The stock exchanges provide a platform for the transaction of securities in the secondary markets. Trading on the SE helps investors get the best price for the deals. There is no counterparty risk as the clearing corporation assumes the role of the counterparty to both the buyer as well as the seller.

The Bombay Stock Exchange (BSE) is the oldest SE in India. The National Stock Exchange (NSE) was set up in 1992. Both SE have now migrated to online, screen based trading systems. Equities, corporate debt paper, and government securities are all traded through these systems. There are separate segments for trading in wholesale and retail debt. Brokers access these systems through computer terminals. Orders are directly entered through these systems. Once the broker specifies the quantity and price, the system automatically finds a matching buy / sell order.

E trading permits the investors web based access to trade directly on the exchange. Client orders are routed to the computers of designated brokers from where they enter the trading systems of the SE.

Screen based trading offers the flexibility of trading from any place. This has created a sort of role crisis for the local stock exchanges, as the SE trading has now become truly national in character.

The emergence of Depositories has obviated the need to keep the share certificates in paper form. Shares (and other securities) can now be held and transferred in electronic form. Two depositories – National Securities Depository Ltd (NSDL), and Central Securities Depository Ltd (CSDL) have been set up for electronic holding and transfer of securities. Investors can access their services through the Depository Participants.

Settlement on the SE is now on a rolling (T+) basis. This means that the trades done on a particular day are settled after a given number of business days. (As of now, it is T+2 in India).

Market Indices

Any market index captures the price movements of a particular group or basket of securities. While constructing any index, the relevant issues are –

1. Which securities to include in the index calculation - This depends on the purpose of constructing the index. If we wish to capture the price movement of the frontline companies, shares of only those companies must be included. If we are interested in building a broad based index, we need to include a larger number of shares from different segments.

2. Method of averaging – If the objective is to reflect the price movement of the basket of securities, the simple average must be used. If the idea is to reflect the aggregate market value of the basket, value weighted index must be used. Under this method, each share gets a weight proportional to its market capitalization (MC). Suppose an index includes two shares A and B. A has MC of Rs. 1,000 crore, and B has MC of Rs. 3,000 crore. Then we attach a weight of ¼ to movements in A, and ¾ to movements in B.

3. Base Period – All index values are calculated in comparison to a base period (usually taken to be 100). The ideal base period is when there is no volatility.

The best known equity index is the BSE Sensex. This is a value weighted index with 30 shares. The base year is 1978-79. Another well known index is NSE Nifty comprising 50 shares. Both these indices track the aggregate market value of the frontline stocks, and may not be representative of the general price movement in the market.

Let us take an example to illustrate the concept of market capitalization weighted index. Suppose there are 3 shares; A, B, and C included in the index. The market capitalization of these three shares on the base day and a subsequent day are as follows.

Share MC on Base Day MC on Subsequent Day
A 100  120
B 900  1200
C 1000  1100
TOTAL 2000  2420

Index Calculation :

Suppose the base value assigned for the index is 100. Since the total MC on the base day is 2,000; the index value of 100 represents 2,000 MC. Now on the subsequent day, MC is 2,420; which translates into the index level of 121. The index has moved up by 21% between these two days.

There are also indices such as BSE 500 and S&P CNX 500, which include 500 shares and therefore are more broad based. In addition, there are a number of sector specific indices that track the price movement of shares of companies in a particular sector such as banking or Information Technology.

In debt markets, the most important market indicator is the movement in interest rates. There are now indices available to track the interest rate movement in government securities, money market, and the corporate bond market.