Page 189 - DCOM510_FINANCIAL_DERIVATIVES

Financial Derivatives

Notes
Example: Price risk measurement should incorporate exposure from derivatives, as
well as cash products.
Measurement of some types of risk is an approximation. Certain risks, such as liquidity risk, can
be very difficult to quantify precisely and can vary with economic and market conditions. At a
minimum, management should regularly assess vulnerabilities to these risks in response to
changing circumstances. The sophistication and precision of risk measurement methods will
vary by the types, volumes, and riskiness of the activities. Various types of risk measurement
methods are discussed later in this guidance within each risk section (e.g., sections on price,
credit, and liquidity risk).

Task Find out the various types of foreign exchange risks.

Self Assessment

Fill in the blanks:

1. ……………………… are broadly defined as instruments that primarily derive their value
from the performance of underlying interest or foreign exchange rates, equity, or
commodity prices.
2. Derivatives are ……………………… instruments and hence the exchanges have put up a
lot of measures to control this risk.

12.2 Risk Management Systems (Volatility, Types of Margins

& SPAN)

NSCCL has developed a comprehensive risk containment mechanism for the F&O segment. Risk
containment measures include capital adequacy requirements of members, monitoring of member
performance and track record, stringent margin requirements, position limits based on capital,
online monitoring of member positions and automatic disablement from trading when limits are
breached. The salient features of risk containment mechanism on the F&O segment are:
1. The financial soundness of the members is the key to risk management. Therefore, the
requirements for membership in terms of capital adequacy (net worth, security deposits)
are quite stringent.
2. NSCCL charges an upfront initial margin for all the open positions of a CM. It specifies the
initial margin requirements for each futures/options contract on a daily basis. It also
follows value-at risk (VaR) based margining through SPAN. The CM in turn collects the
initial margin from the TMs and their respective clients.
3. The open positions of the members are marked to market based on contract settlement
price for each contract. The difference is settled in cash on a T +1 basis.
4. NSCCL’s on-line position monitoring system monitors a CM’s open positions on a real-time
basis. Limits are set for each CM based on his capital deposits. The on-line position monitoring
system generates alerts whenever a CM reaches a position limit set up by NSCCL.

Did u know? NSCCL monitors the CMs for MTM value violation, while TMs are monitored
for contract-wise position limit violation.

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