Niveshak Apr15

Niveshak THE INVESTOR

VOLUME 8 ISSUE 4

April 2015

NIVESHAK INVESTMENT FUND An Idea becomes reality

FROM EDITOR’S DESK Niveshak Volume VIII ISSUE IV April 2015 Faculty Chairman

Prof. P. Saravanan

THE TEAM Abhishek Bansal Bhawana Saraf Maha Singh Gulati Palash jain Prakhar Nagori Ramesh Jaiswal Rahul Bajaj Sandeep Sharma Vishal Khare All images, design and artwork are copyright of IIM Shillong Finance Club ©Finance Club Indian Institute of Management Shillong www.iims-niveshak.com

CONTENTS

Dear Niveshaks,

Cover Story

The month of April saw the BSE Sensex plunging over 2%, down over 2600 points from its record high of 30,024.74 hit in the month of March. Reasons for this drop could be - the FPI community being worried about the potential levy of Minimum Alternate Tax (MAT), growth recovery being slower than expected as playing out in the quarterly corporate results, slowdown in the reforms process (GST and Land Acquisition Bill). Japanese pharmaceuticals company Daiichi Sankyo sold off its 8.9% stake in Sun Pharmaceuticals as a part of its strategy to exit India as a result the shares of Sun Pharma ended down 9% on NSE. French IT firm Cap Gemini announced the acquisition of US rival IGATE Corp for $4 billion which will bolster the company’s presence in North America and make it its biggest market.

The government has raised the limit of foreign direct investment in pension sector to 49 per cent in line with the FDI cap in the insurance sector. All investments in the pension sector, however, will have to abide by the pension sector regulator PFRDA. On the startup funding front, Ratan Tata invested in Chinese handset maker Xiaomi, the first investment by any Indian in the smartphone maker. He has already made personal investments in home-grown e-commerce players like Snapdeal, Urban Ladder, Bluestone and Cardekho.com.

Cover-story for the month of April 2015 edition is on our very own Niveshak Investment Fund, which has proved its strong foothold against these market conditions as well. The cover story gives you a glimpse of this success story. The article of the month subsequently talks about ‘The Predicament of Corporate Governance in Public Sector Undertakings’ taking Coal India into consideration. On the other hand FinGyaan covers a deep insight into green financing. The authors have diligently chosen the topic ‘Grass on the Other Side: Does Green Finance have a future?’

Niveshak Times

04 The Month That Was

Article of the month

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The predicament of corpo- FUND rate governance in public sector undertakings: Coal India Ltd

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NIVESHAK INVESTMENT

FinGyaan 18 GRASS ON THE OTHER SIDE

Finsight

As we all are aware that BRICS play an important role in the World Economy and so will BRICS Bank do, thus our FinSight for the month is ‘BRICS Bank – Origination to Realization’. With the volatility in markets everyone starts blaming Derivatives, but what are derivatives? FinLife will be able to throw some light on it. Classroom which talks about Marginal Standing Facility will be followed by few words from our senior team bidding adieu

Does Green Finance have a fu- 26 BRICS Bank ture?

Origination to Realization

We would like to thank our readers for their immense support and encouragement.

You remain our prime motivation factor that keeps our spirits high and give us the vigour and vitality to keep working hard.

22 Derivatives Market

Stay invested!

Team Niveshak

Disclaimer: The views presented are the opinion/work of the individual author and The Finance Club of IIM Shillong bears no responsibility whatsoever.

FinLife

CLASSROOM

29 Marginal Standing Facility

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The Niveshak Times

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The Niveshak Times

Team NIVESHAK

IIM Shillong Govt To Bear Entire LPG Subsidy For FY16 In a strong push to upstream oil companies, the government has decided to bear the entire domestic cooking gas subsidy in 2015-16. The upstream players would, however, have to bear a part of the kerosene subsidy.

Though companies like ONGC, Oil India and Gail India have long asked for removal of the subsidy burden on them, the immediate trigger for the move is to make the atmosphere conducive for the proposed sale of 5% stake in ONGC. Based on average crude oil price of $60/barrel, LPG subsidy for FY16 is estimated at Rs.18,000 crore and assuming crude at $70/barrel, it could be in the vicinity of Rs 25,000 crore.

For kerosene, the under-recovery burden is expected to be around Rs 13,000 crore assuming average crude oil price at $60/barrel and it could go up to Rs 16,500 crore if crude price moves northwards to around $70/barrel. In FY14, the under-recovery on kerosene stood at Rs 30,575 crore while it was Rs 46,458 crore for LPG. “The government will bear the full cash subsidy on LPG while the under-recovery on kerosene will be shared with upstream companies,” one of the govt. officials said. He said the budget allocation of Rs 30,000 crore (Rs 22,000 crore for LPG and Rs 8,000 crore for kerosene) should be enough to meet fuel subsidy bill in this fiscal.

Ola Raises Rs 2500 cr: In Indian Start-Up Space Only Snapdeal, Flipkart Valued Higher Than The Taxi App App-based taxi aggregator Ola has raised $400 million (about Rs 2,500 crore) from a clutch of investors led

by DST Global as it eyes expansion into smaller cities across India.

Post this round of funding, the taxi app now valued at around Rs 15,600 crore, has become the thirdmost valuable venture-backed company in India.

According to a report in the Economic Times, only Flipkart and Snapdeal are valued above Ola, but the company is competing against Uber, one of the most exciting startups in world. Although it is much smaller than Ola in India, Uber—it is the second-most valuable startup in the world at $41 billion.

APRIL 2015

After this round, the firm has raised close to $800 million. In October, it had raised $210 million from a group of investors led by Japan’s SoftBank.

The firm intends to utilise the funds to expand to 200 cities from 100 by year-end as well as ramp up its technology base. There are also plans to invest on increasing its base of cab drivers and retaining them with various schemes.

NCDEX Inks Pact For International Commodity & Derivatives Exchange At GIFT City The National Commodity & Derivatives Exchange Ltd (NCDEX) signed an Memorandum of Understanding (MoU) to establish an international commodity and derivatives exchange within India’s first International Financial Services Centre (IFSC) at GIFT City, Gandhinagar. NCDEX is the third exchange after BSE and NSE to sign an MoU with GIFT City.

GIFT SEZ Ltd — a wholly owned subsidiary of Gujarat International Finance Tec-City Company Ltd (GIFTCL) or GIFT City — and NCDEX signed the MoU at Gandhinagar for setting up an exchange that will provide an electronic platform for trading, clearing and settlement of securities, commodities, interest rates, currencies, other classes of assets and derivatives to international investors within the IFSC. “NCDEX wishes to tap the global commodities market by setting up an International Exchange at India’s first IFSC in GIFT City. This tie up will allow Indian and international entities to deal in financial products and services from India, making GIFT-India as one of the foremost International Financial Centres in the world,” Samir Shah, MD & CEO, NCDEX stated in a statement.

GIFT SEZ has been notified as India’s first International Financial Services Centre by the Government of India. Recently, Union finance minister Arun Jaitley had unveiled regulatory norms for International Financial Services Center (IFSC) at an event held in Gandhinagar.

Tesco Posts Record £6.4bn Annual Loss

Tesco has reported the worst results in its history with a record statutory pre-tax loss of £6.4bn for the year to the end of February. That compares with

annual pre-tax profit of £2.26bn a year earlier.

It is the biggest loss suffered by a UK retailer and one of the largest in the country’s corporate history.

Around £4.7bn of the losses were the result of the fall in property value of its UK stores, 43 of which it said would close earlier this month. The decline in the value of its property portfolio comes as a direct result of falling footfall in many of its out of town superstores.

Dave Lewis, the chief executive parachuted in to mastermind a turnaround last year, described the loss as a “big significant number”. But the former Unilever executive insisted the supermarket was on the road to recovery after a tough 2014 in which it suffered a £263m accounting scandal and the exit of the former chief executive, Philip Clarke, following slumping sales and profits.

Flipkart Acquires Mobile Marketing Firm Appiterate Online marketplace Flipkart today said it has acquired mobile marketing start-up Appiterate as the eCommerce firm looks to strengthen its mobile platform. The financial details of the deal were not disclosed. In line with its ‘Mobile First’ focus, this acquisition strengthens Flipkart’s presence in the area of mobile technology, Flipkart said in a statement.

Post the deal, Appiterate’s mobile marketing automation platform will be integrated into Flipkart’s mobile app, which will help the Bangalore-based eCommerce firm in targeting users based on their activity on the app and website. Appiterate’s technology helps validate whether a new design or change to an element on a webpage improves the conversion rate (sales).

Appiterate has helped leading e-commerce firms combine the power of mobile apps and big data to allow them to do one-on-one targeting of users though push notifications and in-app messages, it said. It has raised money from institutional investors like SAIF Partners and angel investors such as Greg Badros and Prashant Malik

the world’s most valued startup, as the Chinese firm makes a bigger push to capture a slice of the Indian market. For Tata, former chairman and currently chairman emeritus of Tata Sons, the holding arm of the multi-billion dollar Tata conglomerate, this comes as yet another private investment in the new technology space having backed a string of internet firms in India over the past one year. The private investment is not as much a fundraiser for Xiaomi as it is to leverage Tata’s business advisory expertise.

This is the sixth investment in the digital space for Tata after backing Paytm parent One97 Communications, Snapdeal, Urban Ladder, Bluestone and CarDekho.

Tata has turned an active venture investor a year after he hanged up his boots as chairman of Tata Sons. He is also in the advisory board of VC firm Kalaari Capital, also an existing investor in some of the tech firms in which Tata has invested recently.

VRL Logistics Listed With 40% Premium VRL Logistics, a parcel delivery firm, made a stellar debut in stock markets at Rs 288 per share, up 40.45 per cent from its issue price of Rs 205. VRL Logistics’ initial public offer (IPO) was oversubscribed by more than 74 times earlier this month.

Karnataka-based VRL Logistics competes with companies including Gati and Transport Corporation of India and is seen as a bet on India’s booming e-commerce sector. VRL Logistics has a fleet of over 3,400 vehicles and employs some 15,000 people. It provides luxury bus service in Karnataka, Maharashtra, Goa, Andhra Pradesh, Telangana, Tamil Nadu, Gujarat and Rajasthan.

VRL Logistics had hit the capital markets to raise over Rs 330 crore; the proceeds will be utilised for scaling up the company’s existing fleet of goods transportation vehicles, repayment of loan and other general corporate purposes, the company said.

Subscription levels in VRL Logistics were the highest in nearly eight years. Previous record IPO subscriptions include those of Power Finance Corp, subscribed 77.2 times in 2007 and Reliance Power, subscribed 73 times in 2008.

Ratan Tata Invests In Chinese Handset Maker Xiaomi Ratan Tata has invested in handset maker Xiaomi,

© FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG

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Market Snapshot

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Market Snapshot BSE Index

FII, DII Net turnover (in Rs. Crores)

35000

20,000

30000 15,000

25000 20000

BSE

10,000

15000 5,000

10000 5000

0

0 29/04/15

28/04/15

27/04/15

24/04/15

23/04/15

22/04/15

21/04/15

20/04/15

FII 17/04/15

DII 16/04/15

BSE 15/04/15

13/04/15

10/04/15

09/04/15

08/04/15

07/04/15

06/04/15

01/04/15

-­‐5000

-­‐5,000

Source: www.bseindia.com www.nseindia.com

MARKET CAP (IN RS. CR) BSE Mkt. Cap

LENDING / DEPOSIT RATES

9999071.95 Source: www.bseindia.com

CURRENCY RATES INR / 1 USD INR / 1 Euro INR / 100 Jap. YEN INR / 1 Pound Sterling INR/ 1 SGD

Base rate Deposit rate

10.00%-10.25% 8.00% - 8.75%

2.00%

1.00%

0.00%

Euro/1 USD

GBP/1 USD

Close

% change

27225.93 18844.04 20664.64 10350.03 16900.56 7627.38 16952.05 11313.95 9328.64 10701.11 9123.11 2092.97 7430.65 1630.54 11254.82 6167.21

27458.64 18529.48 20984.37 10391.39 16577.79 7699.62 16155.43 10495.18 9960.05 10408.76 9169.73 2091.66 7599.7 1549.13 10960.52 5842.78

0.85% -1.67% 1.55% 0.40% -1.91% 0.95% -4.70% -7.24% 6.77% -2.73% 0.51% -0.06% 2.28% -4.99% -2.61% -5.26%

% CHANGE % Change

RESERVE RATIOS 63.20 69.34 53.08 97.01 48.09

CRR SLR

4.00% 21.50%

TECK, -­‐5.26% Smallcap, -­‐2.61% REALTY, -­‐4.99% PSU, 2.28% POWER, -­‐0.06% OIL&GAS, 0.51%

CURRENCY MOVEMENTS INR/1 USD

Sensex AUTO BANKEX CG CD FMCG Healthcare IT METAL MIDCAP OIL&GAS POWER PSU REALTY Smallcap TECK

Open

JPY/1 USD

SGD/1 USD

MIDCAP, -­‐2.73%

POLICY RATES Bank Rate Repo rate Reverse Repo rate

8.50% 7.50% 6.50%

IT, -­‐7.24% Healthcare, -­‐4.70%

FMCG, 0.95% CD, -­‐1.91% CG, 0.40% BANKEX, 1.55%

-­‐1.00%

-­‐2.00%

METAL, 6.77%

1

Source: www.bseindia.com 24th Feb 2015 to 28th March 2015

AUTO, -­‐1.67% Sensex, 0.85%

-­‐3.00%

Data as on 28th March 2015 -­‐4.00%

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© FINANCE CLUB, INDIAN INSTITUTE Of MANAGEMENT SHILLONG

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Article Market of Snapshot the Month Cover Story

Article ofSnapshot the Month Market Cover Story

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Niveshak Investment Fund

Performance Evaluation

Done on 30/6/14

As on 29th April, 2015

CONS NON DURABLE (5.78%)

Informa(on Technology (12.20%)

April Performance of Niveshak Investment Fund

165

Performance of Niveshak Investment Fund since IncepDon

104

Wg: 4.16% Gain : 0.94%

GODREJ CONSUMER Wg:5.78% Gain:23.28%

BANKING (5.98%)

FMCG (20.57%) Britannia

Colgate

HUL

ITC

Wg:5.04% Wg:6.32% Wg:4.59% Wg:4.61% Gain:113% Gain:31.49% Gain:21.73% Gain :4.51%

Pharmaceu(cals (12.11%)

Dr Reddy’s Labs Wg:4.52% Gain:17.13%

Lupin Wg:7.58% Gain : 51.07%

Chemicals (6.56%) Amara Raja BaR Wg:4.01% Gain :11.19%

Wg: 5.98% Gain : 7.73%

Auto (9.58%) Tata Motors Wg:5.57% Gain : 16.16%

HDFC Bank

Asian Paints Wg:6.56% Gain:19.97%

MISC. (4.47%)

MANUFACTURING

Titan Company Wg:4.47% Gain:1.8%

Page Industries Wg:6.40% Gain:30.13%

(6.40%)

155 102

145

100

135

98

125

96

115

94

105

92 1-­‐Apr-­‐15 6-­‐Apr-­‐15 11-­‐Apr-­‐15 16-­‐Apr-­‐15 21-­‐Apr-­‐15 26-­‐Apr-­‐15

Sensex NIF Values Scaled to 100

95 -­‐Ja 26 n-­‐1 -­‐F 4 e 26 b-­‐1 -­‐M 4 a 28 r-­‐1 -­‐A 4 27 pr-­‐1 -­‐M 4 a 25 y-­‐1 -­‐Ju 4 n 23 -­‐14 -­‐Ju 21 l-­‐1 -­‐A 4 u 18 g-­‐1 -­‐S 4 e 17 p-­‐1 -­‐O 4 18 ct-­‐1 -­‐N 4 o 15 v-­‐1 -­‐D 4 e 12 c-­‐14 -­‐Ja 11 n-­‐1 -­‐F 5 e 16 b-­‐1 -­‐M 5 a 15 r-­‐1 -­‐A 5 pr -­‐1 5

Wg: 3.41% Gain : 20.82%

Wg: 4.63% Gain : 18.57%

TCS

30

Infosys

HCL Tech.

Opening Por+olio Value : 10,00,000 Current Por+olio Value : 14,93,908 Change in Por+olio Value : 43.93% Change in Sensex : 32.18%

Sensex

NIF

Values Scaled to 100

Risk Measures: Standard DeviaDon : 18.59(Sensex 13.45) Sharpe RaDo : 2.56(Sensex : 2.27) Cash Remaining:271897

Comments on NIF’s Performance & Way Ahead : Throughout April 2015, Sensex was seen under pressure, having fallen 3.6 per cent during this period and cancelling out all gains made in the first two months of 2015.During the month of April, the index gained to put brakes on 6.48% fall of March and touched the levels of 29000 for a short while.

On domesDc front India's industrial output growth accelerated to 5.0 percent in February, its fastest pace in nine months, mainly driven by growth in capital goods and consumer goods sectors, the industrial output data with 2004/05 as base year has become less relevant now aZer the government changed the methodology as well as the base year for GDP calculaDons in February. The revised base year for GDP is 2011/12. The Reserve Bank of India (RBI) kept interest rates on hold at 7.50 percent on Tuesday, waiDng to assess inflaDonary pressures and give banks more Dme to reflect its previous cuts in their lending rate. On global front manufacturing acDvity in Asia's top two economic powerhouses slowed further in April, a disappoinDng outcome that calls for yet more sDmulus and puts pressure on the United States and Europe to do more of the heavy liZing to drive global growth. DisappoinDng U.S. jobs growth, manufacturing acDvity, and retail sales over the winter had pushed market expectaDons for a rate hike to later in the year. June has long been seen as the earliest the Fed could Dghten policy, aZer more than six years of near-­‐zero rates The por+olio did not witness any re shuffle during this month, however we are watchful of the current fall and correcDons in the prices of overvalued stocks and therefore reshuffles in the next month would depend upon the momentum of the market. .

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THE PREDICAMENT OF CORPORATE GOVERNANCE IN PUBLIC SECTOR UNDERTAKINGS: COAL INDIA LTD Param Pandya

Gujarat National Law University Introduction Public Enterprises are established with two distinct strategies – takeover or nationalization of the existing activity in the private sector as well as the creation of new activity in the public sector through investments that are entrepreneurial in nature.

Every financial crisis provides an opportunity for the world fraternity to ponder over the evolution of an idyllic model of economic governance.

The most recent financial crisis of 2007 –‘08 has provided an end to the illusion of public impotence and most undoubtedly has transited the return of the state. The assumption that State has no role in economic activity, and the Markets do not fail have both proved to be

APRIL 2015

incorrect. This has drastically transformed the role of the state from merely being a facilitator or regulator to that of a player in the world economy giving impetus to the growth of State Owned Enterprises (“SOE’s”) or Public Sector Undertakings (“PSU’s”) which have registered profits even in the most turbulent times in their national economic framework. These SOE’s are an active partner in the growth trajectory of many nations for they employ huge chunk of the populace and determine the competitiveness of the private sector as they are concentrated in strategic sectors. Public Enterprises act as the visible hand of the State through the post-independence “planning” machinery in the “mixed” economy like India which are

state-owned enterprises and represent major remnants of the Indian government’s socialist policies prior to 1991.

Unfortunately, the setting up of these PSU’s in order to ameliorate the problem of “market failure” brought in “government failure” in many countries with its impact on the “managerial failure” and deficiencies in the management of PSU’s. The threats that pose a danger to the efficient management in a PSU have been the Agency problem, Collective Action problem, Not-me syndrome, weak oversight, nepotism and red-tapism and a varied mix of geopolitical factors. In India, the government owns or controls interests in key sectors with significant economic impact, including infrastructure, oil, gas, mining, and manufacturing.

However, despite many profitable PSU’s, governance remains a fallacy.

News reports suggest failure to comply directions issued by the regulators in terms of Corporate Governance thereby resulting in erosion of the value of these undertakings. Hence, Corporate Governance in these set of circumstances become quintessential to analyse the confrontations and evolve a conducive framework of regulations that best suits the need of the public sector.

Impediments to effective Corporate Governance in PSU’s: There is a multitude of reasons that can be attributed to Governance failures a few of which are dealt as under for a thorough comprehension of the case study of Coal India Ltd. that follows this economic analysis of the functioning of an SOE. The genesis of the agency problem lies in the separation of ownership and control. An entrepreneur raises funds from the investors, in this case the state raises the funds from the shareholders, and the shareholders entrust their right to manage the affairs of the enterprise on the board of directors. Thus, ownership and control are separated where a conflict of interests prop up. Thus when the principal depends upon

the acts of the agent to foster his interest, the agency problem arises when the agent serves his interest instead of his principal. Thus, when a conflict as to trusteeship v. stewardship arises in a SOE from a multitude of players like between minority and majority shareholders, creditors and majority shareholders/ management, employees and management, it is termed as an Agency problem in the jargon of economics.

Also if the incentive to comply which is offered to the agent is less than the incentive of noncompliance, it will result in the agent defying the instructions of the principal as the agent has more direct control and more information.

In a case where monitoring is increased to create a disincentive, it will still add to the cost of the principal itself.

Also, greater the complexity of the tasks undertaken, the greater the discretion and larger these agency costs are to rise.

In a typical case of a SOE, the foremost conflict among the principal and agent lies in the conflict between profit and welfare. The state wants to sacrifice profit for welfare where shareholder’s interests get hampered. Though this is not an inherent premise but it does play its part whereas to add to this, the owner’s identity is unclear and when de jure it’s the public who is owner but the de facto control vests with the bureaucrats who are governed by petty political interests. There is also no effective economic feedback mechanism so as to monitor the managers as they engage in practices that are difficult to verify.

The clear solution lies in bringing efficiency so as to harmonize the interests of capitalism and socialism. Also, the state has to ensure an effective monitoring system enforced in the form of Corporate Governance frameworks which are a blend of incentives like trusteeship and rewards and disincentives to disobey set rules and standards by controlling the exit and entry mechanism and mandating disclosures.

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Article of the Month Cover Story

Article of the Month Cover Story

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Also attempt to avoid the externalities of political interference, red tapes and nepotism that hamper the proper working of the above frameworks must be reported. As in India, very many ministries or departments of statal power govern the PSU’s and hence proper fixation of responsibilities within the organization and in the governmental quarters as to the accountability be fixed so that the Not me syndrome is reduced.

The Collective Action problem or shareholder’s apathy can be narrated as wherein minority shareholders are incapable to remain active in the decision making of the company for they have no incentive to do so and as the consensus costs are high. Hence, they end up remaining absent or voting it in favour of the majority. Since the cost of coordination is high, many emerge as ‘free riders’ for none among the minority shareholders are positively motivated and a few ‘hold out’ thereby creating a ‘minority within a minority’ making it difficult to build consensus on a given agenda. This is a typical phenomenon in a PSU where the major shareholder is the state and there lies a fractured shareholding pattern as to the public and this result in collective action problem as the major decision making is reported through the statal agencies.

The geopolitical factor that come into play is to the probable control by foreign/private players in case of disinvestment by the government over a PSU which is the lifeline of the nation as far as its strategic importance is concerned. This has been a great criticism when the disinvestment policy was initiated in India as well. However, disinvestment in a systematic manner has the potential to effectuate efficiency in the sick setup of a PSU and must be resorted to with greater caution.

Recent Anecdotal Evidence: Coal India Ltd (CIL) About CIL: • CIL, India’s premier coal mining company and the largest coal producer in the world was granted Maharatna status in April 2011.

• It produces about 81.1% of India’s overall coal production and feeds 82 out of the 86 coalbased thermal power plants in India supplying coal which accounts for 40% of the total power generation alone in the country.

• The Children’s Investment Fund Management (UK) LLP (“TCIF’) is the second largest shareholder of Coal India Limited to the tune

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of 1.1% whereas Government of India (“GoI”) holds a total of 90%.

• While supporting the GoI’s policy for ensuring price stability, self-sufficiency in coal and reducing dependence on imports, CIL has been facing various challenges of reduced excavations and declining quality of coal and has realised the need to go beyond Indian shores.

• CIL’s consistent performance over the ten-year period of 2000-2001 to 2009-2010 has helped it receive 5 “Excellent”, 4 “Very Good” and 1 “Good” rating which has empowered CIL to explore options for acquiring coal mines in other countries through JVs and alliances through its international arm viz. CIL Videsh.

• It has set up a wholly owned subsidiary Coal India Africana Limitada (CIAL) in Mozambique which has been awarded prospecting licenses for two geological coal blocks by the Government of Mozambique in 2010. Besides the JV of ICVL as given above, it has also been evaluating proposals for acquisition of coal assets in Australia, Indonesia and USA. The controversy: • TCIF vide a letter dated March 12, 2012 to CIL’s Board of Directors has brought to light very many issues as to the Corporate Governance practices as to PSU’s in India with a clear reference to CIL’s operations.

• TCIF accused the Board to have failed to discharge their fiduciary duties as Directors towards the interest of the company and its shareholders on the grounds that they did not push back on the Ministry of Coal, GoI’s decision to dictate the coal prices despite the fact that coal prices were deregulated. It objected to the interference of GoI in the determination of coal prices and called it a violation of the Colliery Control Order, 2000 and the decision of the Hon. Supreme Court of India in Ashoka Smokeless Coal India Pvt. Ltd. v. Union of India.

• It challenged that the Prime Minister’s Office’s interference as to entering into Fuel Supply Agreements (“FSA”) which are detrimental to the interests of CIL and alleged a wrongful favour to power companies at the behest of CIL and its commercial interests. It also objected to the coal price being 70% less than the international price that is detrimental to the national interest as well.

• Quoting from 2G Spectrum Case as to optimum utilization of resources and the state being

custodian of these natural resources owes a duty to put to its best use, the TCFI alleges misuse of coal resources which has aptly depicted in the COALGATE scam that unfolded.

• The fair and equitable clause in case of a Bilateral Investment Treaty between Cyprus and India is as per TCFI being violated, and hence it proposes to challenge the same in the international forum.

• Whereas the GoI has stated that since ‘national interest’ would be predominant in the decisions governing CIL as stated in Clauses 17 and 55 as Risk Factors in the Draft Red Herring Prospectus in a transparent manner, relying on which TCFI had invested, it is presumed to be aware of the fact which amounts to promissory estoppel.

• Based on the same TCFI has filled for a derivative action against Coal India Limited and its Board of Directors in the Hon. Kolkata High Court and the said court has accepted the original jurisdiction to try the said case and is subjudice.

The scrutiny: The clear visibility as to the clash of trusteeship and stewardship is depicted here suggesting the violation of fiduciary duties by the Directors resulting in the agency problem. Moreover, since TCFI is a minority shareholder its rights are jeopardized due to the alleged irregularities of the GoI and hence it is forced to file litigation to enforce its rights. Also, the other geopolitical factors are disclosed as to a challenge in an international forum for violation of ‘fair and equitable clause’ Bilateral Investment Treaty, which surround this dispute. For many scholars, Coal India Limited shall succeed as the clauses are clear regarding national interest. However a case of TCFI cannot be disregarded as the nature of evidence they possess clearly depict the breach of duty, but in absence of statutory recognition of derivative action in India (as on the date of filling) would render it difficult for the hedge fund to secure its interest. Despite that it is an unambiguous illustration of ‘government failure’ in the governance of PSU’s which must serve as lessons for lawmakers who seek to codify Corporate Governance in PSU’s.

Legal Structures of Corporate Governance for PSU’s: An epigrammatic narration At the International level, The OECD Guidelines on Corporate Governance of SOE’s (2005) and in the national framework, the Department of

Public Enterprises, GoI Guidelines for Centre Public Sector Enterprises (2011) read along with seem to depict a vast difference between the standards that are set internationally and the national standards for Corporate Governance of PSE’s. The Financing norms for PSE’s is relaxed as the GoI itself provides for equity finance, they don’t compete for credit that makes the management lethargic and more prone to inefficiency. The overregulation of PSE’s by the concerned ministries and no autonomy for conducting internal affairs, appointment of directors and constitution of an independent board and lack of systematic process for performance appraisal for Directors are a few glaring differences from the Indian framework.

Also that various State level PSE’s are regulated by the State Governments ensuring them to form such policies for better Corporate Governance is also the need of the hour.

The reforms in this arena are shortly on the cards; the Planning Commission of India has also come out with recommendations in November 2011 for ensuring best practices of corporate governance are incorporated in practice for PSE’s. Moreover the statutory codification in the Companies Act, 2013 of the Derivative actions in the form of Class Actions in Section 245, the clear codification of Director’s Duty in Section 166, higher standard of duty on Independent Director and also the proposed code of conduct for them are a few steps in the right direction subject to their effective enforcement and a reunification in the form of the revised guidelines for PSE’s applicable to all undertakings encompassing the best practices and all regulatory compliances of various regulators to be merged into a single code would ease the process of multifarious regulations of PSE’s. This is barely enough.

The temples of modern India, as India’s first Prime Minister Jawaharlal Nehru, described PSUs, require more than just minor repairs to prevent them from crumbling.

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NIVESHAK INVESTMENT FUND

Bhawana Saraf

IIM Shillong In the December 2013 edition of its flagship monthly magazine Niveshak, the Finance Club of IIM Shillong launched its first investment fund named after its magazine as ‘Niveshak Investment Fund’ The consistent efforts of the fund managers have taken the valuation of the fund from ten lakhs to more than fifteen lakhs in a year’s time. The investment is divided into two broad categories – stocks (equity) and mutual funds (debt). The fund is dominated by equity with the ratio between equity and debt approximately 6:1. The fund started with five to six sectors eventually venturing into eleven sectors including auto, banks, computers (software), food processing, paints & varnishes, personal care, pharmaceuticals and textiles (readymade apparels). UTI Dynamic Bond Fund, Reliance Dynamic Bond Fund and HDFC High Interest Fund – Dynamic Fund are the mutual funds covered by NIF. Tata Motors Around 6.6% of the value of the portfolio is dedicated to the Tata Motors Ltd., largest manufacturer in Indian automotive industry and a subsidiary of Tata Group. The company has

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reported a 9% rise in its global sales. However the slowdown in the Chinese economy was reflected by a decline in its stock price. The Company has been in talks due to its expansion plans in UK and decision to sell down its stake by 90% in Tata Technologies along with its P/E. However, the fund reported an overall gain of greater than 15%. Also analysts suggest a long position on this stock.

Lupin Approximately 15% of the portfolio value is held in the stock of Lupin Limited. It is a transnational pharmaceutical company based in Mumbai and also the second-largest Indian pharmaceutical company by market capitalization. The analysts were positive about the stock by the end of FY2014 and were recommending long position.

This was encouraged by the launches made by the company in US and Canada. However, the stock price plunged by around 5% with the downgrading by Nomura to neutral. They cited

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slower US sales growth and high R&D spend as the major reasons which would ultimately slowdown the earnings growth.

HDFC Bank HDFC Bank is the largest private sector bank in India by market capitalization. It constitutes more than 7% of the portfolio value. HDFC Bank has proved to be a profitable bet with the Q4 results showing an increasing trend, stock price surging upwards and the analysts’ expectation of high performance. HDFC Bank has posted robust set of numbers in Q4 with a 20.6 percent rise in net profit and an improvement in asset quality. “With credit growth of 21 percent and in line numbers on the revenue front as well as on the profitability we think they would be able to gain market share further in the coming periods when the economy turns around.”, an analyst comments.

Colgate Palmolive In the consumer durables sector our biggest stake lies in one of the most established brands in personal care –Colgate Palmolive (8% approx.). The stock witnessed lows in the beginning of the financial

year. However the analysts changed their position from ‘neutral’ to ‘hold’ with some of them even recommending ‘buy’ for the stock.

This was with the company releasing its Q4 results which met analysts’ expectations.

TCS Tata Consultancy Services is one of the largest Indian Companies by market capitalization and is among the ‘Big 4’ most valuable IT services brands worldwide. After consumer durables IT has been the interest of NIF, with TCS contributing around 5%. TCS recorded a sharp decline in its share price due to worse than expected earnings performance post Q4 results.

This led to the stock’s biggest decline in the past six months. The revenue growth halved from the last financial year to this year. The market capitalisation hit badly as well. Despite the tepid growth, TCS surprised staff and investors by announcing a one-time bonus. Currently, the analysts are not in favour of the stock. Risks of growth slowdown, increasing competitive intensity, lack of incremental margin levers and currency headwinds are plaguing the entire sector.

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PERCENTAGE WEIGHT (%) 11.51 7.10 8.14 20.06 5.70 14.62 7.39 5.40 14.44 5.65 100

Figure 1.1 : Sectorwise distribution

ITC ITC, an Indian conglomerate, constitutes around 6% of the portfolio. The anti-tobacco approach by various state governments as well as the government at the centre and the increase in duties in the Finance Budget which adversely impact the tobacco vertical of ITC are the areas of concern for the company. This is more due to the fact that tobacco vertical is the largest contributor to the topline and bottomline.

However, talks have been going to separate the division so that negative impact of one sector does not impact the performance of other businesses. Also, another area of concern is FIIs have majorly invested in FMCG Sector including ITC. Hence any fall is expected to be followed by corrections to make the market stable. Most of the analysts have given ‘hold’ recommendation for the stock.

Page Industries The scrip of Page Industries, maker of undergarments and other innerwear, has run up almost 20 per cent in the past against a flattish S&P BSE Sensex. Consistent financial performance over the past few years, the strong ‘Jockey’ brand equity and a robust distribution network are some factors supporting the premium valuations. Analysts believe these factors are here to stay. Despite weakening macro-economic growth, Page managed to hold volume growth in volume at 14-19 per cent in each of the past two years. Page is way ahead of listed peers in size and return ratios. Page

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recently reported a 29 per cent increase in net profit for the December quarter on higher sales. The strong fundamentals and consistent performance of Page Industries have prompted the analysts to give ‘Buy’ recommendation for the stock.

Asian Paints Asian Paints is India’s largest paint company and Asia’s third largest paint company and also operates worldwide through its subsidiaries Berger International Limited, Apco Coatings Limited, SCIB Paints and Taubmans. Asian Paints recorded sluggish growth in the third quarter and missed street expectations on all parameters. This was due to single digit growth in the decorative paint segment in India. However, analysts are expecting the topline growth to recover in the coming quarters as demand picks up. They have reiterated ‘Buy’ on the stock. Softening global crude prices can provide a significant margin boost. Also, Asian Paints’ market leadership and superior pricing power keeps the confidence in the stock intact.

Britannia Britannia Industries ltd with a market share of around 40% is one of the leading Food & Beverages group in India. It has booked a jump in earnings for the first nine months of its financial year. In the third quarter the company witnessed a strong volume growth of 9%. The company is planning to spend huge amount in expansion of capacities, product innovation and the setting up an innovation centre. However, the analysts have maintained a cautious view on fast moving

consumer goods companies due to a recent slip down in stock prices. Britannia has also witnessed a dip in its price. Analysts are of the opinion that the rural fundamentals are not in place for the consumer growth story. They also believe that competition in select categories would increase going ahead which is most likely to compel the consumer companies to pass on price benefits to the consumers and restrict operating margin expansion.

Niveshak Investment Fund (NIF) has performed well from its inception. The philosophy behind managing the portfolio is to keep the beta i.e. risk associated with the stock low. The stocks have overall gained by more than twenty per cent while mutual funds showed a hike of five per cent in its value. The current value of the portfolio is approximately 1.5 times the original investment. The holdings in various sectors along with mutual funds have enabled the fund to diversify its risk. The fund aims to give an edge by capturing the best sectoral opportunities in the market. The fund performance is measured against NSE benchmark index Nifty.

One of the most reputed professors of our Institute, Dr.P. Saravanan, has shared his insights on Niveshak Investment Fund.

Dr. P. Saravanan holds doctorate in commerce.

His basic areas of interest are Corporate Finance and Financial Planning. He is a member of the American Finance Association, F i n a n c i a l Management Association International and American Economic Association. Recently he was awarded 25th FDP Silver Jubilee Research Fellowship from Indian Institute of Management, Ahmedabad.

Niveshak Investment Fund (NIF) is a fund which is managed by the students of IIM-Shillong. The prime objective of the fund is to out beat the market rate of returns by assuming reasonable amount of risk. Accordingly, the fund generated

a return of 21% on equity holding and 6% on mutual funds during a holding period of 11 months starting from July 2014 to till 30th March 2015. During the same time span the BSE Sensex gave a return in single digit. Considering this the fund out beat the market. However, one need to investigate whether the same is achieved by assuming higher amount of risk.

To assess the same, one need to compute what is known as attribution analysis. The analysis revealed that the fund managers have not taken higher amount of risk than that of the market risk. Hence, one can safely conclude that NIF is managed well during the last 11 months period of time. At the same time, is is observed that the fund managers adopt to some degree passive investing philosophy as the turnaround in some of the stocks were not more than once.

With reference to the mutual funds return, I could not assess what kind of funds wherein the money is parked. Looking at the returns, it is assumed that it might be a debt fund.

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SECTOR Automotive Banking & Financial Services Chemicals Consumer Non-Durables Food & Beverages Information Technology Manufacturing Miscellaneous Pharmaceuticals Tobacco Total

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GRASS ON THE OTHER SIDE Does Green Finance have a future?

Gaurav Maheshwari & Pushkar Ralegankar

KJSIMSR

दशकूपसमा वापी दशवापीसमो ह्रदः । दशह्रदसमः पुतर् ो दशपुतर् समो द्रम ु ः॥ (Matsya- Purana 154:512) A pond equals ten wells, a reservoir equals ten ponds.

A son equals ten reservoirs, and a tree equals ten sons!

Here the tree symbolises Mother Nature; she is being used for all manner of luxuries by humans without even thinking of how it will affect the future of living beings. ‘Green’ symbolises a shift from colour of calmness to matter of concern -- there is need to find a path which will aid human development that is not at the expense of nature.

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India is benefited with its vast expanse of natural resources which can be converted into renewable energy resources. Ministry of New and Renewable energy (MNRE) formed in 1992 was step taken to fulfil the energy need of India, but green finance is still under its way to be known by corporate due to lack of information and cost involved in it. It is speculated that by

2050 there will not be any glacier in the world.

This projection should create concerns that would inevitably give rise to stringent norms to promote green businesses and will require finance, both public and private, and on a large scale.

Green projects are meant to help human interests without destroying the nature. That is to say it values nature’s contribution while striving for sustainable growth keeping environment into consideration.

Green finances are those investments which will only be used for such green projects.

Effectiveness Of Green Finance • Green growth is currently limited to voluntary initiatives of investors – the advent of green finance shall further provide motivation, the rising pressure from pro-environment organizations notwithstanding, giving a comparative advantage to first movers.

• With better use and conservation of resources, operations stand to be even more streamlined and costs will be reduced. In 2011, a research study was conducted by KPMG entitled “The Corporate Sustainability”, it stated, switching to green mode will enhance brand reputation, legal compliance, service differentiation and profitability.

• Employee retention: as a survey estimated, 52% of employees feel their company should do more about the environment.

Green Finance Indices These would identify and pool companies with solid environmental performance and benchmark them for green performance quality as well as low carbon performance. The green indices offer diversification potential, control, screening on the basis of green criteria, aggregation of small green investments in the large investments.

The green indices will consist of only those products which are pro- environment investments. It will consist of the projects, products, social responsible activities which can be demonstrated in the financial terms.

The index will be similar to commodities index where all traded commodities are taken into consideration.

Investing in this will help in diversification of the industry which will be a safe investment and have long term view. As green sustainability will be a prime concern in future times, investment will have less risk in future. Index will have filter which will justify the consideration of financial product into index. The scrutiny will make sure that the investment is actually helping in the conservation of nature.

Financial Products The green financial products can be divided in four categories as shown in the adjoining figure: Retail finance: Green mortgages or home loans offer very low interest rates to the customers who purchase new energy efficient houses or invest in renewable energy.

Green credit cards: Banks offer discounts and low borrowing rates to customers who purchase green products and services. Green products are usually biodegradable and made from recycled material.

They also conserve energy by promoting renewable and natural resources. Eg. Solar lanterns, solar water heaters, solar lamps etc.

Eco- Exchange Traded Fund (ETF): Fund which will invest only in the projects related to conservation of energy and renewable resources come under this ETF. The risk of the

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project is not transferred to the buyer of the fund but he avails the benefits of new project.

Green bond: It is a debt instrument where the issuer raises money through investors, publicly stating that the capital will use only in green projects.

Green bonds are fixed income, liquid financial instruments that are used to raise funds dedicated to climate-mitigation, adaptation, and other environment-friendly projects. A tax-exempt bond issued by government for the development of brown field sites is also often classified as green bond (the term ‘brown field’ appertains to expansion, redevelopment and reuse of real property).

two parts: finance to support green growth and finance to support environmental costs. Green growth financing can mean both green loan and green funds in the capital market. It involves climatic risks though.

Initiatives Taken By Government In February 2014, Indian Renewable Energy Development Agency (IREDA) marked India’s entry into green bonds. These bonds were tax free and received AAA rating from agencies like CARE. In the last month, the EXIM Bank of India

Carbon finance: It gives the financial implications of living in carbon constrained world. There is price for emission of carbon dioxide and other greenhouse gases. Market instruments are used to trade the quantity of carbon that can be released by paying the price.

The financial products listed above are not per se visible. The money which will be invested through these products will go into following kind of projects.

• Green housing habitat, rain water harvesting, renewable/ solar energized sanitation.

• Biomass energy- Rice husk, sugarcane biogases, molasses waste.

• Rural and eco-tourism, bio-fertilizer, biopesticide.

Shift Towards Green Model For greater proliferation of green business models, which primarily involve a shift toward a less carbon intensive economy and society: interlinking of financial products, environmental improvement and economic growth is required.

Focusing on financial industry, it needs to develop new green financial products through which investment can be done in green industries and technologies. Green Finance can be divided into

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issued a five-year $500 mn green bond, which is India’s first dollar denominated bond. It was quite successful as the issue was subscribed 3.2 times. There have also been some positive announcements in the recent Union Budget. Proposal of National Investment and Infrastructure fund with an annual flow of 20,000 crore into it and increase in coal cess promise to further boost Sustainable Green Energy. A National Wind mission was also announced last year. The concept of these green bonds can be utilized both in private and public sector and their functioning is quite same except that the proceeds from bonds must be used for funding of Green Projects. Recently, Renewable Energy Global Investors meet was organized by India to promote Investment in Green sector. Global Financial Institutions are expected to lend their support for the same. US EXIM bank has agreed to provide medium term and long term loans for up to $1 billion for IREDA- affiliated Projects.

IREDA has initiated various loan schemes like Capital Subsidy for Installation of Solar Water

Heating Systems, claims payable for Interactive Wind and Solar Power Projects and it has also taken up lead in arrangement of Consolidated / Syndicated loans for the Investment to take place.

Measures have also been taken by the Small Industries Development Bank of India (SIDBI) for clean energy investments support to MSMEs. This will increase the productivity of MSME, subjected to parameters like Minimum Assistance of 10 lakhs. As per SIDBI’s loan extant policy, 25% contribution of Promoter and the enterprise should score above Minimum Investment grade rating.

Sentiment At Large In India DuPont conducted a green living survey recently in India in 12 major cities. In the survey, more than 63% of consumers were familiar with green products and among those, 85% had confidence that they are better for environment. A key point to observe was that when the same study was conducted in China and United states, their confidence level percentage was 70% and 60% respectively, lower than India. This study is evidence of feasibility of green financial products in India which will boost investments in this category.

Negatives: First and foremost issue is that there is no solid definition of green worldwide. No benchmark index exists to track performance of green bonds. Low yield (mostly under 3%), no secondary trading and difficulty in ascertaining how green a project is, make these instruments unattractive. In India, green bonds have a shorter tenor period of 10 years whereas a typical loan would be of minimum 13 years, which is less than what is offered globally.

Also, in our country many people won’t invest in these bonds if they are rated below AAA as the investment may turn riskier. People have a dubious mind-set over return on green finance products. Returns on green investments have to increase while the perceived risk has to decrease.

For healthier returns on green investments, one can only hope that returns on dirty investments (like fossil fuels) decrease. Though the investors need not bear climatic risk, still in long term some investors can face risk due to uncertain conditions leading to low productivity. There can be other risks like regulation risks, country risk, awareness risk, climate litigation risk etc. Other barriers which exist are price distortion in green energies, institutional barriers, high transaction costs, high financing costs, operational issues and efficiency constraints.

So What Will Green Finance Help Achieve In India?

India has set for itself a quite ambitious target of building 175 GW of renewable energy capacity by 2022. Innovative and low cost financing is required to achieve this aim. Budget allocations have been insufficient. Indian commercial banks offer 10 year loans to renewable energy plants at interest rates of around 12% and such high costs can never be favourable for the sector. There are studies, which suggest that funding renewable projects with Indian government backed green bonds could lower the cost of clean power by as much as 25%. Our domestic banks like IDBI, ICICI, IFCI, SBI and PNB have started providing assistance to our green sector. An early bird that taps into these opportunities stands much to gain.

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Derivatives Market Palash Jain

IIM Shillong

Introduction The Indian financial markets are witnessing a boom run in the recent period. A lot of money is being invested and investor’s confidence is growing exponentially. Also a lot of money from outside the country is flowing in, in the form of FIIs. These are the few reasons for the indexes like SENSEX and NIFTY touching and surpassing their all-time highs. The derivative market also had a contribution in this run.

Derivative Instruments Derivative instruments are financial products that derive their value from an underlying financial instrument like stocks, bonds, commodities etc.

These derivative instruments can be traded in stock markets through exchanges like BSE and NSE or directly between two parties like Over the Counter (OTC) derivatives. Since they are derived from an underlying asset, their value fluctuates with the value of the underlying asset. The main purpose of derivative products is to transfer the

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price risk from one person to another. Thus it helps in transferring the risk from a party who wants to mitigate it to a party who is willing to take that risk.

The derivatives market in India has been working since the nineteenth century. Derivative products as an exchange traded financial instrument was introduced in June, 2000. NSE is the largest exchange for derivative products in India. The derivatives market is well regulated

by Securities and Exchange Board of India (SEBI).

Participants In The Derivative Markets In India, there are many entities participating in the financial markets like retail investors, institutional investors like mutual funds and banks and foreign investors in the form of FIIs. These use such derivative products for different purposes like mitigating or increasing risk, speculation etc. So based on these applications that derivatives are put to use, these investors can be put together in the following categories:

• Hedgers • Speculators • Arbitrageurs Hedgers are entities that look to mitigate their risk. They are usually the people who have a position in the spot market but are afraid that they may incur losses. So they participate in derivatives market to minimize or eliminate this risk. Thus, they tend to lock their prices to transact in future to avoid losses in the spot market transactions. Hedgers generally take positions in derivatives market which are opposite to their positions in the spot markets.

A speculator is a person who has an opinion about the potential movement of an underlying asset or index. This movement may be upside or downside. Thus a speculator bets on this opinion in derivative markets. They take a larger risk and take positions based on their opinion on anticipated price movement of the asset in the future. Since it is just an opinion on which they base their decision and the risk involved is large, their profits or losses also tend to be large. They generally trade for short term.

Arbitrageurs are people who tend to make profit from pricing inefficiencies of an underlying asset. There may be a situation where an asset is priced differently at different platforms. So arbitrageurs take two opposite positions in these platforms and earn the price difference which exists. Since there is no risk involved in this form of trading, it is also called riskless profit.

Types Of Derivative Products There are many types of derivative products that are traded all over the world. In its most basic form these types are: • Forwards • Futures • Options • Swaps Forwards A forward contract is a simple contract between two parties to buy or sell a certain underlying asset on a fixed date in future at a fixed price. In a forward contract, the two parties are directly involved and there is no exchange in between.

Thus a forward contract is an over the counter (OTC) product. Since it is an OTC product, the

contract can be directly negotiated between the two parties.

In a forward contract, the buyer of the contract agrees to buy a certain underlying asset from the seller at a predetermined price on a predetermined date in the future. Thus the contract is about making the transaction in future at a price determined today which is unlike spot market where the transactions occur on the spot. The party who agrees to buy the asset is said to have a long position in the contract and the party who agrees to sell the asset is said to have a short position in the contract.

The price agreed by both parties at which the transaction will occur is called the forward price and the date at which the transaction will occur is called the expiry date. Since these contracts are not traded on a public platform, they are not regulated by government agencies because of which they may carry some amount of counterparty risk. Counterparty risk is the risk of the other party not fulfilling its obligations on the expiry or termination of the contract. Since it is a private contract, it is difficult to estimate the size of the forward contract market.

Futures A futures contract is similar to a forward contract, that is, it is a contract between two parties to buy or sell a certain underlying asset on a specified date in the future at a specified price.

However, there are some differences between a forward contract and a futures contract. The main difference between them is that forward contract is an OTC product whereas a futures contract is traded in an exchange. So a futures contract is a standardized contract which is backed by an exchange. Since it is traded on an exchange, there is practically no counterparty risk as even if the counterparty defaults from his obligation the exchange steps in to prevent the loss.

It is very easy to enter into a futures contract.

The interested party has to just deposit what is called initial margin to enter into a futures contract. Initial margin is a fixed percentage of the contract value which everyone has to pay no matter if he is the buyer or the seller.

This percentage is determined by the exchange based on the risk and volatility. After they have entered into a futures contract, they have to maintain a margin called maintenance margin

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Table 1: Comparison of Futures and Forwards

or variation margin. This margin is the minimum amount to be maintained with the exchange in spite of the price fluctuations. If the price falls and the margin balance goes below the required level, then the exchange asks to put in more money to make it at the required level. This is called margin call. This enables the exchange to keep the mark to market feature in the futures contract. Mark to market feature is an arrangement where the profits and the losses on the positions are settled each day. This also reduces default risk.

A futures contract has a high level of risk as the money required to buy is less and due to contract size this risk multiplies. But the futures market is growing at a fast pace. The current volume is around 13 lakh contracts comprising of stock and index futures.

Options Options, like futures, are instruments that gives an opportunity to buy or sell an underlying asset. An options contract gives the buyer an option to buy or sell an underlying asset at a predetermined price either at expiry or in some cases before it. Options can be an OTC product as well as an exchange traded product. There are two types of options: 1) American Option: These can be exercised on any day on or before the expiry day.

2) European Option: These can be exercised only on the expiry date.

Call Option A call option gives the right to the buyer of the option to buy the underlying asset at a specified price. The price at which the buyer gets the right to buy is called the strike price. Since the buyer of the option has the right, he will exercise his

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right only if the price of the asset in the spot market is more than the strike price. But he is not obliged to exercise his right. However if the buyer decided to exercise his right, the seller has the obligation to make the transaction. The seller of the contract does not get any right to sell. When the spot price is greater than strike price, the option is in the money. When the spot price is less than strike price the option is out of money and when the spot price is equal to strike price the option is called at the money.

Put Option A put option gives the right to the buyer of the option to sell the underlying asset at a predetermined price. The price at which the buyer gets the right to sell is called the strike price. Since the buyer has the right to sell, he will exercise his right only if the price of the asset in the spot market is less than the strike price. If he decides to exercise his right, the seller will have to buy the asset at the price.

When the spot price is less than strike price the option is in the money and when the spot price is equal to strike price the option is called at the money. When the spot price is greater than strike price, the option is said to be out of the money.

There are many option strategies one can use.

Some of them are: 1) Covered Call: In this strategy you buy in the spot market and sell a call option 2) Protective Put: In this strategy you buy in the spot market and buy a put option 3) Straddle: In this strategy you buy a call and a put option at the same strike price of the same expiry date 4) Bull Spread: In this strategy you buy an in

the money option and sell an out of the money option 5) Bear Spread: In this strategy you buy an out of the money option and sell an in the money option 6) Collar: In this strategy you buy the asset in the spot market, buy put option and sell call option 7) Butterfly: In this strategy you buy one in the money option, one out of the money option and sell two at the money options Entering into an options contract is also very easy. A person can buy the contract by paying upfront an amount to enter. The amount is called the option premium. If the person decided to sell a contract, he will receive the premium. This type of derivative instrument is also very risky as positions can be magnified with the same amount as compared to spot market which can lead to larger gains or losses.

Swaps A swap is an exchange of cash flows between two people. In a swap, one party makes payment to the second party and the second party makes payment to the first on a specified date. The cash flows are calculated using a specified formula. Swaps are not listed and are generally traded through dealers. They are also not regulated. There are various types of swaps: • Interest Rate Swap • Currency Swap • Equity Swap • Credit Default Swap Interest Rate Swap is the most commonly used swap in which one party pays on the basis of a fixed rate and the other party pays on the basis of a floating rate like LIBOR, EURIBOR etc. This is used if one wants to convert their fixed rate cash flows to a floating rate cash flow or vice versa. The notional principal may or may not be exchanged at the beginning.

Currency Swap is a swap in which one party promises to make payment in one currency and the other party promises to make payment in another currency. Currency Swaps are often combined with interest rate swaps. Here the notional principal is generally exchanged as there are different currency involved. This swap

also has exchange rate risk, that is, risk arising out of fluctuating exchange rates.

Equity Swap is a swap in which one party promises to pay either on a fixed rate or floating rate basis while the other party pays on the basis of returns of an equity market index or any other index or stock.

Credit Default Swap is like an insurance policy in which the buyer of the swap pays a premium and the seller of the swap agrees to compensate the buyer for the losses in case a credit event like bankruptcy or downgrading occurs. The condition in this is that the loss must occur due to a credit event only.

There are also hybrid derivative products where two or more derivative products are put together to make a single product. An example of this is swaptions which is a combination of swap and options. In this the buyer has the right to enter into a swap at a future date.

Conclusion Derivatives market is a very lucrative and a fast growing market. Today many people like to use derivative instruments in various strategies to increase their profits. But it also magnifies the risk and if this risk is ignored it can lead to a financial crisis like we saw in the case of subprime crisis where people underestimated the risk of derivative products like Collateralised Debt Obligation (CDOs) which lead to big corporations like Lehman Brothers filing for bankruptcy and other corporations like AIG and Merrill Lynch obtaining government bail-outs.

Thus people should invest in derivative markets after properly analysing and assessing its risk as they can not only give you large profits but they also have the capability to wipe out your entire investment.

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BRICS Bank Origination to Realization Nilay Kumar

SJSOM IIT Bombay The Whole World Watches When India and China Meet Brazil, Russia, India, China, and South Africa – the so called BRICS nations which constitute 40% of world’s population and more than 25% of world’s GDP, last month announced the formation of New Development Bank (NDB) in the 6th BRICS Summit. The bank will have an initial fund of $50 billion and $100 billion in emergency stabilization fund. The bank will be an alternative global institutions to the western dominated World Bank and IMF to finance development and infrastructure projects across the developing economies.

Past Examples History shows that this was not the first time such initiative was taken. Following are other examples:

Financing Initial authorized capital will be USD $100 billion and subscribed capital of USD $50 billion.

Rationale Behind BRICS Bank Frustration with existing system: Voting rights in IMF are assigned based on the country’s relative size in the global economy as measured by GDP. This means that the top five shareholders (the US, Japan, Germany, the UK and France) hold nearly 40 percent of total voting power, even if they constitute only about 10 percent of the world’s population, while BRICS countries like India and China, with approximately 20 percent of the world’s population each, are given only about 2-3 percent of total voting power.

BRICS Bank assigns one vote to each member

country and hence provides equal voting rights to all participating nations.

Stringent conditions in lending by IMF and World Bank: IMF does not give due representation to developing economies and imposes strict requirements while lending emergency loans.

IMF imposes strict conditions on use of funds lent and dictate on any fund they give to developing economies. Nations who received loans from them were forced to privatize public services which made no sense. This resulted in private companies mostly in west to get fat contracts.

Need for Infrastructure and more Sustainable Development: It is evident that infrastructure development will bring about economic growth and reduce inequality levels. It also fulfils the basic needs of poor people. Use of renewable energy on developing infrastructure is an important initiative.

Above figure shows East India and Pacific require largest fund for infrastructure development. Amongst sectors, largest need is in electricity sector.

Although 5-10% fund is required during preparation and design, it is the most important feature of the planned BRICS Bank.

Political angle in BRICS Bank: Formation of NDB can also be thought of from the perspective of gaining political advantage by the leader of BRICS nations as summarized in the figure below: Positive Implications • BRICS Bank can lobby for greater influence in International Financial Institutions (IFI) and raise voice on international security concerns.

• The Contingent reserve arrangement of $100 billion will help during financial and BoP crisis like that of 2007-08 Great Recession.

• It will add pressure for reform at the existing institutions by challenging the leadership of

any proposition.

World Bank and It was natural to IMF over issues have headquarter at such as emergency Shanghai as China assistance, policy outshines its peers lending, funding for in terms of GDP and basic services and forex reserves which funding to conflict are greater than affected states.

India, Brazil and • BRICS bank could Russia combined. offer cheaper loans Also China has for power projects. larger contribution India sources power Fig 1: Contribution of BRICS nations to NDB fund. of $51 billion to equipment from China for at Contingency Reserve Account.

China continues least 25% of its power generation capacity. to be a major trading partner for other BRICS • With US discouraging World Bank to lend for countries and hence China is going to dominate coal-based power projects, borrowing from the decisions.

BRICS bank will help India in this regard.

• At first sight, it may seem to be attractive to • India will play a major role in structuring and borrowing nations which will not be subjected policies as the first bank president will be from to conditions with non-financial obligations India.

by BRICS bank. This will potentially lead to • Intra-BRICS transactions will be held in local challenge good governance and sustainable currencies which will help control volatility. development. Infrastructure projects are • Large gap in lending to infrastructure sector fraught with environmental, social and local will be abridged. complexities. BRICS nation might not consider this. They will adopt ways of doing things based Negative Implications on their own culture and socio-economic needs.

• Even if NDB’s capital rises to $100 billion To achieve success, BRICS bank need to focus on including those given by non BRICS countries, it two things: Risk management and coordination. will fall short in meeting world’s infrastructure For this the monitoring and surveillance need as World Bank has estimated that South mechanism needs to be strengthened and Asia alone will require around $2.5 trillion over default loan to be kept minimum. It should next ten years. develop an independent redress mechanism to • The different positions held by BRICS countries address complaints and ensure compliance to like headquarter in China, President from India, international laws.

Chairman of Board of Governors from China and Word Of Caution Chairman of Board of Directors from Brazil may not all agree on same decisions.

BRICS Bank needs to be careful. The World Bank and IMF, the companies and countries looking • China may dominate above all in enforcing

Fig 2: State of BRICS nations

APRIL 2015

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NIVESHAK

Article of the Month Finsight Cover Story

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human rights in all its activities, and eliminate prejudicial treatment.

The BRICS nations have found a mortar that binds them: their common experience, and rejection, of the neoliberal development model of the past several decades and the westerndominated IMF and the World Bank that still advocate it. BRICS nations must realize that true

Fig 3: Political interest in formation of BRICS Bank

institutions and provide an alternative for developing countries? This is a trillion dollar question, given the fact that “the BRICS Grouping” was only an obscure term coined in 2001.

Conclusion BRICS Bank should adopt procedures that are transparent, environmental friendly and follow ensure maximum benefits to marginalized people and develop schemes that actually communities want. It should include policies on rehabilitation of indigenous people, prohibit

constraint to economic growth has never been the lack of funds but the so called “little bric” of bureaucracy, regulations, intervention and corruption that gets on the way to sustainable development.

But then there is million dollar statement which goes like: “A journey of thousands of miles starts with a single step.”

-Lao Tzu (Chinese Philosopher)

SAndeep Sharma IIM Shillong

Hello Students, today we are going to talk about marginal standing facility and its impact. So what do you know about marginal standing facility?

Sir, it is an interest rate which RBI charges to other banks while giving loans against the collaterals and deposits which are present with the central bank (RBI).

FinGyaan

to raise funds from it, the nature and the people are all watching. Sustainable lending will be the key focus. Natural resources like river, forest, animals may get disturbed. Take for example, when a dam is financed, many species are put to extinction and many indigenous people living there are rendered homeless. Can BRICS bank pose challenge to existing Breton Wood

Marginal Standing Facility separate under statutory liquidity ratio (current SLR = 23%). SLR has three components viz. cash, gold or permitted government securities (like Treasury bills, government of India bonds and state development loans). Now Repo is called a repurchase agreement because the permitted securities (in excess to 23% of SLR) which were kept as collateral with the RBI while taking loan would be returned back by RBI to the bank on repayment of loan. Now, suppose bank is in need of more money but do not have access of SLR to put as collateral (other than the 23% which is already present with the RBI). To address this issue RBI came up with the concept of Marginal standing facility where the bank could borrow money against the 23% of SLR but they would have to pay interest at a higher rate (8.50% as compared to 7.50% (repo)).

The maximum amount that commercial banks can borrow at MSF is 2.5% of NDTL which is 1% of NDTL at repo rate.

Sir, having understood MSF and how it works, can you please explain us on how a hike in marginal standing facility is important for us in terms of impact?

Yes, in fact you are right. But to understand marginal standing facility a little better we would start with our understanding on what is “Repo”. Repo rate as you all may be knowing is the rate at which RBI lends money to the commercial bank (overnight or at a maximum of 3 days). This transaction of RBI lending money to commercial bank is called Liquidity adjustment facility. MSF was introduced in year 2011 in order to increase the cap on borrowing that could be done by bank. MSF is A hike in marginal standing facility also a rate at which RBI lends money to the bank but will affect us in following ways:some of the terms and conditions in this case are 1. Hiking MSF rate makes different. borrowing expensive for a bank which Sir, then how is marginal standing means loans become expensive for facility different from Repo rate? individual and corporate borrowers and this in turn translates to lesser availability of the money. RBI uses Ok. We would throw some more light MSF and other measures to control money supply in on Repo rate & SLR before explaining how it the financial system. is different from marginal standing facility.

2. MSF rate hike is being done to control excess Suppose a bank has Rs. 100 say in terms availability of the rupee and to control its depreciation of deposit (current account, savings account, fixed with respect to the dollar. deposit etc.) with it which is called NDTL (net demand and time liability) because this money actually does Sir, Thank you for explaining the not belong to the bank, as customer can demand them concept of Marginal Standing Facility. at any period of time, thus for keeping the money with itself bank pays interest on it. Out of Rs. 100 available with the bank, it has to keep some money © FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG

Classroom Cover Story

CLASSROOM

APRIL 2015

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NIVESHAK

Jatin Sethi

With this I can now truly say that life has come a full circle. Words will never be enough to sum up my experiences as member of the Finance Club of IIM Shillong. Whether it has been working month after month to come out with Niveshak that was better than the previous one or performing as a team to come up with events that engage and interest finance enthusiasts across B-schools, every moment has been a great learning experience. I would like to thank each and every member of the Finance Club of PGP 2013-15 who has worked together through every situation and ensured that Finance Club is now on strong foundations. It is also a proud moment as we pass on the baton to an extremely able team of juniors forming the Finance Club of PGP 2014-16. Endeavors such as the Niveshak Investment Fund have just re-instated my faith in this team and I really wish and hope that they continue to succeed in each every venture of theirs and continue taking the Finance Club of IIM Shillong to greater heights.

Tarun Kocherlakota

Akanksha Gupta

As a member of the Finance Club of IIM Shillong one gets to live a whole journey of discovering unknown talents in oneself and handling challenges. Beginning by learning from the senior team to working hand in glove with my team, the quest to decipher the complexities of the finance world gave me opportunities to learn in ways which would not have been possible otherwise. This includes unique experiences, industry interactions and in-numerous brainstorming sessions for planning and executing various activities that come under the vast gambit of what the Finance Club means to the readers of Niveshak and the participants of the various activities organized by the club.

I would like to thank all our readers for always being a constant support in helping us evolve. I hope the bond between you and the club grows stronger with time. We leave you in the hands of a very able junior team, who are already adding more engaging flavors to the magazine and the club, to make your encounter with the Finance World more interesting.

Apoorva Sharma

I feel extremely privileged to be an integral part of a dynamic and self-motivated team. I got the opportunity to learn from my intellectual team members. Being a part of the finance club, has helped me grow as an individual, whether it be through writing an article for Niveshak, starting the Niveshak Investment Fund together, interacting with industry professionals or organizing various competitions. Apart from knowledge in the finance domain, it taught me commitment. I shall always cherish the enriching journey.

I wish my able and talented junior Finance club members all the best in all their future endeavors.

Keep up the good work and work with the same enthusiasm to take Finance club to even greater heights.

The message would be incomplete without thanking our readers who are our source of inspiration and motivation. Thank you for your support and encouragement. As always, Stay Invested!

Gaurav Bhardwaj

Being a part of Niveshak, the Investment & Finance Club of IIM Shillong has not just helped me keep abreast of the latest happenings in the financial world but has also given me the opportunity of working with some of the best minds on campus. Being the part of the club helped me in improving my management and people skills. Some of the initiatives that we took like FinDrishti, Vishleshan, Niveshak Investment Fund (NIF), Dalal street etc. were a great learning experience. I would like to wish Finance Club 2014-16 all the best in all their future endeavors and hope to see brand Niveshak reaching greater heights in future.

Passion for finance had encouraged me to pursue MBA and Finance Club made me live this passion here at IIM Shillong. I would like to thank the Finance Club of PGP -12 which gave me an opportunity to work in such a dynamic and competitive team. The best part of it was our team meetings which on numerous occasions stretched pretty late in the night. These meetings were never quiet; as most of us would surely agree but the kind of ideas and solutions out of these brainstorming sessions helped me in learning a lot from each and every one. Finance Club is one of the sweetest memories which I would be carrying along with myself from Shillong and will surely miss it. I would like to congratulate the Finance Club of PGP-14 for the wonderful work they have been doing and I hope you guys will take this club to greater heights in the future.

Last but not the least, I pay my regards to all the readers of Niveshak and the participants for making all our events great success.

And as always Stay Invested!

Mohit Gupta

My mind still holds afresh the memory of the day the results for Finance Club inductions were announced. It was indeed one of the most joyous moments for me in IIM Shillong. Being a part of the Club has given me an opportunity to work with the best minds on campus. The challenges that we came across as a team in handling the responsibility of publishing a magazine every month and brainstorming for new initiatives and competitions be it FinDrishti, Vishleshan, Niveshak Investment Fund (NIF) etc. were a great learning experience. I’m proud to have been a part of the team which could carry forward the legacy started by our seniors. I would like to wish Finance Club 2014-16 all the best in all their future endeavors and hope to see Finance Club reaching new heights in near future. And for our readers – Stay Invested!

Mohnish Khiani

At the outset, I would thank my seniors for believing that I could take their great work forward.

Finance Club was a great journey at IIM Shillong in terms of not just getting a chance to manage our new initiative Niveshak Investment Fund(NIF) and editing the Niveshak magazine, but also in terms of teamwork, objectivity in decision making and peer learning from a set of sharp-minded group of people. It was a place where I actually used a few of the management principles learnt through books in the real life and got to learn how to handle tough situations calmly. Finally, my best wishes to our juniors. Take the flag of Finance club to even greater pinnacles of achievements.

S C Chakravarthi V

“Don’t be dismayed by good-byes. A farewell is necessary before you can meet again. And meeting again, after moments or lifetimes, is certain for those who are friends.” - Richard Bach Yes, we are not just a club. We are much beyond. We are a close group of friends and Finance Club, IIM Shillong was the very reason for getting all of us glued together. I would like to thank all my seniors of Finance Club for believing in me and inducting me into the one of the prestigious clubs of IIM Shillong. Releasing a magazine once in every month, conducting events every now and then never troubled us. It was always fun working with all of our club members. Partying was our culture and caring was our theme. I would definitely miss all those intense meetings among ourselves where we literally shouted at each other. So much was the intimacy we had and we will continue to have. Above all, I would like to wish the new team and the coming batches all the very best. Take pride in working for Finance Club, IIM Shillong and make us proud.

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