert savings into financial assets with returns.
  5. Issuers raise money through securities, allowing transfer of investor rights/interests.
  6. Securities market enables capital movement, connecting buyers and sellers for liquidity.
  7. Market facilitates resource transfer from savers to productive users.
  8. Financial market includes investors (buyers), borrowers (sellers), intermediaries, and regulatory bodies..

Understanding Securities as Defined in SCRA, 1956

Short Pointers:

  1. Securities Definition: Section 2(h) of Securities Contracts (Regulation) Act, 1956 (SCRA) defines ‘securities’.
  2. Inclusive Elements:
    • Shares and Similar Instruments:This includes shares, scrips, stocks, bonds, debentures, and similar marketable securities for companies or pooled investment vehicles.
    • Derivatives: Financial instruments deriving value from underlying assets or benchmarks.
    • Collective Investment Schemes: Instruments issued by these schemes, such as units.
    • Security Receipts: As per Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.
    • Mutual Funds: Units or instruments issued under mutual fund schemes.
  3. Exclusions:
    • Insurance Products: Unit linked insurance policies and similar instruments combining life insurance and investment, issued by insurers, are not considered securities.
  4. Additional Securities Types:
    • Pooled Investment Vehicles: Instruments issued by these entities.
    • Special Purpose Entities: Certificates acknowledging investor interest in assigned debts or receivables.
    • Government Securities: Debt issued by the government.
    • Central Government Declarations: Other instruments declared as securities by the Central Government, e.g., Electronic Gold Receipts.
  5. Investor Options: Wide range of financial products available in the Indian market, categorised into equity, debt, and derivative products.
  6. Electronic Gold Receipts: Example of a security declared by the Central Government, representing electronic receipts for deposited physical gold, regulated by SEBI.
  7. Further Learning:A detailed exploration of these securities is in the next section of the textbook.

Product Definitions / Terminology

 Overview of Financial Instruments in the Indian Securities Market

Short Pointers:

  1. Variety of Instruments: The Indian Securities Market offers a diverse range of financial instruments.
  2. Risk and Return Profile: Each instrument has unique risk and return characteristics.
  3. Investor Suitability: The suitability of these instruments varies based on individual investor needs and preferences.
  4. Objective: The section aims to explore major instruments available in the market.
  5. Key Focus: Understanding the nature and specifics of each instrument to aid in informed investment decisions.

Equity Shares

Short Pointers:

  1. Nature of Equity Shares: Represent fractional ownership in a business venture.
  2. Issuers: Issued by companies or various issuers.
  3. Investor Types:
    • Institutional: Includes Foreign Portfolio Investors (FPI), Foreign Institutional Investors (FII), Domestic Institutional Investors (DII).
    • Individual: Encompasses Retail investors and High Net-worth Individuals (HNI).
  4. Issuance Medium:
    • Directly by companies.
    • Via Stock Exchanges.
  5. Regulatory Bodies:
    • Securities and Exchange Board of India (SEBI).
    • Regulators under the Companies Act.
  6. Ownership and Responsibility: Equity shareholders collectively own the company and are responsible for bearing its risks.
  7. Benefits of Ownership: Shareholders enjoy the rewards, such as profit sharing and potential increase in share value.

Debentures/Bonds/Notes

Short Pointers:

  1. Purpose: Instruments for raising long-term debt.
  2. Issuers:
    • Companies, Government, Special Purpose Vehicles (SPVs), Other Issuers.
  3. Investors: Both Institutional and Individual investors.
  4. Medium of Issuance:
    • Direct issuance by issuers.
    • Through the Stock Exchange (if listed).
  5. Regulation:
    • Reserve Bank of India (RBI).
    • Securities and Exchange Board of India (SEBI).
    • Regulators under the Companies Act.
  6. Types of Debentures/Bonds:
    • Fully Convertible: Convertible into ordinary shares of the issuing company, with conversion terms specified at issue.
    • Partly Convertible Debentures (PCDs): Partially convertible into ordinary shares under specific terms. The non-convertible part is redeemed like a standard debenture.
    • Non-Convertible Debentures (NCDs): Pure debt instruments, repayable/redeemable at maturity without conversion features.
  7. Nature of Instruments: Can be pure debt or quasi-equity.
  8. Short-term Debt Instruments:
    • Treasury Bills: Issued by the government for periods not exceeding one year.
    • Commercial Papers: Issued by companies for short-term debt.
    • Certificate of Deposit: Issued by banks for short-term debt.

Foreign Currency Bonds

  1. Definition: Bonds issued in a currency different from the issuer’s home country’s currency.
  2. Issuers: Companies, Governments, and Special Purpose Vehicles (SPVs).
  3. Investor Types: Open to both Institutional and Individual investors.
  4. Medium of Issuance:
    • Issued directly by issuers.
    • Available through Stock Exchanges.
  5. Regulatory Authority: Governed by regulators in the respective country of issue.
  6. Example: Delhi International Airport Limited (a GMR Infrastructure Ltd SPV) issued USD bonds in February 2020.
  7. Conversion Feature: May include an option to convert into shares, depending on issuer/investor preferences.
  8. Popularity in Emerging Markets: Often preferred due to lower interest rates in mature economies’ currencies like USD.
  9. Foreign Currency Risk:
    • Significant risk for the issuer.
    • If the bond’s currency appreciates against the local currency, repayment becomes more expensive in local terms.

External Bonds / Masala Bonds

  1. External Bonds (Euro Bonds):
    • Bonds issued in a currency different from the country’s currency where they are issued.
    • Example: USD-denominated bonds issued in Kuwait.
  2. Masala Bonds:
    • Specific type of external bonds, denominated in Indian Rupees (INR).
    • Issued outside India but in INR.
    • First issued in November 2014 by International Finance Corporation, listed on the London Stock Exchange.
  3. Issuers: Companies, Governments, and Special Purpose Vehicles (SPVs).
  4. Investors: Both Institutional and Individual investors.
  5. Medium of Issuance:
    • Directly by issuers.
    • Through Stock Exchanges.
  6. Regulatory Body: Overseen by regulators in the country of issue.
  7. Currency Risk:
    • In foreign currency bonds, the issuer bears the currency risk.
    • In Masala bonds, the currency risk is borne by the investor, as the bonds are INR-denominated.
    • If INR depreciates against the currency of the country of issue, investors receive less in their local currency.

Warrants and Convertible Warrants

  1. Definition of Warrants: Options that give the investor the right to buy equity shares of the issuing company.
  2. Time and Price Conditions: Purchase can be made after a specific time period, at a pre-set price.
  3. Issuers: Primarily issued by companies.
  4. Investors: Available to both Institutional and Individual investors.
  5. Medium of Issuance:
    • Issued directly by companies.
    • Available on Stock Exchanges.
  6. Regulation: Governed by the Securities and Exchange Board of India (SEBI).
  7. Usage in Indian Market: Relatively few companies in the Indian Securities Market have issued warrants.

Market Indices

  1. Function of Indices: Track market movements using prices of selected shares as a representative sample.
  2. Weighting by Market Capitalization: Reflects influence of companies with more shares and higher portfolio inclusion.
  3. Stock Liquidity: Stocks in indices are typically liquid, facilitating low-cost index replication for investors.
  4. Types of Indices:
    • Narrow Indices: Comprise most actively traded shares on an exchange.
    • Sectoral and Market Cap Indices: Track specific sectors or market cap categories.
  5. Major Indian Indices:
    • NSE’s Nifty 50: 50 representative stocks on National Stock Exchange.
    • S&P BSE Sensex: Market cap weighted index of 30 selected stocks on Bombay Stock Exchange.
    • MSEI’s SX40: 40 representative stocks on Metropolitan Stock Exchange of India Ltd.
  6. Selection Criteria: Stocks chosen based on liquidity, floating stock availability, and market capitalization size.
  7. Review and Modification: Index compositions are periodically updated to maintain market representativeness.
  8. Other Common Indices in India:
    • Nifty Next 50, Nifty 100, Nifty 500.
    • S&P BSE 100, S&P BSE 500, S&P BSE MidCap, S&P BSE SmallCap.
  9. Sectoral Indices: Exist for sectors like banking, IT, pharma, FMCG, etc.
  10. Uses of Indices:
    • Benchmarking against other asset classes.
    • Comparing active equity funds/portfolios.
    • Indicating economic or sector performance.
    • Reflecting real-time market sentiments.
    • Serving as underlying for Index Funds, Futures, and Options.

Mutual Fund Units

  1. Nature of Mutual Funds (MFs): Investment vehicles pooling money from investors to invest in a securities portfolio.
  2. Representation of Investment: Investor’s share in MFs represented by units.
  3. Net Asset Value (NAV):
    • Value of units, fluctuating based on portfolio value.
  4. Issuers: Issued by Mutual Funds.
  5. Investors: Open to both Institutional and Individual investors.
  6. Medium of Issuance:
    • Directly by mutual funds.
    • Available on Stock Exchanges.
  7. Regulation: Governed by the Securities and Exchange Board of India (SEBI).
  8. Types of MF Schemes:
    • Open-Ended Schemes:
      • Allow continuous buying and selling of units at NAV-linked prices.
      • No fixed maturity period.
    • Closed-Ended Funds:
      • Have a fixed unit capital.
      • Units are bought and sold in the Stock Market, where they are listed.
      • Offer a specific number of units only.

Exchange Traded Funds (ETFs)

  1. Definition: ETFs are investment vehicles that pool investor funds to track an index, commodity, or a basket of assets.
  2. Index Fund Similarity: ETFs’ portfolios mirror the index they are tracking, akin to index funds.
  3. Trading:
    • ETF units are listed and traded on stock exchanges.
    • Traded in demat form, with prices varying continuously, reflecting index or commodity price changes.
  4. Issuers: Issued by Mutual Funds.
  5. Investors: Accessible to both Institutional and Individual investors.
  6. Medium of Issuance:
    • Direct issuance by mutual funds.
    • Available on Stock Exchanges.
  7. Regulation: Overseen by the Securities and Exchange Board of India (SEBI).
  8. Advantages of ETFs:
    • Offer diversification benefits like an index fund.
    • Allow real-time buying and selling, even in single units.
  9. Cost Efficiency:
    • As passively managed portfolios, ETFs typically have lower expense ratios than mutual fund schemes.
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