NISM Series IV Chapter V: Contract Specification for Interest Rate Derivatives (Part 2)
Price Quotation and Tick Size
Price Quotation Conventions
In exchange-traded interest rate derivatives markets, the style of quoting the contract price depends on the underlying debt instrument:
- Government Bond (G-Sec) Futures: Quoted directly in terms of price per Rs. 100 face value of the bond.
- 91-Day Treasury Bill (T-Bill) Futures: Quoted using an index format derived from the discount rate.
T-Bill Price Quotation Formula (Simple Line Format): Price Quotation = 100 - Discount Rate
- Example: If the prevailing market discount rate for a 91-day T-Bill is 6.50%, the futures price will be quoted as 100 - 6.50 = 93.5000.
Tick Size
The tick size is defined as the minimum permissible price fluctuation in a contract traded on the Exchange.
- The tick size for both 91-Day T-Bill futures and active G-Sec futures (6-year, 10-year, and 13-year) is Rs. 0.0025.
- Any order entered into the trading system must have a price that is an integer multiple of this tick size.
Trading Hours
The exchange trading schedule is strictly synchronized with the cash market to facilitate hedging and arbitrage:
- Trading hours for interest rate futures are aligned with the operating hours of the Negotiated Dealing System-Order Matching (NDS-OM).
- The standard trading window is currently between 9:00 AM and 5:00 PM on all business days.
Settlement Price Calculations
The Exchange implements two distinct settlement price mechanisms to manage risk (via daily margins) and perform the final contractual closeout.
1. Daily Settlement Price (DSP)
The Daily Settlement Price (DSP) is the reference rate used at the end of each trading day to implement margining and mark-to-market (MTM) calculations. Daily MTM adjustments continuously update the carry price of the contract.
DSP Calculation Hierarchy:
- Primary Method (Futures Market Volume): The DSP is calculated as the Volume Weighted Average Price (VWAP) of the futures contract during the last 30 minutes of trading.
- Alternative Method (Cash Market Volume): If no trades occur in the futures market during the final 30 minutes, the DSP is set as the VWAP of the actual underlying bond during the last two hours of trading in the cash NDS-OM market.
2. Final Settlement Price (FSP)
The Final Settlement Price (FSP) is the terminal price at which all open positions are officially closed out on the Settlement Day (SD). The calculation differs by product type:
| Futures Contract Type | Final Settlement Price (FSP) Basis |
|---|---|
| 91-Day T-Bill Futures | The weighted average discount yield (Y) determined in the primary auction of 91-day T-Bills conducted by the RBI on the contract's expiry date. |
| 6-Year, 10-Year, or 13-Year G-Sec Futures | The VWAP of the actual underlying bond during the last two hours of trading in the NDS-OM cash market. |
| Fallback for G-Sec Futures | If fewer than five trades occur in the cash market during the final two hours, the FSP is determined based on the valuation provided by FIMMDA. |
Delivery under Physical Settlement (Reference Only)
In India, all exchange-traded bond futures are currently cash-settled. However, physical delivery parameters are defined by regulators for theoretical and future readiness.
The Deliverable Basket and Squeeze Prevention
To allow physical settlement of a theoretical "notional" bond, the Exchange permits a basket of real-world central government securities to be substituted for delivery. These are designated as Deliverable Bonds and must meet specified eligibility criteria.
Allowing multiple deliverable securities prevents two major market issues:
- Liquidity Preservation: Institutional investors often hold bonds to maturity (buy-and-hold strategy). Because the outstanding stock of a specific bond is low compared to equities, the bond can quickly lose cash market liquidity, which would freeze a single-bond futures market.
- Squeeze Prevention: If only one bond were deliverable, market manipulators could easily corner the market by buying up the cash bond while simultaneously holding large long positions in futures, forcing shorts into an artificial delivery default.
Physical Delivery Settlement Process
If physical delivery is activated, the process must adhere to the following rules:
- Account Infrastructure: All deliveries must be executed through a Subsidiary General Ledger (SGL) Account or a Constituent Subsidiary General Ledger (CSGL) Account held with the Public Debt Office (PDO) of the RBI.
- Notification of Intent: The seller must officially notify the Exchange/Clearing Corporation of their intent to deliver on the Last Trading Day (LTD).
- Invoice Price Calculation: The final cash settlement amount (Invoice Price) paid by the buyer is adjusted based on the deliverable security's Conversion Factor (CF) and accrued interest.
Invoice Price Formula (Simple Line Format): Invoice Price = (Final Settlement Price * Conversion Factor) + Accrued Interest
- Buyer Allocation Hierarchy: The Clearing Corporation assigns the seller's delivery intentions to buyers at the client level, prioritizing the longest maturity/age. If multiple buyers share the same maturity/age profile and deliveries are insufficient, allocation is completed randomly.
Delivery Margin Requirements
Once delivery intentions and allocations are completed, a Delivery Margin is collected from both the buyer and the seller on the Day of Intent to mitigate settlement risk:
Delivery Margin Formula (Simple Line Format): Delivery Margin = VaR Margin on Invoice Price + (0.05 * Face Value)
The delivery margin remains locked from the Day of Intention and is released only after the securities and cash settlement are completed. Mark-to-market margin continues to apply to the closing price of the specific security being delivered.
Auction Settlement
If physical delivery fails, a special Auction Settlement is initiated by the Clearing Corporation on two specific occasions:
- When the seller fails to notify their Intent to Deliver.
- When there is a short-delivery of physical securities on the designated Settlement Day.
Important Terms & Definitions
- Tick Size: The smallest price increment by which a futures contract can change during a trading session.
- Volume Weighted Average Price (VWAP): A trading benchmark that calculates the average price of a security weighted by the total volume traded at each price level.
- Deliverable Bonds: Active sovereign debt securities that meet exchange criteria and are eligible for delivery against a bond futures contract.
- SGL Account: A Subsidiary General Ledger account maintained directly with the RBI's Public Debt Office for holding sovereign securities.
- Day of Intent: The day on which the seller officially declares their plan to deliver physical bonds to fulfill their futures obligation.
High-Yield Key Takeaways
- 91-Day T-Bill Quotation: Remember that T-Bill futures prices are quoted as 100 - Discount Rate. If the discount yield rises, the quoted futures price falls.
- Tick Size Uniformity: Both T-Bill and Government Bond futures share a uniform tick size of Rs. 0.0025.
- FSP Source Differences: 91-Day T-Bill futures settle against the primary RBI auction yield. G-Sec futures settle against the 2-hour cash market VWAP on NDS-OM (or FIMMDA valuations if cash trades are fewer than five).
- Cash Settlement Reality: Although physical delivery mechanisms (SGL transfer, Conversion Factors, and Delivery Margins) are defined for exams, all bond futures currently traded in India are compulsorily cash-settled.