Analyzing price relations between spot and future markets during cash and…

The focal point of the study is to examine the impact of shifting from cash settlement to physical delivery in Individual Share Futures (ISF) contracts on the flow of information between the spot and futures markets. By employing Geweke’s Model measures to assess information feedback, the research analyzes the Ff’s values, indicating information flow from the futures market to the spot market, Fs’f values signifying information flow from the spot market to the futures market, and Fs’f values representing immediate information transfer between the two markets. The study reveals that with the implementation of the physical delivery system, there is a substantial decrease in information transmission between the spot and futures markets. Both the information flow from the spot to the futures market (Fsf) and from futures to the spot market (Ff’s) experienced a significant decline across various stocks. Moreover, the instantaneous feedback measures (nFs’f) suggest reduced information exchange between the markets under the physical delivery system.

The findings of the research indicate that the adoption of physical delivery resulted in a reduction in information flow between the spot and futures markets for many stocks. Furthermore, there was an observed rise in market segmentation after the transition to physical delivery, leading to a decline in the market performance of individual share futures contracts.

The Indian financial landscape witnessed substantial changes following economic liberalization in 1991. The transition from face-to-face trading to an electronic, order-driven, screen-based system in 1994 marked a significant evolution in the trading system. The implementation of satellite communication technology connecting major Indian cities enabled real-time participation from traders, facilitating nearly complete electronic order-matching in the financial markets nationwide.

Derivative trading procedures underwent notable transformations in India over time, with derivative trading history dating back to the formation of the LC Gupta Committee. In 1998, the Securities and Exchange Board of India (SEBI) accepted recommendations from the Dr. L.C. Gupta Committee, marking the phased introduction of derivative trading in India, starting with stock index futures. Subsequent committees, such as the “Derivative Market Review Committee,” coordinated efforts to broaden the range of products in the derivatives market, enhancing trading opportunities and encouraging market growth.

The success of futures and options contracts is intricately linked to their contract specifications. To ensure efficient market operations, exchanges regularly review and adjust contract specifications based on prevailing economic conditions. Contract specifications, including final settlement processes through physical delivery or cash settlement, play a crucial role in determining the effectiveness of futures market operations. Transitioning from cash settlement to the physical delivery system in Indian Individual Share F&O contracts, as outlined in the December 2018 circular, reflects SEBI’s commitment to aligning with optimal contract specifications for enhanced market performance and efficiency.