NISM Series IV (Interest Rate Derivatives) flashcards

32 cards. Read the term and the definition here. The deck at the top of this page is optional.

Modified duration

Percentage change in bond price for a 1% change in yield, equal to Macaulay duration divided by (1 + yield/frequency). Used to estimate DV01 and hedge ratios.

DV01

Rupee change in bond value for a 1 basis point yield move. Computed as modified duration × dirty price × 0.0001. Larger DV01 means greater sensitivity.

Convexity

Second-order measure of yield sensitivity. Captures curvature in the price-yield relationship; positive convexity makes price gains exceed losses for equal yield moves.

Forward rate

Rate implied today for a future period, derived from spot yields via (1+z2)^2 = (1+z1)(1+f). Used to price FRAs and forward-starting swaps.

Conversion factor

Price of the notional 7% coupon bond at a 6% yield, used to convert futures price into invoice price for a deliverable G-Sec.

Cheapest to deliver

Bond among deliverable G-Secs that maximises profit to the short (invoice price minus market price). Identified as the bond with the highest implied repo rate.

Implied repo rate

Return from buying the CTD and delivering it against the futures, computed as (invoice − spot)/spot × 365/days. The CTD has the highest implied repo rate.

Basis

Spot price of the CTD minus futures price times the conversion factor. Converges to zero at expiry; positive basis implies carry advantage to the short.

Invoice price

Amount paid by the long to the short on delivery: futures price × conversion factor plus accrued interest on the delivered bond.

Accrued interest

Interest earned on a bond since the last coupon date, calculated as coupon × days since last coupon / days in coupon period. Added to clean price to get dirty price.

Clean vs dirty price

Clean price excludes accrued interest; dirty price includes it. Bond quotes in India are typically clean, while settlement uses dirty price.

Yield to maturity

Single discount rate equating all future coupons and principal to the bond's current price. Assumes coupons reinvested at the same rate until maturity.

Zero coupon yield

Yield on a bond paying no coupons, priced as Face/(1+z)^n. Used to build the spot curve for pricing and forward rate derivation.

TREPS

Tri-party repo on CCIL's platform where a third party (CCIL) manages collateral. Used by banks and institutions for short-term liquidity at near call rates.

Call money market

Overnight uncollateralised interbank lending market in India. Rates are highly volatile and influence short-end benchmarks like MIBOR.

Interest rate futures contract

Exchange-traded contract on NSE/BSE with notional 10-year 7% G-Sec, quoted as 100 − yield, cash-settled, tick size 0.0025.

IRF contract months

Only the near three months of the March/June/September/December cycle are available. Last trading day is the last Thursday of the expiry month.

IRF contract size

₹2 lakh face value of the notional 7% G-Sec. Price is quoted as 100 minus yield, with tick size 0.0025, so value of one tick is ₹5.

Hedge ratio for IRF

Number of contracts = (portfolio value × portfolio duration) ÷ (contract value × CTD duration). Uses CTD duration, not the notional bond duration.

Novation

Process by which the clearing corporation becomes legal counterparty to both buyer and seller, replacing bilateral credit risk with clearing-house risk.

Initial margin

Collateral collected upfront by the clearing corporation to cover potential future losses. In IRFs it is set using SPAN-like portfolio risk margining.

Mark-to-market margin

Daily cash settlement of unrealised gains and losses on open positions, based on the day's settlement price. Prevents accumulation of counterparty exposure.

Settlement guarantee fund

Pool of contributions from members and the clearing corporation used to meet obligations if a member defaults. Protects the clearing system's integrity.

Final settlement price

Price at which expiring IRF contracts are cash-settled, based on the polled yield of the notional 10-year 7% G-Sec on the last trading day.

Interest rate swap

OTC contract exchanging fixed for floating interest payments on a notional. In India, OIS (overnight indexed swap) and MIFOR swaps are common.

Overnight indexed swap

Swap where one leg pays a compounded overnight rate (e.g., MIBOR/TREPS) against a fixed rate. Cleared through CCIL in India.

SEBI role in IRFs

SEBI regulates exchange-traded interest rate futures under its stock exchange and clearing corporation regulations, including product design and position limits.

RBI role in IRFs

RBI regulates the underlying G-Sec market, money market, and OTC interest rate swaps. It sets eligibility and limits for FPI participation.

Position limits

Maximum open interest a member or client may hold in IRF contracts, set by SEBI to control concentration and systemic risk.

Basis trade

Buying the CTD and selling futures (or vice versa) to capture convergence of basis to zero. Profit depends on carry versus implied repo.

Duration hedging

Matching the DV01 of a bond portfolio with the DV01 of futures contracts to immunise against small parallel yield shifts.

Trade repository reporting

OTC interest rate swaps must be reported to CCIL as trade repository under RBI directions, enabling regulators to monitor systemic exposure.