Nism Series 8 l Chapter 6 Trading Mechanism Part-1 l Equity Derivatives Certification Exam

Chapter 6: Trading Mechanism
• Trading Mechanism for futures and options
• Entities involved in the trading of futures and options
• Different types of orders and order matching rule
• Selection criteria of stocks and index for futures and option trading
• Adjustment for Corporate
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In this chapter we shall take a brief look at the trading mechanism of futures and options
on exchanges, including various types of orders. However, the best way to develop an
understanding of the trading mechanism is to watch the screen and observe trading.
As stated earlier, futures and options are standardized contracts and like shares, they are
traded on exchanges. Markets around the world can be classified into two main types
based on the methods of booking a trade namely an “open outcry” market and the
“electronic” market. Open outcry is the way of communication between professionals on
an exchange, which involves shouting, or using hand signals to transfer information about
buy and sell orders. In an open outcry market, the trading takes place in a large hall known
as “pit” where members are present and contracts are traded through continuous bids
and offers. Thus, such a market brings together the buyers and sellers (through their
brokers) on a platform for trading. In case of electronic trading, there are screen-based
broker dealing terminals, instead of the trading pit. Futures and options trading in India
is electronic in nature, with the bids and offers, and the acceptance being displayed on
the terminal continuously.
All the derivatives exchanges in India provide a fully automated screen-based trading
platform for index futures, index options, stock futures and stock options. These trading
systems support an order driven market and simultaneously provide complete
transparency of trading operations. Derivative trading is similar to that of trading of
equities in the cash market segment.
All these exchanges have developed software for the F&O market to facilitate efficient
and transparent trading in futures and options instruments.
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Trading cum Clearing Member: This is a Clearing Member (CM) who is also a Trading
Member (TM) of the exchange. Such CMs may clear and settle their own proprietary
trades, their clients' trades as well as trades of other Trading Members and Custodial
Participants.
Professional Clearing Member: A Professional clearing member clears the trades of his
associate Trading Member and institutional clients. A PCM is not a Trading Member of
the exchange. Typically banks or custodians become a PCM and clear and settle for
Trading Members as well as for Custodial Participants.
Self Clearing Member (SCM): A Self Clearing Member is also a Trading Member on the
exchange. Such CMs may clear and settle only their own proprietary trades and their
clients' trades but cannot clear and settle trades of other Trading Members.
Participants: A participant is a client of a trading member. Clients may trade through
various trading members but settle through a single clearing member.
Authorised Persons (APs): SEBI had earlier allowed spread of sub-brokership as well as
Authorised Person’s network to expand the brokers’ network. However, SEBI Board in
its meeting held on June 21, 2018 decided that sub-brokers as an intermediary shall
cease to exist with effect from April 01, 2019. All existing sub-brokers would migrate to
become Authorised Persons (APs) or Trading Members if the sub-brokers meet the
eligibility criteria prescribed under Stock Exchange bye-laws and SEBI Regulations and by
complying with these Regulations.
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