Thanks to the sharp rise in index options trading on the National Stock Exchange (NSE), India now has two contracts in the top 10 equity index futures and options contracts worldwide. This is based on rankings for 2008 by the Futures Industry Association (FIA).
While much has said about the lack of credible competition in Indian equity derivatives and its pitfalls, it can’t be denied that one of the fastest growing equity derivatives contracts in recent times has come from India. Nifty options volumes have grown at a compounded annual growth rate of 154% in the three years to March. No other global equity derivatives contract with similar growth comes to mind.
The Nifty futures contract was already part of the top 10 in 2007 (at the ninth position), while the Nifty options contract stood at number 15. Nifty options volumes rose 186% in 2008, taking it past the likes of Dax options traded on Eurex and Taiex options in Taiwan Futures Exchange to the 10th position. Nifty futures volumes rose by a more modest 46% and improved its position to number seven in the global league table.
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In the process, it has beaten the popular S&P 500 options contract traded on the Chicago Board Options Exchange. Based on the volumes for the first five months of this year, Nifty options volumes are likely to more than double in 2009 as well and is almost certain to replace the Nifty futures contract in the league table.
Thanks to the strong run in its top two contracts, NSE has retained its position as the eighth largest derivatives exchange in the world. While the exchange has beaten the likes of the Philadelphia Stock Exchange, the US’ third largest equity options exchange, and the Brazilian Mercantile and Futures Exchange in volume terms, this is not visible in the rankings because of consolidation in the industry.
Sandeep Bhatnagar / Mint
Of course, the caveat here is that the size of the contracts traded on NSE are far lower compared with those on US exchanges and in value terms —data for which is not collated by FIA—NSE’s ranking would be much lower. Having said that, the Nifty derivatives contracts are liquid contracts with low trading costs. While the high volatility in 2008 affected liquidity in the developed world, turnover only enhanced for the Nifty products. The world’s largest exchange group, CME, saw a drop of 22% in December quarter volumes of legacy CME and Chicago Board of Trade products compared with the September quarter, thanks to a jump in volatility after the collapse of Lehman Brothers Holdings Inc. FIA notes that hedge funds contributed the most to the drop in volumes.
On NSE, volumes in the December quarter rose by 10% compared with the September quarter, thanks to a rise in index derivatives trading. Even though foreign institutional investors were largely getting out of their positions, local market players increased hedging activity, besides preferring index products to trade because of their lower risk. With index options, in fact, many discovered that they could contain their risk at a pre-defined level.
On the other side of the spectrum, an increasing number of traders and proprietary desks were getting comfortable taking the risk of writing options. In sum, the fact that index options trading has overtaken index futures trading points to an increasing maturity of the Indian derivatives market.
While there’s no doubt that more needs to be done, especially in terms of fostering effective competition, Indian policymakers deserve credit for opening up the equity derivatives market to all kinds of participants, without tight restrictions. A similar policy needs to be adopted for the relatively new currency futures segment, the impending interest rate futures segment and the commodity derivatives market.
Even with some tight restrictions, the currency and commodity futures markets have reasonably high levels of liquidity. The Multi-Commodity Exchange (MCX) already has two contracts in the top 10 metals contracts worldwide and its crude futures contract ranks 11th among energy derivatives contracts. NSE and MCX’s currency futures contracts, launched last year, are set to be among the most liquid currency futures contracts worldwide in 2009. But all this would prove to be the tip of the iceberg if restriction on participation by institutional investors is relaxed.
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