More carry forward options lined up

A MEETING of the stock exchanges, which have the facility of carry forward and automated lending and borrowing mechanism (ALBM), was held to discuss their preparedness for the introduction of carry forward, ALBM and Continues Net Settlement (CNS) in Rolling Settlement.

The salient features of products discussed in the meeting are as follows:

* There would be carry forward session at the end of each trading day, and the investor would have a choice of carrying forward a position for one, two, three, four or five trading days. Separate screens would be there for the bids and offers for each of these five variants.

* ALBM session would be held everyday, and lending and borrowing would be done for one, two, three, four and five working days. There would be separate screens for lending/borrowing for these five variants.

Continuous Net settlement: The CNS has been effectively employed by the Clearing Corporations for the settlement of transactions and for maintaining an orderly flow of money and securities. The CNS is carried out by the Clearing Corporation/Clearing House as a post-settlement processing, whereby the seller who has failed to deliver securities can postpone the settlement of his obligations to the subsequent settlement. This imparts flexibility to the seller. The key features of the CNS are as under:

* The CNS would be available only in the compulsory rolling settlement segment.

* CNS is essentially post-settlement processing.

* CNS is delivery-initiated.

* In the CNS process, the short deliveries of the seller are marked to the closing price of the day and the corresponding amount is debited to the delivering member.

* The settlement of the CNS positions is postponed to subsequent settlement.

* Since the CNS is a post settlement activity, the receiving member has to necessarily fulfil his funds pay-in obligation. The receiving member however would be subsequently credited for the value of the deliveries to the extent that he has received short.

* The receiving member has the option of insisting on delivery. The members can indicate the preference for compulsory receipt of delivery, in which case it will be allocated higher priority for delivery receipt. In the event of failure to deliver shares to such receiving members, these positions would be removed from the CNS and subjected to compulsory delivery compulsory buy-in, or close-out would be effected in the event of failure to deliver.

The exchanges that have already implemented the MCFS or ALBM in account period settlement would be eligible to implement CFRS and ALBRS respectively. The exchange would have to seek regulatory permission for introduction of CNS. For its implementation, the exchanges should have a well-designed software, proper governance structure, administrative infrastructure and proper margining system and surveillance capacity.

Risk management system: The risk management group for equity markets discussed the issues relating to margin system and exposure limits applicable to the Rolling Settlement and the products, such as Carry Forward under Roiling Settlement (CFRS), ALBM under Rolling Settlement (ALBRS) and CNS. It was felt that the implementation of these products would have a positive impact on the liquidity and volumes in the Rolling Settlement. BSE, NSE and CSE agreed to prepare software to launch these products.

Currently, the BSE and the NSE provide MCFS and ALBM facilities respectively for certain scrips. It was decided that the BSE and the NSE will work out a cumulative list of these scrips and both MCFS and ALBM facilities will be available for all scrips in this list on or after October 23, 2000. To ensure greater liquidity in the Rolling Settlement, the CNS will be made available to about 500 regularly traded scrips.

To further simplify the margin system, the present margin of 10 per cent and 15 per cent applicable for exposures up to Rs 20 crore, and between Rs 20 crore and Rs 40 crore applicable to MCFS and ALBM, would now be uniform at 12.5 per cent. Exchanges can adopt this uniform margin or apply the existing margin.

Negotiated deals: SEBI had earlier decided that all deals would be executed on the screens of exchanges following the price and order matching mechanism. Exemptions could be granted by the exchanges in cases where the scrips reach the FII investment limits. SEBI has decided to grant exemptions for disinvestment of public sector enterprises on a case to case basis.

Zero Coupon Yield Curve: In its effort to introduce innovative products and services and on-line with its focus on development of debt market, NSE launched a `Zero Coupon Yield Curve' (ZCYC) to help in valuation of securities across all maturities irrespective of their liquidity in the market.

The product aims to create uniform valuation standards in the market and help improve the asset liability management of institutions with realistic valuations of portfolios. This will be also useful in developing derivative products and STRIPS.

This has been developed keeping in mind the requirement of the banking industry, financial institutions, mutual funds, insurance companies, and so on, that have substantial investment in sovereign papers. The product has been developed using the Nelson-Siegel model to estimate the term structure of interest rate at any given point of time and has been successfully tested by using daily WDM trades data.

The ZCYC depicts the relationship between interest rates in the economy and the associated term-to-maturity. The ZCYC provides daily estimates of the term structure of interest rates using information on secondary market trades in Government securities from the WDM segment of the NSE. The term structure forms the basis for the valuation of all fixed-income instruments.

Modelled as a series of cashflows due at different points of time in the future, the underlying price of such an instrument can be calculated as the net present value of the stream of cashflows. Each cashflow, in such a formulation, has to be discounted using the interest rate for the associated term to maturity; the appropriate rates can be read off the estimated ZCYC.

Once estimated, the interest rate maturity mapping can be used to compute underlying valuations even for securities that do not trade on a given day. Changes in the economy cause shifts in the term structure, changing the underlying valuations of fixed-income instruments.

Special Fund Facility: The Delivery versus Payment (DVP) system established by RBI at Mumbai in July 1995 has been working satisfactorily. However, there have been instances of gridlock in the DVP system due to shortfall of funds on a gross basis in the current account of one or more SGL account holders.

To take care of such unusual occurrences, a scheme of Special Fund Facility for security settlement is being introduced with effect from October 3, 2000. The objective of the new scheme is to provide intra-day funds to banks and primary dealers (PDs) for facilitating settlement of securities transactions in case of gridlock. The scheme provides for automatic invocation of funds facility against undrawn Collateralised Lending Facility (CLF)/Level I-PD Liquidity Support (PDLS).

Banks and Primary Dealers who are eligible to avail of CLF/LFS from the RBI at the bank rate will be eligible for special intra-day fund facility for securities settlement. The interest rate on funds provided to a participant under the scheme will be charged at the bank rate. All transferable Government of India-dated securities and treasury bills (except 14-day treasury bills) will be eligible instruments for automatic invocation of special intra-day fund facility from the RBI.

(Edited extracts from NSE News , published by the National Stock Exchange.)