Chapter 8 Indian Secondary Market Structure and Regulation

Secondary Market and Stock Exchanges

The secondary market is where existing securities are resold and traded; it is commonly referred to as the stock market. In India, this market is composed of recognized stock exchanges that operate under rules, by‑laws and regulations duly approved by the government. These exchanges form an organized marketplace in which securities issued by the Central and State Governments, public bodies and joint‑stock companies are bought and sold, enabling liquidity for investors and continuous price discovery.

A stock exchange is legally defined in Section 2(3) of the Securities Contracts (Regulation) Act, 1956 as “any body of individuals whether incorporated or not, constituted for the purpose of assisting, regulating or controlling the business of buying, selling or dealing in securities.” In other words, a stock exchange is an institution—formal or informal in its legal form—specifically established to facilitate and oversee trading in securities.

Economic Roles of Secondary Markets

The secondary market performs several vital roles in a modern financial system. By enabling the buying and selling of existing equity and debt instruments, it provides liquidity and marketability to investors, allowing them to convert holdings into cash quickly and at transparent prices. This liquidity, in turn, makes primary market fundraising more attractive, since issuers know investors can readily trade their securities later.

Another key function is price discovery. Continuous trading incorporates company-specific and industry-wide information into market prices, producing near-instant valuations of securities. These market prices help businesses and analysts measure the cost of capital and assess rates of return at the micro level, guiding investment and financing decisions.

The secondary market also promotes efficient allocation of capital. Through the process of disinvestment—selling securities—and subsequent reinvestment elsewhere, funds flow toward firms and sectors judged most capable of productive use, supporting overall economic growth. Confidence in fair dealing and regulatory safeguards is essential to this process; by ensuring a degree of investor protection and market integrity, the secondary market encourages participation by a wider range of investors.

Finally, secondary markets impose market discipline on companies. Since share prices reflect performance and are publicly available, firms have a continuous incentive to improve governance and operational results to maintain or enhance their valuations, aligning corporate behavior with investor expectations.

Evolution of India's Stock Market

Development of the Stock Market in India

The roots of India’s stock market go back to the late eighteenth century when long‑term negotiable securities were first issued, but the real catalyst came in the mid‑nineteenth century. The enactment of the Companies Act, 1850, which introduced limited liability, made investment in corporate securities more attractive and helped generate sustained investor interest.

Organised trading began to take shape in the later nineteenth century. The Native Share and Stock Brokers’ Association, which evolved into the Bombay Stock Exchange (BSE), was established in Bombay in 1875. Other regional exchanges followed: Ahmedabad (1894), Calcutta (1908) and Madras (1937). To bring order to this growing activity, the central government enacted the Securities Contracts (Regulation) Act, 1956, a comprehensive statute designed to regulate stock exchanges and securities transactions.

Until the 1960s the Calcutta Stock Exchange (CSE) was the dominant market. In 1961 there were 1,203 companies listed across India’s exchanges, of which 576 were on the CSE and 297 on the BSE; by the late 1960s the BSE’s importance had risen substantially. Over the ensuing decades operations expanded dramatically. Table figures show that listed companies increased from about 1,125 in 1946 to 7,719 by 2015–16, while market capitalisation surged from roughly ₹971 crore in 1946 to over ₹94 lakh crore (₹94,75,328 crore) by 2015–16. The number of exchanges rose to more than twenty by the 1990s before consolidation reduced their number to a handful in later years.

Until the early 1990s India’s secondary market was largely regional, with the BSE at the forefront, but it suffered from several structural weaknesses. Execution prices and settlement periods were often uncertain, front running (trading ahead of a client on the basis of knowledge of their order) was practised, and transparency was limited. Transaction costs were high and formal risk‑management arrangements were largely absent, leaving the system vulnerable to scandals that could trigger market closures. A closed “club” mentality among brokers and kerb trading—private, off‑market deals—further undermined market integrity and efficiency.

Post-Reform Secondary Market Structure

After the 1991 economic reforms, India’s secondary market took on a four‑tier structure comprising regional stock exchanges, the national exchanges (notably the Bombay Stock Exchange and the National Stock Exchange), the Over the Counter Exchange of India (OTCEI) and the Inter‑Connected Stock Exchange (ISE). This arrangement reflected an effort to broaden access to capital while introducing modern trading platforms alongside traditional regional markets.

The National Stock Exchange (NSE), established in 1994, was the first truly modern Indian exchange: it introduced new technology, updated trading practices, and a range of institutions and products that reshaped market microstructure. The OTCEI, launched in 1992 to serve small and medium enterprises, drew on the NASDAQ model from the United States, adapted for Indian conditions, to provide a more accessible route to capital for smaller companies.

At that time there were twenty stock exchanges in India: fifteen regional exchanges, the BSE, the NSE, the OTCEI and the ISE. The ISE functioned as an exchange of exchanges, and the fifteen regional bourses—located at Ahmedabad, Bangalore, Bhubaneswar, Kolkata, Cochin, Coimbatore, Delhi, Guwahati, Indore, Jaipur, Kanpur, Ludhiana, Chennai, Pune and Vadodara—operated under rules, bylaws and regulations approved by the government and overseen by SEBI.

Subsequently the number of active exchanges declined. By the period under review, four exchanges remained functional, and the Bombay Stock Exchange (BSE), the National Stock Exchange (NSE) and the Metropolitan Stock Exchange of India (MSEI) had been granted permission to trade in four segments—equity, equity derivatives, currency derivatives and interest rate derivatives. Separately, SEBI accorded recognition to the India International Exchange (IFSC) Limited (India INX) for a one‑year period beginning 29 December 2016 and ending 28 December 2017. Table 8.2 shows the secondary market structure in India.

The regulation of Indian stock markets rests on two complementary statutes. The central government’s role is defined under the Securities Contracts (Regulation) Act, 1956, which governs the recognition and supervision of stock exchanges, the regulation of securities contracts, listing and transfer of securities, and related functions. In 1992 the Securities and Exchange Board of India Act established the Securities and Exchange Board of India (SEBI) with the statutory mandate to protect investors’ interests and to promote and regulate the securities market.

SEBI registers and supervises a wide range of market intermediaries whose numbers and composition have evolved over the last decade. Table 8.2 of SEBI’s Handbook of Statistics (2016) lists these intermediaries—stock exchanges, brokers, sub-brokers, custodians, depositories and depository participants, merchant bankers, mutual funds, rating agencies, portfolio managers, foreign investors, venture capital and alternative investment funds, among others—and shows marked structural change. For example, the number of recognized stock exchanges fell from 19 in 2010–11 to 5 by 2015–16. Registered cash-segment brokers declined from about 9,235 in 2010–11 to roughly 3,199 in 2015–16, and sub-brokers fell from about 84,000 to under 35,000 over the same period. At the same time, new categories such as Foreign Portfolio Investors and Alternative Investment Funds appear in later years of the series, reflecting both regulatory reclassification and the changing landscape of market intermediation.

These statistics illustrate consolidation and diversification within India’s securities ecosystem: fewer, larger trading venues and intermediaries coexist with the rise of newer institutional investors and fund structures. (Source: SEBI, Handbook of Statistics on the Indian Securities Market, 2016.)

Stock Exchange Governance and Broking

The recognized stock exchanges in India have historically operated under a variety of organizational forms. The exchanges in Bombay, Ahmedabad and Indore functioned as voluntary, non-profit associations of persons. Kolkata, Delhi, Bangalore, Cochin, Kanpur, Guwahati, Ludhiana and Chennai were organized as public limited companies, while Coimbatore and Pune operated as companies limited by guarantee. The Over the Counter Exchange of India (OTCEI) was established as a company under Section 25 of the Companies Act, 1956.

Regional stock exchanges were run by governing bodies composed of elected and nominated members. Trading members—the brokers who provide the essential broking services—owned, controlled and managed these exchanges. The governing body had broad powers: electing office-bearers, constituting committees, admitting and expelling members, managing property and finances, resolving disputes and handling the exchange’s daily affairs.

A structural change came with demutualization: OTCEI and the National Stock Exchange (NSE) separated ownership and management from trading rights. The NSE was notable as a tax-paying company incorporated under the Companies Act and promoted by leading banks and financial institutions, representing a different governance model from the traditional member-owned exchanges.

Brokers are members of stock exchanges and execute trades either for their own account or on behalf of clients. They must hold a certificate of registration from SEBI and adhere to prescribed codes of conduct. Over time many proprietary and partnership brokerages have reorganized as corporate entities. Exchanges such as the NSE and OTCEI set stringent entry standards—covering capital adequacy, track record, education and experience—to ensure quality of service.

Brokers play a pivotal role in bringing buyers and sellers together and in facilitating price discovery. They fall into three categories: proprietary, partnership and corporate. Older exchanges still have many proprietary brokers, whereas newer exchanges tend to have more corporate members. The broking industry has undergone significant structural change, marked by consolidation and restructuring; smaller firms have been squeezed as larger brokerages have captured greater market share. As of March 31, 2010, there were 9,772 brokers registered with SEBI, of whom 4,424 were registered in the cash segment. The Calcutta Stock Exchange had the largest number of brokers, followed by the NSE, OTCEI and the BSE.

Fee and tax structures affect broker economics. A stock broker pays an annual registration fee of Rs. 5,000 if annual turnover does not exceed Rs. 1 crore; if turnover exceeds that threshold, the fee is Rs. 5,000 plus 0.01% of the excess turnover. Every five years after initial registration, the broker pays Rs. 5,000 for the next block of five financial years. Exchanges also levy transaction charges. Brokerage rates vary by broker, but the maximum permissible brokerage is 2.5% of the contract price, exclusive of statutory levies such as the SEBI turnover fee, service tax and stamp duty. Exchanges charge transaction fees at 0.0035% (3.5 per lakh) of turnover. Securities transaction tax (STT) is levied on delivery-based equity trades at 0.125% (payable by both buyer and seller) and on non-delivery equity transactions at 0.025% (payable by the seller). Stamp duties are payable as per rates prescribed by the respective states.

Technological and market developments have changed how brokers serve clients. Direct Market Access (DMA) allows institutional clients to send orders directly into the exchange trading system through a broker’s infrastructure without manual intervention. DMA offers faster execution, fewer manual errors, greater transparency and liquidity, lower market impact for large orders, improved audit trails, and enhanced opportunities for hedging and arbitrage through decision-support tools and trading algorithms.

Overall, consolidation continues in the broking industry: smaller brokerages are exiting the market while larger entities expand their share of broking business, reshaping the competitive landscape.

Corporatization and Demutualization of Exchanges

Until the early 2000s most Indian stock exchanges—except the NSE and OTCEI—were owned and controlled by the brokers who traded on them. This broker-dominated structure concentrated ownership, management and trading rights in the same hands, creating clear conflicts of interest between brokers and the investing public. In recent years investigations uncovered instances of price rigging, repeated payment crises and misuse of office by exchange officials. To restore confidence and improve market integrity, regulators pushed two complementary reforms: rolling settlements and the demutualization of exchanges.

Demutualization converts a member‑owned or non‑profit exchange into a shareholder‑owned, for‑profit company. It separates ownership and management from the right to trade, allowing trading privileges to be distinct from shareholding. By becoming corporate entities, exchanges can pay taxes, raise capital for technology and expansion, pursue mergers and strategic alliances, and adopt formal corporate‑governance standards. Members benefit because their historical ownership interests become tradable shares and they may receive dividend income. Overall, demutualization reduces conflicts of interest, increases transparency and strengthens governance.

India’s experience varied. The NSE and OTCEI were established as demutualized exchanges from the start; some other exchanges that were demutualized were organized with a not‑for‑profit purpose. OTCEI, for example, was promoted by major financial institutions with an initial share capital of Rs. 710 crore. The NSE was set up as a demutualized, for‑profit company owned by financial institutions; other demutualized exchanges either adopted for‑profit models or retained not‑for‑profit charters depending on their founding objectives.

International models exhibit some differences from the NSE model. Globally, demutualized exchanges are generally organized as companies and many have listed their shares; most jurisdictions impose a ceiling on individual voting stakes (commonly around 5 percent) and require a clear segregation of ownership, trading rights and management. Boards in those markets are typically shareholder‑elected, with brokers occupying a minority. In the Indian (NSE) model the exchange is also a company, but many Indian exchanges were initially set up as institutions owned by financial entities that might have broking subsidiaries; the NSE itself is not publicly listed. Under the Indian governance model the board generally includes shareholder representatives, independent experts such as academics, chartered accountants and legal professionals, and specific nominees and public representatives approved by SEBI. Unlike mutual exchanges that enjoyed fiscal privileges, demutualized exchanges are taxed. In markets where exchanges converted from mutuals, assets were typically transferred to the new company and members received shares in lieu of prior ownership rights; for the NSE this step was not required because it was demutualized at inception. Some countries required enabling legislation to effect demutualization, while in others existing corporate and securities laws sufficed.

Reform in India followed the recommendations of the Kania Committee and SEBI’s uniform model of corporatization and demutualization approved in November 2002. The Committee recommended converting exchanges that operated as associations of persons into companies limited by shares and ensuring board representation for three key stakeholders—shareholders, brokers and the investing public. It also called for clear separation of trading rights from ownership: brokers would obtain trading rights after paying a fee set by the exchange, while ownership would rest with shareholders of the corporatized company. Exchanges were allowed to list their shares on other bourses.

Legal backing came with an ordinance amending the Securities Contracts (Regulation) Act on 12 October 2004, which made corporatization and the delinking of broker membership from ownership compulsory. The ordinance limited brokers’ representation on exchange governing boards to 25 percent and reduced their maximum shareholding from 100 percent to 49 percent. It also required that at least 51 percent of an exchange’s equity be held by the public—specifically, by investors who do not have trading rights—thereby ensuring that control lies with outside shareholders. The reforms permitted inter‑exchange trading among brokers, helping create market access that would benefit small‑ and mid‑cap companies.

Brokers argued that corporatization effectively transformed exchange assets into their property and sought a one‑time tax exemption; the budget for 2003–04 exempted exchanges from capital gains tax on corporatization, and the 2005–06 budget announced a one‑time exemption from stamp duty on asset transfers to speed the process.

By mid‑2007 the corporatization and demutualization program was largely complete: formerly mutual exchanges had become for‑profit companies limited by shares, with at least 51 percent of equity held by the public unconnected to trading rights. A broad set of investors—public sector banks, insurance companies, PSUs, development corporations, corporates and individuals—subscribed to exchange equity.

Recognizing the special nature of exchanges, SEBI prescribed norms on shareholding and governance for recognized exchanges that had approved corporatization schemes under Section 4B of the Act. Key provisions include a general ceiling on an individual shareholder’s stake (a single shareholder’s direct or indirect stake generally cannot exceed 5 percent of total equity), with the limit raised to 15 percent for six institutional categories: public financial institutions, stock exchanges, depositories, clearing corporations, banks and insurance companies. Shareholders who already held more than the permissible limit could not increase their stake further after implementation. Transfers of shares by holders with trading rights were subject to regulatory confirmation, and private placements were required to follow Companies Act rules. These safeguards were intended to prevent concentration of control, permit strategic and foreign investment, and encourage competition and global integration. The government allows up to 49 percent foreign investment in exchanges—26 percent by foreign direct investment and 23 percent by foreign institutional investors—and strategic partners such as SGX, Deutsche Börse, NYSE Group, Goldman Sachs and others have taken minority stakes in Indian exchanges to support their modernization and global competitiveness.

Ownership and Governance Framework for MIIs

A committee was set up to examine ownership and governance issues of Market Infrastructure Institutions (MIIs), and it has submitted its report. After considering the committee’s recommendations and related matters, the Board adopted a set of measures covering net worth and ownership norms, governance arrangements, compensation, profit deployment and listing eligibility.

On capital and ownership, the Board prescribed minimum net worth and transitional timelines. Stock exchanges must attain a minimum net worth of ₹100 crore, with existing exchanges given three years to comply. The minimum net worth for a Clearing Corporation (CC) has been set at ₹300 crore and for a Depository at ₹100 crore; existing CCs are similarly required to reach the prescribed level within three years of notification. Ownership rules aim to ensure diversified shareholding. No single investor may hold more than 5 per cent of a stock exchange’s equity, except that a stock exchange, depository, insurance company, bank or public financial institution may hold up to 15 per cent. At least 51 per cent of a stock exchange’s equity must be held by the public. For CCs, at least 51 per cent must be held by stock exchanges, and no stock exchange may hold more than 15 per cent in more than one CC. The same 5 per cent/15 per cent limits apply to non‑exchange shareholders to promote diversification. For depositories, sponsors must hold at least 51 per cent (the existing list of sponsors will continue); no other entity may hold more than 5 per cent, although a stock exchange may hold up to 24 per cent. These shareholding limits apply to all instruments that confer equity or future rights over equity, and no shareholder’s voting rights may exceed the prescribed holding limit at any time.

To prevent conflicts of interest between regulatory and commercial functions, the Board emphasised autonomy for regulatory departments within MIIs and introduced dual reporting lines. Heads of Member Regulation and Listing Regulation will report both to an independent committee of the exchange board and to the MD/CEO. Surveillance will likewise report to an independent board committee as well as to the MD/CEO. All such independent committees must have a majority of independent directors and be chaired by an independent director. SEBI will also set minimum listing standards to avoid a regulatory race to the bottom, and it envisages creating an independent self‑regulatory organisation (SRO) in the long term, including providing seed funding for it.

SEBI will form a Conflict Resolution Committee (CRC) with a majority of external and independent members to address conflicts of interest; exchanges may refer matters to the CRC or the CRC may act suo motu. The independent regulatory committees of exchanges are expected to have regular interaction with the CRC.

Recognising that clearing and settlement bear the central payment and delivery risk, the Board decided to separate risk management into an independent clearing entity. Clearing and settlement must be conducted through a recognised clearing corporation under SEBI regulations. SEBI will supervise CCs; each CC must constitute a risk committee composed of independent members that reports to the CC’s board and directly to SEBI on prescribed matters. SEBI will also set up an expert committee to examine the viability of a single clearing corporation or interoperability among CCs.

Board composition and appointments were tightened to reduce conflicts. Boards of stock exchanges and CCs shall not include representatives of trading or clearing members; however, an advisory committee of trading/clearing members may be constituted to provide expertise, and its recommendations must be tabled before the board. Public Interest Directors (PIDs) on a stock exchange’s board must not be fewer in number than shareholder directors; for a recognised clearing corporation, PIDs will constitute two‑thirds of the board. All board appointments for stock exchanges and CCs, and the appointment of the MD/CEO of a depository, will require SEBI approval.

Compensation policies for key management personnel are to follow sound practices advocated by international bodies such as the Financial Stability Board, with the aim of curbing incentives for excessive short‑term risk taking. A compensation committee, chaired by and composed predominantly of Public Interest Directors, will determine senior pay. Variable pay may not exceed one‑third of total compensation, and half of the variable component must be deferred for three years. ESOPs and other equity‑linked options will not form part of compensation for identified key management personnel. SEBI must approve the compensation policy, and any changes to remuneration terms will require SEBI approval; clawback arrangements may be included.

To strengthen risk resources, stock exchanges will be required to transfer 25 per cent of their profits to the Settlement Guarantee Fund of the CCs where their trades are settled. Depositories must transfer 25 per cent of profits to their Investor Protection Fund. Non‑core activities of MIIs must be conducted through separate legal entities, and any related‑party services provided by one MII to another must be offered on equal and fair terms.

On listing, stock exchanges may be permitted to list once appropriate mechanisms to manage conflicts of interest are in place, but an exchange may not list on itself. A recognised stock exchange will be eligible for listing only after three years of continuous trading prior to the listing application. Depositories may also be allowed to list, but clearing corporations will not be eligible for listing because of their central risk‑bearing role.

De-recognition and Exit Framework for Stock Exchanges

The Board framed a clear process for the de‑recognition and exit of stock exchanges that are non‑operational or have very low trading activity. An exchange that has no trading on its own platform or whose annual trading turnover is below ₹1,000 crore may apply for voluntary de‑recognition and exit. If an exchange eligible for voluntary exit fails to attain a turnover of ₹1,000 crore on a continuous basis, or does not apply for voluntary de‑recognition within two years of the date of notification, SEBI will initiate compulsory de‑recognition and exit proceedings.

To protect investors and preserve market access for companies, the Board decided that exclusively listed companies at an exiting exchange should be placed on a dissemination board—an arrangement similar to a bulletin board—so their securities remain available for trading information and transactions. Exiting exchanges are required to enter into an agreement with at least one nationwide exchange that operates a dissemination board to facilitate this transition.

The Board also set conditions governing the treatment of the assets of de‑recognized exchanges. Exit is permitted only after statutory dues to the Government and to SEBI are discharged, and subject to contribution of a prescribed percentage of the exchange’s assets towards investor protection and education, among other conditions aimed at safeguarding market participants.

Trading members of a de‑recognized exchange are not left stranded: they may continue to offer trading services through their existing subsidiary company, which will operate as a normal broking entity on exchanges that provide nationwide trading terminals.

By March 31, 2016, SEBI had granted exit to 17 regional stock exchanges. As part of the exit process, exclusively listed companies that did not secure listing on any other exchange were moved to dissemination boards maintained by nationwide exchanges. In 2015–16, shares of 372 such companies were made available on the dissemination board of NSE, and shares of 1,422 exclusively listed companies were made available on BSE’s dissemination board.

Listing Requirements and Compliance

Listing securities on a stock exchange makes them available for trading and subjects the company to ongoing disclosure and compliance obligations. A company may seek admission on more than one exchange; while earlier it was customary to list on the regional exchange nearest the registered office, that is no longer mandatory. Securities listed on one exchange may be traded on others, subject to exchange rules and approvals.

The formal process begins before the public issue: where securities are offered by a prospectus, the company must apply to the exchange in the prescribed form before the prospectus is issued; where securities are offered by an offer for sale, the application must precede that offer. The prospectus must name the exchanges on which listing is proposed, and the company must enter into a listing agreement with each exchange. Statutory backing for listing procedures appears in the Companies Act, 1956 and in the securities laws: in particular, Section 73 of the Companies Act, 1956 requires the company to submit letters of application to the exchanges before filing the prospectus, while listing of public companies and related requirements are governed by the provisions of the Securities Contract (Regulation) Act, 1956 and its Rules. The exchanges and SEBI issue detailed guidelines and circulars specifying the terms to be included in listing agreements and the standards companies must meet.

Exchanges require extensive documents to permit listing. These typically include the memorandum and articles of association (and a trust deed for debentures), the prospectus or statements in lieu thereof, offers for sale, advertising material used in the last five years, audited financial statements and balance sheets for the last five years (or for the period for which the company has prepared accounts), dividend and bonus history, copies of material agreements with promoters, underwriters and brokers, particulars of material contracts and collaborations, a brief corporate history explaining reorganizations or changes in capital, details of shares or debentures issued for consideration other than cash or on special terms, and particulars of commissions or special terms attached to any securities. Exchanges may also require independent due diligence reports in some cases.

If an exchange refuses admission, the company cannot proceed with allotment of those securities; it may, however, appeal to SEBI under the relevant provisions of the Securities Contract (Regulation) Act, 1956, and thereafter to the Securities Appellate Tribunal. A company that has been delisted and seeks relisting on the same exchange must, as a rule, make a fresh public offer and comply with the current listing guidelines.

Listing obligations aim to enhance market liquidity and protect investors. Compared with unlisted firms, listed companies bear higher compliance costs—legal formalities, frequent financial disclosures, printing and mailing annual reports, exchange listing fees and the administrative burden of reporting board decisions. For this reason many companies remain unlisted and operate under the less onerous provisions of the Companies Act.

Certain eligibility and minimum public holding requirements apply to public offers. For example, a company can seek listing only if at least 10 per cent of the securities, subject to a floor of 20 lakh securities, are offered to the public. Where the net offer to the public is below specified thresholds, alternative minimum public-holding percentages apply. For offers conducted through book-building, a minimum portion is typically reserved for qualified institutional buyers (QIBs). Exchanges also require companies to obtain in-principle approval from exchanges with nationwide trading terminals before issuing further shares; where a company is not listed on any such nationwide exchange, it must obtain this approval from each exchange where it is listed. Listing terms have been tightened to prohibit issuance of equity with superior voting or dividend rights vis-à-vis already listed equity.

Stock exchanges levy annual listing fees and monitor compliance with listing agreements. From August 1, 2006, BSE specified eligibility categories and criteria for IPOs and follow-on offers, distinguishing between large-cap and small-cap companies and prescribing minimum post-issue paid-up capital, issue size, market capitalization, income/turnover requirements and minimum numbers of public shareholders. Exchanges have also issued separate norms for companies already listed on other exchanges that seek listing on the BSE (for example, minimum paid-up capital, net worth, profit and dividend track records, market-cap thresholds and non-promoter shareholding requirements). Where required, exchanges may commission independent due diligence studies, the cost of which is borne by the company.

Once listed, a company must make continuous disclosures to the exchanges. These include quarterly financial results, material developments likely to affect the company’s performance, and half-yearly balance sheets (audited or unaudited). SEBI has mandated regular reporting to improve transparency and has allowed companies the option to submit accounts prepared under International Financial Reporting Standards (IFRS) where applicable, which generally increases the level of disclosure.

SEBI has also issued norms for small and medium enterprises (SMEs), creating dedicated platforms with tailored eligibility criteria and disclosure requirements. SME platforms typically relax some IPO eligibility norms while prescribing minimum application sizes and minimum trading lots to attract suitably informed investors. There are caps on the paid-up capital that can be listed on SME platforms; if a company’s paid-up capital exceeds that cap, it must migrate to the main platform. SME offers are generally required to be underwritten and the offer document filed with SEBI and the relevant exchange.

Exchanges have disciplinary powers, including suspension and delisting. Delisting removes a company’s securities from trading on an exchange and can occur voluntarily or compulsorily. Compulsory delisting may follow sustained non-compliance with the listing agreement, failure to meet minimum trading levels, insider trading or price manipulation, persistent inability to meet debt obligations, prolonged non-payment of interest on debentures, insolvency, or other circumstances that render the company defunct. In compulsory delisting scenarios, promoters may be required to compensate public shareholders by offering to buy their securities at fair value; trading may be allowed under a permitted category for a limited transitional period. Voluntary delisting from a non‑regional exchange requires prior approval by a special resolution of shareholders and an exit opportunity for public shareholders, usually provided by the promoters. Where substantial acquisition reduces public shareholding below prescribed thresholds, the acquirer may have the option to buy out remaining public shareholders, with the exit price determined through mechanisms such as reverse book-building; exceptions apply if securities remain listed on an exchange with nationwide trading terminals.

India does not permit dual listing of the same equity on foreign exchanges in the manner practised by some multinational companies. Dual listing raises complex legal, currency and corporate-governance issues that would necessitate amendments to foreign exchange and company law and broader convertibility of the rupee, among other changes.

To consolidate and simplify the regulatory framework, SEBI introduced the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015. These regulations bring together listing requirements for various classes of securities—equity and convertibles, SME listings, institutional trading platforms, non-convertible debt instruments, preference shares, Indian Depository Receipts and securitized debt—into a single, structured document. The regulations separate substantive obligations in the main body from procedural requirements set out in schedules, making the consolidated regime easier to reference and follow.

The Listing Regulations set out the framework for disclosure and governance by listed companies, anchored in internationally recognised principles. They adopt the broad standards of the IOSCO Objectives and Principles of Securities Regulation for periodic disclosures and reflect the G20/OECD Principles of Corporate Governance for governance norms. These overarching principles underpin the detailed obligations in each chapter of the Regulations and are intended to guide listed entities whenever a specific requirement is missing or unclear.

Alongside these guiding principles, the Regulations lay down obligations that apply to all listed entities: a general duty to comply with the rules, appointment of a common compliance officer, mandatory electronic filings and registration on SCORES. Requirements that apply only to particular types of securities are set out in separate chapters, so that obligations are tailored and organised by instrument. Stock exchanges are charged with monitoring compliance and ensuring the adequacy and accuracy of disclosures; they are also empowered to take enforcement action in case of default.

To aid practical use, related provisions have been consolidated for ease of reference. Material or price-sensitive disclosure obligations that were previously scattered across different agreements have been brought together as a schedule to the Regulations. All mandated website disclosures are listed in one place, and annual report disclosure requirements have been combined to avoid duplication and confusion. Pre‑listing obligations have been streamlined and segregated into the relevant issuance regulations (for example, the ICDR and ILDS regulations) to prevent overlap; these pre‑listing provisions cover matters such as allotment of securities, refunds and interest payments and the 1 per cent security deposit for public issues, while post‑listing obligations are contained in the Listing Regulations. Wherever necessary, the Rules have been aligned with the provisions of the Companies Act, 2013. A concise listing agreement of about two pages has been prescribed for companies seeking new listings, and existing listed companies were required to sign the new agreement within six months of the Regulations’ notification.

SEBI’s compliance architecture for listed entities operates on four levels. At the first level, internal monitoring is the responsibility of company secretaries and the board of directors: compliance reports on corporate governance and an independent company secretary’s report on compliance must be placed before the board, which is expected to review them and the remedial steps taken. The second level requires certification by an independent practising company secretary, as mandated by the Companies Act, 2013; this certification, together with any observations, is published in the company’s annual report and must be presented to the board along with corrective actions. At the third level, stock exchanges conduct their own surveillance and, depending on the severity of non‑compliance, can impose fines, levy penalties, freeze promoters’ holdings or suspend trading. Finally, SEBI exercises overall regulatory oversight, drawing on reports and inputs from the stock exchanges to monitor compliance standards across the corporate sector.

SEBI Risk Management Framework

The Securities and Exchange Board of India (SEBI) has established comprehensive risk-management policies aimed at reducing market, operational and systemic risks. Well-designed risk frameworks not only protect investors but also support deeper, more resilient capital markets by promoting orderly trading and timely settlement of transactions.

Following SEBI’s directives, stock exchanges have implemented a multi-layered risk-management architecture to ensure market safety and efficiency. Exchanges have framed trading rules for broker-members and put in place market surveillance systems to detect and curb excessive volatility. They have created trade and settlement guarantee funds to safeguard timely completion of transactions even if a member defaults, and have institutionalised a clearing corporation to underwrite financial settlement. The clearing corporation performs transaction matching, reconciles buy and sell positions, handles daily settlement, and acts as the central risk manager for its members by conducting inspections, collecting margins and capital, and monitoring members’ net-worth requirements. Crucially, it ensures that every contract is honoured—either by stepping in as the counterparty to trades or by guaranteeing their performance. This layered risk-management regime, largely absent before market reforms, stands among the most significant achievements of India’s financial-market modernization.

Margins, Limits and Market Integrity

To curb unfair trading practices and insider dealing, regulators have put in place a comprehensive set of trading rules that govern margins, intra-day limits and overall exposure. Stock exchanges require brokers to maintain several types of margins—daily margins, mark-to-market margins, ad hoc margins and volatility margins—so as to restrain excessive price swings and to ensure that participants cannot take positions beyond their financial capacity.

Margins are imposed on brokers for individual stocks according to the size and nature of their exposures, whether proprietary or on behalf of clients, relative to the market in those scrips. Many of these margins are collected up front and are intended to protect the exchange, the clearing corporation and other traders by providing a pool of funds that can be used to settle dues if a broker faces a shortfall. Because margin levels rise with exposure, brokers holding larger positions pay higher margins; exchanges may also levy special or ad hoc margins on scrips showing unusually high volumes to reduce default risk.

Exchanges monitor intra-day trading limits and gross exposure in real time and automatically deactivate trading terminals when limits are breached. Institutional clients’ margins are generally collected on a T+1 basis (the next trading day). To prevent circumvention of margin rules by routing trades through brokers who pay lower margins, the regulator—SEBI—has required that brokers and sub-brokers obtain prior permission before dealing with other brokers/sub-brokers of the same exchange, and has limited cross-exchange proprietary dealing to a single counterparty disclosed to the parent exchange.

During periods of higher volatility, exchanges apply more stringent requirements such as Value-at-Risk (VaR) margins to reduce counterparty default risk. The margining framework is designed so that greater exposures attract proportionately higher margins. In a structural change implemented in 2001, margining moved from a net basis to a gross basis (sale and purchase) with effect from 3 September 2001, and a 99 per cent VaR-based margin for all scrips in the compulsory rolling system was introduced from 2 July 2001. VaR estimates the potential worst expected loss from an adverse market movement under ordinary market conditions; margin levels are set to cover price movements for more than 99 per cent of the time, with three sigma (standard deviation) commonly used in the calculation.

Volume-based intra-day limits prevent any broker’s trading volume from exceeding specified thresholds; a broker who wishes to exceed these limits must deposit additional capital with the exchange. To contain systemic risk, the upper limit for a broker’s gross exposure is fixed at 20 times the broker’s capital. Complementary safeguards include capital adequacy norms for members, indemnity insurance and continuous online position monitoring by exchanges.

To promote fair dealing and market integrity, SEBI has enacted criminal prohibitions on insider trading under its Insider Trading Regulations, and has introduced separate regulations to improve transparency in acquisitions and takeovers and to protect the interests of minority shareholders.

Evolution of Circuit Breakers in India

Circuit breakers

To curb excessive price volatility, India’s market regulator introduced scrip-wise daily circuit breakers (price bands) in 1995. These mechanisms restrict trading activity when a stock’s price moves beyond a pre-set range: orders that would execute outside the permitted band are not permitted, effectively pausing trading in that scrip for the prescribed period without shutting down the entire exchange. The temporary pause gives market participants time to absorb information, prevents reflexive panic, and enables exchange clearinghouses to monitor member positions. At the same time, the prospect of an imminent halt can accelerate trading as participants rush to execute orders before a suspension takes effect, sometimes amplifying volatility in the short term.

Circuit breakers have an international precedent: they were introduced in the United States after the 1987 market crash to stem sharp sell-offs. In India the mechanism has been used to check both steep rises and steep declines. The framework has evolved over time. Price bands were originally fixed at 8 per cent; in January 2000, this was relaxed for a hundred scrips by allowing an additional 4 per cent movement beyond the initial 8 per cent after a 30-minute cooling-off period. In June 2000, the band for scrips under rolling settlement was revised from 4 per cent to 8 per cent. From July 2, 2001, price bands were removed for stocks traded in rolling mode, and from January 2, 2002, they were removed for the entire market. Subsequently, an index-based, market-wide circuit-breaker system was introduced, triggering halts in trading at three levels of index movement—10 per cent, 15 per cent and 20 per cent—applied to moves in either direction. In addition, individual scrip-wise price bands of 20 per cent either way were prescribed for all securities, with the exception of contracts already available in the derivatives segment and new listings.

The index-wide circuit filters have been activated on a few notable occasions. For the first time since their July 2001 introduction, the Sensex and Nifty triggered index-wide halts on May 17, 2004, when trading on BSE and NSE was stopped twice for a total of three hours. That day recorded the largest intra-day fall for the Sensex—842.37 points or 17.59 per cent—and its second-largest single-day fall—564.71 points or 11.14 per cent. The sharp decline followed statements by some leaders of the then newly formed Congress-led UPA government on policy matters such as disinvestment, liberalisation of FDI norms and the sale of non-performing assets, which unsettled investors. Markets again moved to lower circuits on November 26, 2008 amid the global financial crisis. Conversely, on May 18, 2009 markets hit two upper circuits—first at over 10 per cent and then at 20 per cent—after the election verdict delivered a clear mandate to the Congress-led UPA. Trading was halted within seconds of the opening as the 30-share Sensex surged 1,789.88 points (14.70 per cent) to 13,963.30, while the 50-stock S&P CNX Nifty rose 531.65 points (14.48 per cent) to 4,203.30.

Demat System and Depositories

To remove problems such as theft, forged transfers, settlement delays and the heavy paperwork that accompanied physical share certificates, the market moved to an electronic book‑entry system for holding and transferring securities. Investors may now hold securities either in physical form or in a dematerialized (demat) electronic form, which records ownership in electronic accounts rather than on paper certificates.

To accelerate this shift, SEBI has required compulsory settlement in demat form for selected scrips. Securities issued through an IPO must be settled only in dematerialized form, and accordingly all new public issues are now issued in demat form. The trading and settlement infrastructure is provided by two depositories — the National Securities Depository Limited (NSDL) and the Central Depository Service Limited (CDSL) — and dematerialization is essentially complete: more than 99 percent of turnover that is settled by delivery is now settled in demat form.

Trading Systems, Execution and Settlement

A few years ago India’s regional stock exchanges used the open outcry method; today virtually all trading has moved to a screen‑based electronic system. The NSE and OTCEI adopted this model from their inception, and as more exchanges went electronic the physical trading floor was replaced by broker terminals in offices. Together, India’s exchanges now operate around 8,000 trading terminals nationwide. In the screen‑based system a member enters the quantity and price at which they wish to transact, and the order is executed automatically when a matching counter‑order appears on the system.

Electronic trading offers several clear advantages over the old open‑outcry and jobber‑driven model. It provides real‑time transparency, allowing market participants to view the full market instantly and improving the speed with which price‑sensitive information is incorporated into quotes—thus aiding efficient price discovery. Operationally, screen trading reduces time, cost, errors and the risk of fraud by removing intermediate layers such as chains of brokers and jobbers, which helps lower transaction costs. By enabling many participants across the country to trade simultaneously and anonymously, electronic trading has deepened market liquidity and effectively integrated geographically dispersed trading centres into a single platform.

Regulatory changes have extended this reach further. SEBI permits the installation of trading terminals abroad and has authorised Internet trading, so investors worldwide can route orders to trade Indian securities over the web. Internet access is typically more cost‑effective than routing orders through traditional trading terminals.

Two principal trading architectures are in use. In an order‑driven system, orders from across the market are entered into an electronic order book and matched directly and continuously without the intervention of a market maker or jobber. In a quote‑driven system, designated market makers continuously post two‑way quotes—bid and offer—and stand ready to buy or sell at those prices. The BSE operates both models, while the NSE uses only an order‑driven system.

Orders themselves are commonly classified as either limit or market orders. A limit order is executed only at the price specified (or better) and is commonly used by retail investors and institutional funds to control execution price. A market order is executed immediately at the best available bid or offer shown on the screen. Finally, exchanges distinguish between passive and active orders for matching and fee purposes: passive orders are those already resting in the order book when a trade is matched, while active orders are incoming orders that take liquidity by matching against passive orders; exchanges typically charge different transaction fees for passive versus active trades.

Online trading follows a standard sequence designed to ensure proper identification, secure order execution, and timely settlement. The process begins with onboarding: an investor or trader must sign a member–client agreement when dealing directly with a broker, or a broker–sub‑broker–client tripartite agreement when transacting through a sub‑broker. The client must provide identity and KYC details—most importantly the Permanent Account Number (PAN), along with name, date of birth, photograph, address, education, occupation, residential status, bank and depository account details, and details of any other broker relationship. Brokers are required to use a unique client code linked to the client’s PAN; this code serves as the client’s exclusive identifier. The broker also opens a trading account in the investor’s name to record buy and sell transactions.

For holding and transferring securities, the investor must open a Demat (Beneficial Owner) Account with a depository participant and a bank account to settle funds. When the investor wishes to trade, they place a buy or sell order with their broker specifying the security and quantity. Orders are matched electronically on the exchange using price–time priority. Once an order is executed, the execution is communicated to the broker’s terminal and the investor receives a trade confirmation slip. The broker must issue a legally binding contract note to the client within 24 hours of execution; the contract note contains the Unique Order Code assigned by the exchange, the time the order was placed, the time of execution, and other trade details, and serves as the primary document for resolving any future disputes.

Settlement and payment follow the exchange’s rolling settlement cycle. Since April 1, 2003, most equity settlements operate on a T+2 basis: pay‑in of funds and securities must be completed before the T+2 pay‑in day, when the broker makes payment or delivers securities to the exchange. Pay‑out of funds and securities occurs on T+2, when the exchange delivers funds or securities to the broker; the broker, in turn, must make payment to the investor within 24 hours of pay‑out. Investors who prefer direct credit of securities into their Demat account must provide their DP‑ID and standing “Delivery‑In” instructions to the broker and their depository participant; the clearing corporation then sends pay‑out instructions so securities are credited directly to the investor’s beneficial owner account.

If there is a short or non‑delivery of funds or securities on the pay‑in day, the exchange organizes an auction to procure the required securities and deliver them to the buying trading member. The buying member ultimately receives the securities, while any price difference between the original contract note and the auction price is payable by the selling member and is recoverable from the client. If the shares cannot be bought in auction, the transaction is closed out in accordance with SEBI guidelines. The close‑out price is determined as the higher of: (a) the highest price recorded for that scrip on the exchange from the settlement in which the contract was entered up to the auction/close‑out date; or (b) 20% above the official closing price on the exchange on the day auction offers are called (if no official closing price exists for that day, the previous day’s closing price is used).

In April 2008 the market regulator SEBI permitted trading members (brokers) to offer Direct Market Access (DMA) to institutional clients such as foreign institutional investors, mutual funds and insurance companies. Under DMA these clients can route their buy and sell orders directly into the exchange’s trading system without manual intervention by their brokers, preserving the integrity and confidentiality of order flow.

A key advantage of DMA is that it curbs front‑running: brokers cannot trade ahead of a client on the basis of knowledge about large pending orders, because orders are routed electronically and remain secret until execution. Direct electronic routing also speeds execution and reduces the risk of errors associated with manual order entry, which is particularly important when timing and order accuracy affect execution quality.

DMA improves market transparency and reduces opportunities for manipulation because orders are visible to the market mechanism rather than being handled privately by individuals or small groups. For large institutional trades this typically lowers market impact costs: sizable orders can be split into smaller tranches to reduce the bid‑ask spread and to avoid moving prices sharply, and electronic routing often lowers brokerage expenses as well.

DMA also enables algorithmic or program trading, in which computers run mathematical algorithms to place orders automatically in real time. Such systems can detect arbitrage opportunities—for example between the cash and futures markets—and execute trades faster and more efficiently than human traders, reducing transaction costs and limiting information leakage. Several global brokerages, including Merrill Lynch, Goldman Sachs, JPMorgan, Citigroup and Credit Suisse, provide these services to institutional clients.

Despite these benefits, algorithmic trading and widespread DMA uptake have been constrained in India. Liquidity is concentrated in the top 15–20 actively traded scrips, and the trading systems of exchanges have historically been less able to handle very large bursts of automated orders during unusually active market conditions, limiting the scope for broad adoption.

Definition of Bulk Deals

A "bulk deal" refers to any transaction or set of transactions in a company's listed equity shares on a stock exchange where the total number of shares bought or sold during that trading day exceeds 0.5 per cent of the company's total listed equity. This 0.5 per cent threshold may be met by a single trade or by several trades executed in the normal market segment over the course of the day.

Mandatory Disclosure for Bulk Trades

Disclosures are required for any transaction in a scrip where the total quantity of shares bought or sold exceeds 0.5 per cent of the equity shares of the company listed on the stock exchange. This threshold triggers mandatory reporting to ensure market transparency for trades of material size in a listed security.

Brokers executing such transactions must report to the stock exchange the identity of the scrip, the client’s name, the quantity of shares bought or sold, and the traded price. This information must be furnished by the broker immediately upon execution of the trade.

The stock exchanges are then responsible for making this information available to the general public: the disclosed details must be disseminated on the same day, after market hours.

Block Deal Execution and Disclosure

A Block deal is the execution of a large trade through a single transaction, designed so that neither the buyer nor the seller is placed at a disadvantage. To facilitate such trades, stock exchanges provide a separate trading window for block deals.

This special trading window is kept open for a limited period of 35 minutes from the start of trading — that is, from 9:15 am to 9:50 am. Orders in this window can be placed only at a price that does not exceed ±1% of the applicable reference price; the reference is either the ruling market price or the previous day’s closing price, as appropriate. Each order must be for a minimum of 5,00,000 shares or for a minimum value of 85 crore. Every trade executed in this window must result in actual delivery of securities and cannot be squared off or reversed.

Stock exchanges are required to publish details of block deals to the general public on the same day after market hours. The disclosed information includes the name of the scrip, the client’s name, quantity bought or sold, traded price and similar particulars. Disclosure of trade details for bulk deals will continue to be made in the same manner. All standard trading and settlement procedures, together with surveillance and risk‑containment measures that apply to the normal trading segment, are also applicable to this special window.

Negotiated Trades: Prohibitions and Exceptions

Negotiated deals, including cross deals, are generally prohibited unless they are executed transparently on exchange trading screens through the exchange’s normal price-and-order matching mechanism, exactly like any other trade. An exception exists for Foreign Institutional Investors (FIIs): they may use exchange-approved “special bargains” in accordance with exchange bye-laws, or seek specific exemptions from the exchanges, to effect transfers between FIIs in cases where the permissible FII holding ceiling in a company (24% or 30%, as applicable) has already been reached.

The same prohibition applies to negotiated transactions in listed corporate debt securities: such trades must be routed through the stock exchanges’ price-and-order matching systems, in the same way equities are traded. Government securities and money-market instruments are excluded from this requirement because they fall under the Reserve Bank of India’s regulatory jurisdiction rather than SEBI’s; therefore the above restrictions do not apply to those instruments.

SEBI may, on a case-by-case basis, grant exemptions to facilitate the disinvestment of public sector enterprises. Finally, no exchange is permitted to offer ‘All or None’ or ‘Minimum Fill’ order facilities within its trading system.

Transition to Rolling Settlement

After the securities market reforms the trading-and-settlement cycle was shortened from 14 days to 7 days and later organised into a uniform weekly settlement. Under the earlier cyclical system trades accumulated until the end of a specified period and positions were then squared up through cash payment and delivery of securities. For a long time exchanges allowed a carry-forward facility, which boosted trading volume and liquidity but also encouraged speculation, raised price volatility and broker defaults, and thereby weakened the price-discovery process. To address these problems, the market moved in a phased manner to an alternative called the rolling settlement.

Under rolling settlement, trades are settled a fixed number of days after the trade date (commonly expressed as T+n, where T is the trade date). On a T+5 basis the trading cycle effectively became daily—transactions executed on a given day were settled five days later. The T+5 system was introduced initially in January 2000 for 10 scrips, extended to another 153 scrips in May 2000 and to 414 securities in July 2001, and soon thereafter covered the entire market. The settlement period was shortened further: from April 2002 markets moved to T+3 and, from April 2003, to the current T+2 schedule, meaning trades are settled two days after the trade date. Efficient implementation of rolling settlement depends on electronic funds-transfer systems and the dematerialisation of securities (conversion of paper certificates into electronic form).

T+2 Rolling Settlement Operations

In April 2002 the Indian capital market moved to a rolling settlement regime of T+3, which was further shortened to a T+2 rolling settlement with effect from 1 April 2003. The T+2 cycle established a tight timetable for confirmations, obligations, pay-ins and pay-outs to ensure that trades executed on the trade day (T) are settled within two business days.

On trade day (T) custodians must complete confirmation of trades to the clearing corporation/house (CC/CH) by 1:00 p.m. On T+1 the CC/CH completes processing and downloads obligation files to brokers and custodians by 2:30 p.m.; the schedule also provides for acceptance of pay‑in instructions from investors into pool accounts up to the stated cut-off time. By T+2 the final pay‑in files are to be submitted to the depository and the clearing bank (by the time specified in the schedule), and pay‑out of securities and funds is required to be completed by the prescribed pay‑out time.

To support settlement on a T+2 basis, stock exchanges are required to implement several operational measures. Custodians must have a facility for late confirmations, but the late confirmation window is constrained so as not to delay the final download of obligation files to brokers. Exchanges are to levy additional charges to discourage late confirmations and to put in place systems to manage shortages of funds and securities quickly, thereby protecting the pay‑out timetable. Exchanges must also amend their bye‑laws to require brokers to credit clients’ accounts within 24 hours of receiving pay‑out.

For securities that remain in physical form, exchanges are required to design an alternative clearing and settlement mechanism so that settlement timing aligns with the T+2 cycle for dematerialized stocks. Exchanges are further instructed to exercise strict control over client‑code changes: such changes should generally not be permitted, and repeated or suspect modifications may attract escalating monetary penalties and disciplinary action, while genuine errors may be rectified.

Operational efficiencies are to be encouraged. Exchanges should promote automatic downloading of pay‑in files by members and direct transfer of securities and funds to clients’ accounts on pay‑out. Additional desirable, though not mandatory, facilities include online trade confirmation by custodians; systems to capture client depository and bank account details; online transmission of client‑wise pay‑in obligations to depositories so that depositories can forward pay‑in instructions to their participants; and the ability for clearing banks to credit clients’ bank accounts online on pay‑out. Exchanges may also support front‑end broker software that maps client IDs to abbreviated keys to speed order entry while preserving unique client coding.

The schedule for auction sessions—used when a selling broker fails to deliver—was also adjusted for T+2. In a normal settlement, a short delivery is bought in an auction conducted on T+2 and the purchased securities are delivered to the buying broker on T+3. To shorten this interval, clearing corporations have the flexibility to schedule the auction settlement on or before T+3. Accordingly, the auction itself should be conducted by T+2, with pay‑in and pay‑out for the auction and any consequent close‑outs completed by T+3.

When bank holidays create multiple settlements falling on the same day, the auctions are sequenced to preserve the overall timetable. The auction for the first settlement is conducted on that same day and settled the next working day. The auction for the second settlement is conducted on the following working day together with that day’s shortages and is settled on the subsequent working day. These provisions ensure that even when calendar interruptions occur, auction and close‑out processes remain aligned with the T+2/T+3 settlement framework.

Internet Trading in India

Internet trading in India began in April 2000, allowing investors to buy and sell shares online through broker-provided platforms. To begin, an investor must register with a broker that offers online services and open both a bank account and a demat account linked to the broker. The broker is responsible for client risk management: orders are logged directly on trading platforms within limits assigned by the broker, and any order that exceeds those limits is rerouted to the broker’s server for authorization or rejection. Brokers can change parameters online, and their software typically provides real-time market feeds, client information, bank-account management and transaction histories.

The initial phase saw rapid adoption: around 79 members obtained permission for Internet trading, but activity contracted sharply after the Ketan Parekh episode, leaving barely ten members online. Market share consolidated around a few large players. ICICI Direct emerged as the market leader, in part because it could integrate trading, demat and banking accounts and leverage a wide offline distribution of financial services; it reported about 170,000 trading customers and an average of 1,600 trades a day, putting it on par with mid-tier global brokerages. Other names have survived or faded—IndiaBulls and a few others hold meaningful shares, while some early entrants have declined.

Usage and volumes grew substantially with market evolution and the move to rolling settlement. By March 31, 2008, about 44 lakh investors were registered to trade online. Online trading volumes on the National Stock Exchange rose from Rs 27,288 crore in 2000–01 to Rs 6,68,399 crore in 2007–08, and roughly 11.68 per cent of total trading volume was routed and executed through the internet in 2007–08. At a broader level, online trades account for a notable portion of activity on the NSE and BSE—estimates place this share in the high teens.

Internet trading has lowered transaction costs, widened liquidity and given retail investors access to a far greater range of information, enabling more calculated decision-making. Internationally, online brokerage is even more established: the United States has about 15 million online investors, with approximately 40 per cent of retail brokerage business conducted over the Internet; Charles Schwab, for example, manages millions of customer accounts and several hundred billion dollars in assets.

Despite the potential, growth in India has been constrained by several factors. Erratic bandwidth and unreliable connectivity, together with low personal-computer penetration, limit access. Security concerns and gaps in cyber law increase perceived risk. Banking automation is uneven—many banks, particularly in the public sector, do not support online fund transfers seamlessly. Internet brokerages face ongoing technology and brand-building costs and often lack sufficient funding. Regulatory requirements such as SEBI’s Know Your Customer (KYC) norms demand in-person verification, forcing many firms to maintain large offline networks. Operational frictions—such as a meaningful time lag of several minutes between order placement and execution during volatile markets—raise execution risk. Fee structures can be high, with online brokers charging up to 0.20–0.25% for non-delivery trades and 0.50–0.75% for delivery-based trades, while clients often pay higher margins and have capital tied up for longer. Many retail users do not receive true streaming market data; they access browser-based, request–reply interfaces rather than the live feeds available to brokers. Finally, the high costs of development, acquisition and servicing mean the annual cost to service one internet client can be substantial (around Rs 5,000–8,000).

There is nonetheless significant scope for expansion. Sustained growth will require stronger regulation and enforcement, higher bandwidth and more robust online infrastructure, better banking automation, and continued product and service innovation by brokers. Distinct marketing and customer-service strategies, coupled with improvements in technology and cyber-security, will be essential to keep investor interest in Internet trading alive.

Construction of Stock Market Indices

A stock market index is the principal barometer of market behaviour: by tracking a representative set of stocks it summarises overall market sentiment, indicates day-to-day price movements and often signals the direction of the wider economy. Because market prices embed expectations about future corporate earnings and economic performance, indices tend to lead economic cycles; buoyant markets generally reflect optimism about growth, while sustained weakness signals caution. For many investors and policymakers, movements in benchmark indices—such as the Sensex rising to psychologically significant levels—serve as shorthand for the state of financial and economic confidence.

The practical purpose of an index is to provide a concise measure of average share-price movement and the return that a typical market portfolio would obtain. A well-constructed index therefore captures the collective behaviour of its constituents and represents changes that matter to investors. At the basic level an index on any given day is calculated as the aggregate market value of its constituent stocks on that day relative to their aggregate market value in a chosen base period. In India, for example, the BSE Sensex is a weighted average of 30 selected stocks while the S&P CNX Nifty comprises 50 selected stocks.

Two concepts lie at the heart of most indices: market capitalization and liquidity. Market capitalization equals a company’s share price multiplied by the number of equity shares outstanding; an index that is market-cap weighted assigns larger weights to companies with higher market value. Liquidity refers to the ease with which a stock can be bought or sold close to its prevailing market price, reflected in a small bid–ask spread.

Several methodologies are used to translate these concepts into index weights. Under the full market-capitalization method, a company’s weight is simply its total market value, so the largest capitalised stocks exert the greatest influence; this approach underlies broad indices such as the S&P 500 and India’s S&P CNX Nifty. The free-float market-capitalization method modifies this by using only the proportion of shares that are freely available for public trading—excluding government holdings, strategic stakes, closely held shares, restricted allotments and locked-in employee shares. The free-float approach therefore measures the investible portion of market capitalisation and typically reduces the weight of closely held companies while rewarding firms with a larger public float.

The free-float methodology has several practical advantages. By reflecting only the shares actually available to investors it produces a more investible benchmark, reduces concentration risk from a few very large but closely held companies, and makes index replication and tracking easier for fund managers. It also prevents double counting arising from cross-holdings. For example, a company with a free-float of under 15 per cent will have a much smaller weight in a free-float weighted index than under full market-cap weighting.

Global adoption of free-float adjustment has been extensive. Since June 2001 all FTSE indices have been fully free-float adjusted; most S&P indices globally use free-float weighting; and all Dow Jones indices except the Dow Jones Industrial Average are free-float adjusted. In India the BSE led this change: it launched the country’s first free-float index, the BSE-TECK Index, on 11 July 2001 and converted the BSE Sensex to a free-float basis from 1 September 2003.

To operationalise free-float weighting, exchanges typically assign a free-float factor to each company. The BSE adopted a banding structure: a company’s actual free-float percentage is rounded up to the nearest band multiple and represented by a factor (for example, a 16 per cent free-float may be rounded to 20 per cent and assigned a factor of 0.2). The free-float factor is multiplied by full market capitalisation to produce free-float capitalisation, and each company’s weight in the index is its share of total free-float capitalisation. To limit frequent index churn, adjustments to a company’s band are made only when the free-float changes sufficiently (the BSE requires a movement beyond the band by a specified margin). To further smooth adjustments, the BSE moved from a 10-band to a 20-band system, so that, for instance, a company with 60.1 per cent free-float might receive a factor of 0.65 while one with 67 per cent would receive 0.70.

Other weighting schemes are also used. Modified capitalization weighting imposes caps on the weight of the largest stocks or groups of stocks to prevent dominance by a few names; the NASDAQ-100 uses a variant of this approach. Price-weighted indices sum the prices of constituent stocks and express changes relative to a base value; because weight depends on share price rather than market value, corporate actions such as stock splits directly alter weights (the Dow Jones Industrial Average and the Nikkei 225 are price-weighted). In equal-weighted indices every constituent carries the same percentage weight, so each stock has identical influence on index movements, as in the Value Line index.

Understanding these methodologies helps aspirants and practitioners interpret index behaviour, assess the quality of benchmarks used for performance measurement, and appreciate the practical constraints faced by fund managers seeking to track or replicate indices.

Major Global Equity Indices

Global stock market indices provide concise measures of market performance and investor sentiment across different countries, sectors and market structures. Each index uses its own selection and weighting rules, so understanding those rules is essential when using an index as a benchmark or as a basis for investment decisions.

The Dow Jones Industrial Average is one of the oldest and most widely quoted indices. It tracks 30 large U.S. blue‑chip companies and uses a price‑weighted methodology, which gives higher‑priced stocks greater influence on the index’s movement. Constituents change only occasionally; for example, three stocks were replaced in 1991, four in 1997 and four in 1999. The 1999 inclusion of Microsoft and Intel marked the first time companies principally listed on the Nasdaq were added to the Dow 30.

The Nasdaq Composite Index measures the combined performance of all stocks listed on the Nasdaq stock market. It is weighted by market capitalization and was introduced on February 8, 1971, with a base value of 100. Closely related, the Nasdaq‑100 comprises the largest Nasdaq companies—traditionally heavy in technology, software and telecommunications—selected by market capitalization. Eligibility for the Nasdaq‑100 typically requires a minimum average daily trading volume (about 100,000 shares) and a history of trading on a major exchange for at least one to two years.

The S&P 500 is a market‑capitalization‑based index of 500 of the largest publicly traded U.S. companies and is widely used by money managers as a proxy for the U.S. equity market. The S&P 500 aims to represent the major sectors of the U.S. economy; prospective constituents must meet standards for profitability, public float (generally at least 50 percent of stock should be publicly held) and trading liquidity (a substantial portion of shares must be actively traded).

The FTSE 100 lists the 100 largest companies by full market value on the London Stock Exchange and is a principal benchmark for UK and broader European market performance. The index is weighted by market capitalization but also takes into account free‑float adjustments, so only freely tradable shares are used to determine company weights.

MSCI maintains a family of indices that are widely used to measure international equity performance. Examples include MSCI EAFE (Europe, Australasia and Far East), MSCI Europe, MSCI World, MSCI Emerging Markets Free (EMF) and MSCI Pacific Basin indices. The MSCI World Index is a free‑float adjusted, market‑capitalization index designed to measure equity performance across developed markets; as of April 2002 it comprised 23 developed market country indices, including the United States, the United Kingdom, Japan and most major European markets. The MSCI EAFE Index is also a free‑float market‑capitalization index intended to represent developed market performance outside the U.S. and Canada; as of April 2002 it included 21 developed market country indices. The MSCI EMF (Emerging Markets Free) Index measures equity performance in emerging markets on a free‑float adjusted basis; as of April 2002 it covered 26 emerging market country indices, including Argentina, Brazil, China, India, Korea, Mexico, Russia, South Africa and Taiwan.

Indian Equity Benchmark Indices

India’s equity market is tracked primarily by two benchmark indices: the BSE Sensex and the S&P CNX Nifty. The BSE Sensex—short for the BSE Sensitive Index—was launched in 1986 with a base year of 1978–79 and is composed of 30 stocks. Selection is led by market capitalization, but other factors such as listing history, trading frequency, average daily traded value relative to outstanding shares, industry representation, leadership within the sector, dividend record and promoters’ track record are also considered. Since its inception the Sensex has been periodically reconstituted to reflect changing market structure: major overhauls took place on August 15, 1997, in October 1998, and again in March–April 2000, when several old‑economy names were replaced by new‑economy companies. As a result of these changes, only eight of the original 30 constituents remain. At the time reflected in this text, Tata Consultancy Services (TCS) carried the largest single weight (9.94%), followed by Reliance Industries (8.15%) and HDFC Bank (7.92%). The Sensex accounts for roughly 44% of BSE market capitalization, spans the country’s most important traded sectors, and its constituents typically account for more than half of daily trading volumes on the exchange.

The S&P CNX Nifty was introduced by the National Stock Exchange (NSE) on July 8, 1996. The NSE had begun equity trading in November 1994 and quickly gained market share. To provide a scientifically constructed benchmark, the NSE and CRISIL promoted India Index Services and Products in technical partnership with Standard & Poor’s. The Nifty was designed to reflect market movements more accurately, give fund managers a reliable performance yardstick, and serve as an underlying for index‑based derivatives. The index comprises 50 stocks chosen primarily for high liquidity, large market capitalization and low impact cost. Impact cost measures the percentage deviation from the mid‑market price ((bid + ask)/2) that a trade causes when executed; lower impact cost indicates higher liquidity. For example, if a stock trades at bid Rs 99 and ask Rs 101, the mid price is Rs 100. If a buy order executes at Rs 102, the market impact cost is 2%; if a larger order executes at Rs 104, the impact cost rises to 4%. To qualify for the Nifty, a stock must exhibit low impact cost at a standardized trade size on the large majority of trading days (a commonly applied threshold is an impact cost below 1.5% on about 85% of days). The Nifty represents about 44% of total market capitalization on the NSE and is widely used as the basis for index funds, futures and options.

Both the BSE and the NSE use a market‑capitalization weighted averaging method, meaning each stock’s influence on the index is proportional to its market cap. For example, in an index that contains two companies with market capitalizations of Rs 3,000 crore and Rs 1,000 crore respectively, the first stock would contribute 75% of the index’s movements and the second 25%.

Beyond the Sensex and the Nifty, several other indices track Indian equities. These include the Economic Times Ordinary Share Price Index, the Financial Express Ordinary Price Index and the RBI Index of Security Prices (comprising 72, 100 and 338 scrips respectively), as well as regional exchange indices (Kolkata, Chennai, Delhi, Ahmedabad), the OTCEI index, the CMIE index, a family of CRISIL CNX indices (mid‑cap 200, PSE, IT, MNC) and the Business Line All India Index. Together these benchmarks provide a range of perspectives for investors and policymakers on the breadth and depth of the Indian market.

Bombay Stock Exchange: History and Reforms

Trading in securities in India can be traced back to the late 18th century, when transactions in East India Company loan securities began around 1793. Speculation was common from those early days: a sharp rise in prices produced a share mania between 1861 and 1865 that collapsed when the American Civil War ended in 1865. That crash convinced many brokers that investor confidence required a regulated and self-disciplined market. Out of this need arose the Native Share and Stock Brokers’ Association, which in 1875 established a regular meeting place on what is now Dalal Street and later evolved into the Bombay Stock Exchange.

The Bombay Stock Exchange (BSE) began as a voluntary, non-profit association of broker members and gradually became the premier stock exchange in India after the 1960s. Industrial growth spurred by the two world wars, protective fiscal policies and a rise in new issues helped expand activity on the exchange, allowing the BSE to capture a dominant share of nationwide turnover through much of the 20th century.

For much of its history the BSE operated like a closed club of members. The 1992 securities scam and the consequent strengthening of market regulation under SEBI forced the exchange to modernize. Until March 1995 trading took place by open outcry, but competitive pressure from the newly formed National Stock Exchange (NSE) and the need for transparency prompted the BSE to move to electronic trading. On March 14, 1995 the exchange introduced the BSE On-Line Trading system (BOLT), an electronic, screen-based trading platform that initially covered 818 scrips and was expanded to all some 5,000 scrips by July 3, 1995. BOLT widened participation, reduced bid-ask spreads, improved odd-lot and fixed-income trading, and facilitated the handling of renunciation and rights issues.

Because BOLT was initially confined to Mumbai, the BSE lost business to the NSE, which operated nationally. After several rejections, SEBI permitted nationwide deployment of BOLT on October 29, 1996. The system has since been extended to hundreds of centres—today spanning over 330 cities with more than 15,000 trader workstations—and the exchange supported market modernization by promoting dematerialisation and by helping establish a central depository. Central Depository Services (CDSL), promoted by the BSE, began operations in 1999 to support demat trading.

The exchange’s institutional milestones chart a steady evolution. Small groups of brokers first met under a banyan tree near Horniman Circle in the 1840s and, amid the share mania of the 1860s, their numbers swelled. By July 9, 1875 the Native Share and Stock Brokers’ Association was formally constituted with a modest entrance fee and several thousand members. The BSE moved into what became known as the Stock Exchange Old Building in 1895 and expanded repeatedly through the early 20th century. A clearing house for settlements was set up in 1921, and K. P. Shroff, later a defining figure in the Indian market, became honorary president in 1923 and guided the exchange for decades. The government granted permanent recognition under the Securities Contracts (Regulation) Act in 1957, and a modern multi-storey office—named after Phiroze Jeejeebhoy—was begun in 1973.

Market benchmarks and new products followed as the BSE modernised. In 1986 the exchange launched its first 30-stock index with a base year of 1978–79. Despite suffering physical damage during the 1994 bomb blasts, the exchange continued operations. The mid–1990s saw important structural reforms—the modified carry-forward mechanism was introduced in 1995 and the exchange completed its transition to electronic, screen-based trading by the late 1990s. In June 2000 the BSE launched derivatives trading with index futures on the Sensex.

In the 21st century the BSE added several specialised platforms and products: the INDOnext SME market in 2005 to help small and medium enterprises access capital; currency and interest-rate derivatives and the Mutual Fund Service System in 2009; mobile and web-based trading, Systematic Investment Plan products and the S&P BSE Shariah index in 2010; the BSE Training Institute with an IGNOU-affiliated MBA program in 2011; and the S&P BSE Greenex and a dedicated SME platform in 2012. The exchange also formed strategic ties with global index providers and continued expanding its SME listings and other market infrastructure.

In recent years the BSE has marked institutional milestones as it broadened its reach and corporate structure: its SME platform crossed significant listing thresholds, it celebrated 140 years in 2015, and in early 2017 the India International Exchange (IFSC) Ltd.—India’s first international exchange—was inaugurated. Around the same time the BSE itself became a publicly listed stock exchange, a further sign of its transformation from a small brokers’ association into a modern, publicly accountable market institution.

Across its long history the BSE has adapted repeatedly to technological change, regulatory reform and competitive pressures. From informal gatherings under a tree to a nationwide electronic trading network and market infrastructure provider, the exchange has remained central to the development of India’s capital markets.

Carry forward, popularly known as badla, was a distinctive feature of the Bombay Stock Exchange that allowed market participants to defer the settlement of a trade from one settlement cycle to the next. In essence, badla permitted postponement of delivery or payment for purchased securities: a buyer could delay payment while a seller could postpone delivery, with the position carried forward into the subsequent settlement period.

This mechanism performed several functions simultaneously. By enabling deferment, it injected liquidity and depth into the market and became a means of share financing and lending: shares had to be sourced to carry forward a short position, while finance was provided to sustain a long position. Because external funds were often used to finance carried-forward long positions, badla linked the money market with the stock market. The facility also moderated extreme price movements by allowing short selling in rising markets and staged buying in falling markets, thereby serving as a practical tool for hedging against anticipated price changes.

Badla was the carry‑forward mechanism used on the Bombay Stock Exchange for a designated set of shares known as the forward group, which allowed trading without immediate physical delivery. The carry‑forward or badla session was held weekly, typically on Saturdays. A contract for current settlement under this system could be completed in three ways: by making delivery against a sale and receiving delivery against a purchase with payment settled at the contract price; by squaring off, where an opposite transaction offset the existing position and only the price difference was settled; or by carrying the contract forward to the next settlement period. Carrying forward meant postponing delivery or payment: the position was rolled over at the making‑up price (the closing quotation on the last trading day), and the difference between the original contract rate and the making‑up price was settled.

Four parties participated in a badla transaction: the long buyer (who held a buy position but could not take delivery), the short seller (who sold without holding the shares), a financier, and a stock lender. When delivery sales exceeded delivery purchases, financiers called vyaj badlawala stepped in to take delivery in the current settlement and deliver in the next, thereby carrying the transaction forward. Their compensation was the difference between the current settlement price and the next settlement sale price, effectively an interest charge called seedha badla; such transactions were also called vyaj or mandi badla. Conversely, when delivery purchases exceeded delivery sales, financiers known as teji badlawala supplied delivery in the current settlement and took the stock back in the next settlement at lower prices; their profit—the difference earned from selling now and buying later—was called backwardation or ulta badla, and the transaction was known as mal badla or teji badla.

Badla charges were market‑determined and varied across scrips and settlement periods, historically ranging roughly from 15% to 36% per annum. To curb potential distortions, SEBI prohibited charging badla on carry‑forward sales (short positions) when net carry‑forward buy positions exceeded short positions. Market conditions influenced carry‑forward rates: an overbought market (net long) raised demand for funds and pushed carry‑forward rates up, whereas an oversold market (net short) increased demand for securities and rewarded stock lenders.

Official badla transactions were hedged, with stock exchanges guaranteeing settlements and conducting auctions in case of default. Those protections did not extend to unofficial or parallel badla markets, which existed notably in Kolkata and Mumbai; Kolkata’s unofficial market reportedly accounted for about 90% of badla business and suffered a payment crisis in 2001. Overall, the badla or carry‑forward facility was extremely popular and at one time accounted for nearly 90% of trading on the exchanges.

The badla system acted as a powerful lubricant for trading at the Bombay Stock Exchange by allowing brokers to carry forward positions and employ leverage. Because financiers lending under badla earned relatively high returns, they supplied larger sums of money, which amplified market liquidity and supported speculative activity. Together with an expanding network, bull-market conditions and growing retail participation, badla helped trading turnover rise sharply—from about Rs. 500 crore in 1991–92 to roughly Rs. 9,000 crore by 2000.

Despite these advantages, the 135‑year‑old badla mechanism also attracted criticism for encouraging excessive speculation and creating systemic risk. Unregulated and opaque in many respects, badla made it easier to manipulate prices and corner liquid stocks; brokers could evade margin requirements and distort badla rates. Concerned by these risks, the Securities and Exchange Board of India (SEBI) banned badla in 1993. The ban, however, produced a steep drop in activity in affected scrips, and on the recommendation of the G. S. Patel Committee trading under a modified carry‑forward arrangement was reintroduced on the BSE in January 1996. In March 1997 SEBI set up the J. R. Varma Committee to review the revised system; the committee’s proposals led to a formal Modified Carry Forward System (MCFS), which SEBI accepted.

The MCFS itself was superseded on 27 January 2001 by a new carry‑forward mechanism known as the Borrowing and Lending of Securities Scheme (BLESS), modelled closely on the National Stock Exchange’s Automatic Lending and Borrowing Mechanism (ALBM). The key difference between ALBM/BLESS and the old badla was the treatment of financed securities: under ALBM/BLESS a borrower could withdraw the securities after paying a modest margin—typically 15–20 percent—whereas under badla securities remained deposited with the clearing house and could not be withdrawn. The withdrawal feature under ALBM/BLESS enabled brokers to create much larger exposures, reportedly seven to eight times the capital committed in these deferral products.

The sequence of reforms was abruptly halted in the wake of the Ketan Parekh episode and a contemporaneous payment crisis at the Kolkata Stock Exchange. In March 2001 SEBI moved to remove the threat to market integrity and, from July 2001, completely banned badla and all similar deferral products, including ALBM and BLESS. The impact was immediate: average daily turnover on the BSE fell from about Rs. 5,220 crore in May 2001 to roughly Rs. 2,700 crore in July 2001, a decline exceeding 70 percent in two months. The carry‑forward era ended and markets moved toward the now‑standard practice of rolling settlement.

Before the resumption of badla (the carry‑forward or roll‑over mechanism) in 1996, the Bombay Stock Exchange classified securities into just two categories: a specified group of shares in which carry‑forward deals were permitted, and a cash group in which they were not. After badla was reintroduced, the exchange found that the carry‑forward facility was not being used across all 94 scrips in the specified group; consequently, that group was pared down to 32 scrips on 3 April 1996.

Soon afterwards, the BSE reorganised the existing A and B group shares into three distinct categories. The A Group comprises blue‑chip companies—scrips with large turnover, high floating stock and substantial market capitalisation. Carry‑forward deals and weekly settlement were allowed in this group; at present it contains 150 scrips. The B1 Group was intended for good‑quality companies with equity above Rs. 3 crore, higher growth potential and frequent trading; no carry‑forward facility applied to these scrips. The B2 Group originally consisted of scrips similar in quality to B1 but subjected to fortnightly settlement; these typically had lower trading volumes and equity below Rs. 3 crore, and many were placed under surveillance for suspected price manipulation.

In September 1996 the BSE standardised settlement by introducing weekly settlement for all scrips, which removed the operational distinction between B1 and B2. Later, on 1 April 2008, B1 and B2 were formally merged into a single B Group. Effectively, all companies not classified in groups A, S or Z are now included in B.

A separate Z Group was created in 1999 to house companies that repeatedly failed to meet the exchange’s rules and stipulations. Often described as “buyer beware,” this group—numbering roughly 300 scrips—includes firms that failed to disclose quarterly results, address investor grievances, arrange for dematerialisation of shares or pay listing fees. Z‑category stocks trade on a trade‑to‑trade basis and always result in deliveries; intra‑day squaring‑up is not permitted. The exchange reviews Z‑group companies periodically and will move a company back to its original group if it satisfies the requirements.

In addition to these equity classifications, the BSE introduced dedicated groups for other market segments. On 9 September 1996 it launched an F group for the debt‑market segment and a G group for government securities. The BSE INDONext market was created as a separate trading segment on the BOLT system on 7 January 2005 and designated as the S group. Scrips shifted from the regular segment to the T group are settled on a trade‑to‑trade basis with gross obligations for the day—no netting is permitted and each trade is settled separately. As a surveillance measure, scrips in the BSE‑INDONext S segment that are settled trade‑to‑trade may be transferred to the TS group.

As a point of reference, 5,834 companies were listed on the BSE as of 31 March 2017.

The Bombay Stock Exchange’s first benchmark, the BSE Sensitive Index (Sensex), was launched in 1986 with 1978–79 as its base year and a composition of 30 scrips. Over the following decade and a half the exchange expanded its index suite: the broader 100‑scrip BSE National (BSE‑100) appeared in 1989; in 1993–94 BSE introduced the BSE 200 and a dollar‑denominated counterpart, the Dollex (with 1989–90 as base year) — the Dollex family now includes Dollex 30, 100 and 200. From August 1999 the exchange began publishing sectoral indices (IT, Capital Goods, FMCG, Health Care and Consumer Durables), and in 2001 it added the BSE‑PSU Index, Dollex‑30 and the BSE‑Tech Index. While most indices use free‑float market capitalisation for construction, the BSE‑PSU index is an exception. Subsequently seven more sectoral indices — auto, bank, metal, oil & gas, power, realty and tech — were introduced, and BSE developed other major series such as Smallcap, Midcap, BSE‑100, BSE‑500 and the BSE IPO index. From June 2017, Differential Voting Rights (DVRs) became eligible for inclusion provided the company’s ordinary share class is already in the index, the DVRs outstanding exceed 10% of ordinary shares outstanding, and the DVRs meet all other eligibility criteria; eligible DVRs are aggregated with the ordinary shares for index construction.

The Sensex’s history has been punctuated by several powerful rallies and sharp corrections. The first major bull phase came around 1991–92 as India’s 1991 economic reforms, led by then Finance Minister Dr. Manmohan Singh, transformed investor sentiment: the index rose from about 1,018 in January 1991 to roughly 4,467 by April 1992. That period also saw the extraordinary speculative surge associated with the Harshad Mehta episode, when the Sensex recorded one of its fastest short‑term gains. The early 2000s brought another decisive upturn. A sustained rally in 2003 culminated in a rapid rise of over 2,000 points by October of that year, and the market posted its largest post‑reform annual gain in 2003–04, with broad‑based participation and renewed foreign institutional interest.

A strong advance between late 2004 and March 2005 took the Sensex to a then‑record high of 6,915 on 8 March 2005. This upswing was underpinned by healthy macro fundamentals, stronger corporate earnings, an acceleration in industrial activity, moderation in inflation, easing crude prices, a pick‑up in bank credit and policy measures that encouraged foreign investment in sectors such as telecom and construction. The index breached 8,000 in September 2005 and crossed 10,000 for the first time in February 2006; it touched 12,000 in April 2006 and briefly rose further in May before a sharp correction wiped out about 30% of value by mid‑June 2006. Markets recovered later that year, and strong growth, favourable corporate results, a relatively stable currency and robust foreign inflows propelled the Sensex to new highs through October 2006. In 2006 the Sensex joined the group of major global indices that had crossed the 10,000 mark, and India became notable among emerging economies for the rapid expansion of its listed market capitalisation relative to GDP.

The Sensex continued its ascent into the next decade, reaching an all‑time high of 21,206.77 on 10 January 2008 before global shocks reversed the trend. After the turbulence of 2008, improvements in global financial conditions helped markets recover through 2009–11, and the Sensex later crossed the 32,000 level in September 2017, reflecting the long‑term expansion of Indian equity markets.

When the National Stock Exchange (NSE) was established in 1994, India’s oldest bourse, the Bombay Stock Exchange (BSE), appeared vulnerable to being eclipsed by the newer, technology-driven entrant. Contrary to those expectations, the BSE rapidly modernized its operations and adopted new technologies, forcing healthy competition that has helped mature the Indian capital market.

That renewal, however, has been uneven. A series of scandals involving certain brokers and elected members dented the BSE’s reputation and eroded confidence among both retail and institutional investors. In response to governance concerns, the exchange completed demutualization and corporatization in May 2007. Strategic partnerships followed: the Singapore Exchange (SGX) and the Deutsche Borse (DB) each acquired a 5 per cent stake, representing a combined investment of 7,380 crore at 75,200 per share.

Operationally, the BSE still faces challenges. Its presence outside Mumbai has not grown substantially, and persistent liquidity constraints mean it needs to attract more active participants such as market makers. Both the BSE and NSE introduced derivatives trading in 2000, but the NSE has so far dominated that segment. In response, the BSE reformulated and implemented strategic initiatives to recover market share; gradually, it has begun regaining ground, increasing its presence in the cash market and making notable inroads into derivatives trading.

Overall, the BSE’s evolution reflects a continuing process of reform and adaptation: while past governance lapses damaged trust, modernization, strategic alliances and renewed competitive efforts have enabled the exchange to regain momentum in India’s financial landscape.

National Stock Exchange: Evolution, Infrastructure and Innovation

The National Stock Exchange (NSE) was incorporated in November 1992 as part of a wider set of market reforms in the 1990s that sought to modernise India’s securities markets and introduce global best practices. Its stated objectives were to create a nationwide, electronic trading facility for equities, debt and hybrid instruments; to ensure equal access for investors across the country through a robust communications network; to provide a fair, efficient and transparent market through an automated trading system; to shorten settlement cycles and move to book‑entry settlement; and to align Indian securities markets with international standards.

The idea of a nationwide, technologically linked exchange was first proposed by the Pherwani Committee, which envisaged multiple trading floors connected by an automated network. The NSE implemented this vision, but instead of becoming a common platform for regional exchanges it developed into a direct competitor of the Bombay Stock Exchange (BSE), raising questions about the survival of smaller regional exchanges.

Unlike traditional Indian stock exchanges, the NSE was set up as a tax‑paying company under the Companies Act, 1956, and was promoted by leading financial institutions and banks. Its ownership and management are separated from trading rights, and the exchange has emphasised professional standards for market intermediaries, including capital adequacy, corporate governance, track record and qualifications. Membership is available on an ongoing basis to applicants who meet eligibility criteria; members may exit and obtain refunds of deposits once liabilities are met.

From a technological standpoint the NSE broke new ground in India. It was the first exchange in the country to introduce fully automated, screen‑based trading and was among the first in the world to operate such a system over satellite links. Members connect to the exchange’s central computer from their offices through VSATs (very small aperture terminals) and, where authorised, extend connectivity to clients through computer‑to‑computer links (CTCL). The exchange installed over 2,648 VSATs across more than 201 cities. Its automated trading system, known as NEAT, eliminated the need for physical trading floors and supported screen‑based handling of primary issues and online IPO book‑building through the NEAT IPO bidding system. In May 2008 the NSE launched a web‑based trading front end, NOW (NEAT on Web), which allowed members to connect over the Internet and reduced access costs and turnaround time.

The NSE provides a broad trading platform across multiple segments and product classes. It operates the Wholesale Debt Market (WDM), Capital Market (CM), Futures & Options (F&O) and Currency Derivatives (CD) segments, offering equities, warrants, ETFs and mutual funds; a wide range of debt instruments including corporate debt, government securities, T‑bills, commercial paper and certificates of deposit; index and stock futures and options; and currency futures. More than 1,800 companies are listed on the exchange, with over 95 per cent of them actively traded.

To strengthen market infrastructure, the NSE established several key institutions. In 1995 it set up the clearing corporation, NSCCL, to provide settlement guarantees, and in 1996 it co‑promoted the National Securities Depository Limited (NSDL) to foster dematerialisation of securities. In May 1998 it promoted India Index Services & Products Limited (IISL), a joint venture with CRISIL, to develop and maintain equity indices; IISL now manages a large family of benchmark, sectoral and customised indices. The exchange has also nurtured in‑house and affiliated IT and information services—NSE IT Ltd (incorporated in 1999), NSE Infotech Services Ltd, and DotEx International Ltd—to manage technology, data products and secure trading gateways.

Beyond cash markets, the NSE has extended its reach into commodities and power. It participated in setting up NCDEX and promoted National Commodity Clearing Limited (NCCL) in 2006 to clear commodity contracts across a wide range of products. In 2008 it promoted a national electricity exchange, Power Exchange India Ltd (PXIL), providing an electronic platform for electricity trading.

The NSE has been a rapid innovator in product design and market services: it introduced index futures and options, stock futures and options, ETFs (including India’s first gold ETF), currency derivatives on a stock‑exchange platform, long‑dated options, mini contracts such as Mini Nifty, the India VIX volatility index, direct market access (DMA), FIX connectivity, co‑location services, mobile trading and a mutual fund services system. It has signed cross‑border memoranda of understanding with exchanges such as the Singapore Exchange and, later, the London Stock Exchange Group to cooperate on market‑linked products and services. Today the NSE ranks among the top exchanges globally—third by number of equity shares traded in India and within the world’s leading derivatives exchanges.

Key milestones trace the NSE’s rapid evolution: incorporation in November 1992 and recognition as a stock exchange in April 1993; commencement of the WDM in June 1994 and equity trading in November 1994 (surpassing BSE volumes within a year); establishment of NSCCL in 1995 and launch of the S&P CNX Nifty in 1996; setting up of NSDL and the start of trading in dematerialised securities in 1996; creation of IISL in 1998 and the website launch the same year; internet trading from 2000 and the start of derivatives trading in 2000–2001; ETFs in 2002; successive product innovations through the 2000s including Gold BeES, index family expansions, the Mini Nifty and long‑term options; the NOW web platform and securities lending & borrowing scheme in 2008; introduction of currency derivatives in 2008 and interest rate futures in 2009; the EMERGE SME platform and financial‑inclusion initiatives in 2012; the New Debt Segment (NDS) in 2013; and ongoing enhancements to mutual fund and debt trading platforms, as well as initiatives to support sovereign gold bonds, electronic book‑building for private placements and international index linkages up to 2016.

Through technology, product innovation and the creation of clearing and depository infrastructure, the NSE has played a central role in modernising India’s capital markets and expanding access for investors across the country.

The National Stock Exchange is managed by full-time professionals rather than by trading members to minimise conflicts of interest and ensure independent oversight. Eligibility rules require that applicants demonstrate basic academic and market competence: if the applicant is an individual, that person must be a graduate with at least two years’ experience in the securities market, must not be debarred by the Securities and Exchange Board of India (SEBI), and must not be engaged in fund‑based activities. Where the applicant is a partnership firm or a corporate entity, at least two partners or at least two directors respectively must meet these same conditions.

Trading members may be admitted to specific combinations of market segments. A member can be authorised for the Wholesale Debt Market (WDM) alone; for the Capital Market (CM) together with the Futures & Options (F&O) segment; for CM together with WDM; or for all three segments simultaneously.

The NSE Fifty was renamed the S&P CNX Nifty on July 28, 1998. With a base date of November 3, 1995, the index tracks 50 highly liquid securities and is computed using a float‑adjusted, market‑capitalization weighted methodology. Because it captures a large share of activity on the exchange, the S&P CNX Nifty is widely used as a barometer of market sentiment and as a benchmark for fund portfolios, index funds and index‑based derivatives. At end‑March 2008 it accounted for 58.64% of the total market capitalization of the capital market segment of the NSE and 51.39% of the traded value on the exchange.

The CNX Nifty Junior, introduced in January 1997 with a base date of November 3, 1996, is a mid‑cap index designed to represent growth companies. Constituents typically include stocks with an impact cost below 2.5% on at least 85% of trading days. As of end‑March 2008 the Junior index made up 9.60% of the market capitalization of the NSE’s capital market segment.

To provide a dollar‑denominated view of Indian equity returns, the S&P CNX Defty was launched on November 26, 1997. This index expresses the performance of the S&P CNX Nifty in US dollar terms, making it a useful performance indicator for foreign institutional investors and offshore funds and an effective hedging tool for Indian equity exposure.

Beyond these, the NSE offers several other popular indices, including mid‑cap series such as Nifty Midcap 50 and CNX Midcap 50, and a range of sectoral indices covering IT, banking, FMCG, public sector enterprises, multinationals, services, energy, pharma, infrastructure, PSU banks, realty, petrochemicals and others. On January 29, 2008 the exchange also launched India’s first index measuring environmental, social and corporate governance (ESG) practices, designed to assess companies on quantitative ESG factors.

All these indices are maintained, monitored and updated by India Index Services and Products Limited (IISL), a joint venture between the NSE and CRISIL. IISL is the country’s specialist stock‑index provider and introduced India’s first infotech sector index in September 1998.

The National Securities Clearing Corporation Limited (NSCCL) was established by the NSE in April 1995 as a wholly owned subsidiary to manage clearing and settlement at the exchange; it began operations in April 1996. NSCCL centralised the post‑trade process by operating a well‑defined settlement cycle: it aggregates trades over the trading period, nets positions to determine each member’s obligations, and ensures the movement of funds and securities to meet those liabilities. Its principal functions are clearing and settlement of trades and robust risk management, providing market participants with greater certainty and speed in completing transactions.

From the outset NSCCL’s objectives were to build and sustain confidence in securities clearing and settlement, promote short and consistent settlement cycles, provide a counterparty settlement guarantee, and operate a tight risk containment system. To underpin that guarantee, NSCCL assumes the counterparty risk of each member and guarantees settlement even if a party defaults on delivery of securities or payment of cash. To finance this protection it created a settlement guarantee fund (SGF) in June 1996 with an initial corpus of Rs 300 crore; by the end of March 2006 the fund had grown to Rs 22,700 crore. Members contribute to this fund, which cushions residual risk and is used to ensure successful completion of settlement. A separate SGF is maintained for the futures and options segment.

Four types of entities work closely with NSCCL in the clearing and settlement process: custodians (also referred to as custodian/clearing members), clearing banks, depositories, and professional clearing members (PCMs). Custodians are clearing members without trading rights; they settle trades assigned to them by trading members. NSCCL notifies custodians of trade details on the trade day and, when a custodian confirms it will settle a trade, the obligation is formally assigned to that custodian. At present NSCCL has empanelled nineteen custodians.

Clearing banks form the operational link between clearing members and NSCCL. Every clearing member must open a dedicated clearing account with one of the designated clearing banks. Clearing banks enter into agreements with NSCCL and the clearing members and also open the required clearing accounts with depositories. In association with NSCCL, clearing banks may provide working‑capital funding to members; a clearing member approaches its bank for funding, which the bank provides in consultation with NSCCL.

Depositories hold securities in dematerialised form in investors’ beneficiary accounts and enable electronic transfer of securities. Each clearing member must maintain a clearing pool account with the depository; the depositories electronically transfer securities between custodians’ or clearing members’ accounts and NSCCL’s accounts as directed. PCMs are a special class of members who have clearing rights but no trading rights and perform functions similar to custodians, clearing and settling trades on behalf of their clients, whether individuals or institutions.

The actual movement of funds and securities occurs on prescribed pay‑in and pay‑out days through coordinated electronic instructions. Clearing members bring securities into designated depository accounts—in NSDL this is the clearing member pool account, and in CDSL the designated settlement accounts—and place funds in designated accounts with clearing banks. On pay‑in day NSCCL sends electronic instructions that cause clearing banks to debit members’ accounts and credit the clearing corporation’s account; this is the pay‑in of funds and securities. After adjusting for any shortages, NSCCL instructs depositories and clearing banks to credit the clearing members’ accounts and debit the clearing corporation’s account. Once these pay‑out instructions are executed, the settlement cycle is complete.

The NSCCL applies strict margin requirements as a core part of its risk-control framework. To determine margins, securities are first classified into three groups. Group I and Group II comprise those scrips that have traded on at least 80 percent of trading days during the preceding 18 months. Among these, scrips with a mean impact cost of less than or equal to 1 percent are placed in Group I; those with impact cost greater than 1 percent are placed in Group II. All remaining stocks are assigned to Group III. Impact cost is recalculated on the 15th of each month on a rolling basis using order-book snapshots from the previous six months, with the calculation performed for an order size of ₹1 lakh; any reclassification becomes effective on the 1st of the following month.

Daily margin consists of two components: mark-to-market (MTM) margin and a value-at-risk (VaR) based margin. The VaR margin applies to all securities in rolling settlement. For Group I securities, scrip-level daily volatility is estimated using an exponentially weighted moving average and the VaR is set by applying a multiplier to that volatility. For Group II securities, the VaR margin is the higher of the scrip-specific VaR (which uses a larger multiplier than Group I) or three times the index VaR; this result is further scaled up by the square root of three. For Group III securities, the VaR margin is set equal to five times the index VaR and similarly scaled up by the square root of three. The index VaR itself is taken as the higher of the daily VaR based on the S&P CNX Nifty or the BSE Sensex, and it is subject to a minimum floor of 5 percent. In addition, an extra VaR margin of 6 percent is applied as specified by SEBI. The NSCCL also reserves the right to impose security-specific margins as needed.

The MTM margin is computed from the notional loss that would arise if a member’s cumulative net outstanding position across all securities were closed out at the official closing prices announced by the NSE at the end of the day. Each transaction in a scrip is marked to that closing price; if a scrip has not traded that day, the latest available closing price is used. Where a member’s net outstanding position in a security is zero, the difference between buy and sell values is treated as the notional loss for MTM purposes. MTM profits and losses across different securities within the same settlement are set off at the client level to arrive at the net MTM loss for that settlement.

To streamline settlement pay-outs, the NSCCL provides for direct credit to clients’ accounts at both depositories (NSDL and CDSL). Based on member instructions, NSCCL sends pay-out directions to the depositories so that clients receive funds directly on pay-out day. For government securities, NSCCL offers Constituent Subsidiary General Ledger (CSGL) facilities. The SGL facility, provided by the RBI to large banks and financial institutions, holds government securities in electronic book-entry form; these holdings can be settled via a delivery-versus-payment (DVP) mechanism that synchronises the transfer of funds and securities.

The Mutual Fund Service System (MFSS) is an NSCCL facility for trading dematerialised units of open-ended mutual fund schemes. MFSS aims to be a one-stop platform for buying and selling units of schemes managed by different fund houses, leveraging the exchange’s network across some 400 towns and cities to collect orders electronically; the Clearing Corporation acts as the central clearing and settlement agency. Transactions executed under MFSS are not covered by the settlement guarantee.

The NSCCL was authorised to run a stock lending and borrowing scheme from July 1998 and launched the Automated Lending and Borrowing Mechanism (ALBM) on 10 February 1999. ALBM enabled market-driven lending and borrowing of securities and funds to meet immediate settlement obligations at reasonable cost and with low risk; it was introduced as an alternative to the BSE’s badla system. Initially, ALBM was restricted to securities in the S&P CNX Nifty and the CNX Nifty Junior Index, and trades in the ALBM segment were guaranteed by the NSE’s settlement fund. SEBI subsequently banned ALBM and other deferral products from July 2001.

The capital market segment of the National Stock Exchange (NSE) — covering equity trading — began operations on 3 November 1994. The Exchange adopted an order-driven trading system instead of the traditional quote-driven model; by matching buy and sell orders directly this approach reduced jobbing (bid–ask) spreads and helped lower transaction costs for investors.

By 31 March 2013 there were 1,666 companies listed on the NSE, and on average about 85% of their stocks traded every day. The exchange accounted for roughly 90% of all-India market capitalisation, reflecting its dominant role in the country’s secondary market.

Trading volumes rose sharply from 1994–95 through 2000–01, driven in large part by the NSE’s nationwide reach and superior technology, which allowed investors in remote areas to trade securely. Liquidity was not confined to large-cap stocks but extended to many mid- and small-cap issues as well. Volumes dipped in 2001–02 but recovered in the first quarter of 2002–03, supported by strong buying interest in mid-cap technology stocks, renewed demand for public sector undertaking (PSU) scrips amid an accelerated disinvestment programme, and improved sentiment for banking stocks following better performance and relaxed foreign direct investment limits. Market capitalisation generally trended upward, except in 2000–01 when a fall in IT stock prices caused a setback.

The market reached new highs in 2007: the S&P CNX Nifty peaked at 4,362.95 on 4 June, and the market capitalisation of listed scrips hit a record Rs 39,78,381 crore on 29 June 2007. The secondary market was particularly buoyant in 2005–06 and 2006–07, supported by corporate earnings growth, a relaxation in fringe benefit tax (FBT) rules that aligned the treatment of open-ended and close-ended equity-oriented schemes for dividend distribution tax, stronger macroeconomic fundamentals, higher foreign institutional investor (FII) limits in the debt market, and a favourable global environment. The Nifty fell to 3,021 in 2008–09 amid the global financial crisis but recovered to 5,249 in 2009–10 and 5,834 in 2010–11. With continued macroeconomic improvement, the index rose to the 10,000 level in September 2017.

Overall, the NSE’s technological infrastructure and pan‑India connectivity were central to expanding liquidity, broadening participation, and transforming India’s secondary equity market.

Conclusion

The National Stock Exchange (NSE) marked its 23rd year of operations on 30 June 2017, having fundamentally reshaped India’s securities market through sustained technological innovation. From accelerating dematerialization and introducing robust risk-management systems to pioneering derivatives trading, the exchange transformed market infrastructure and participant experience. Its electronic network now reaches across 364 cities via roughly 3,900 VSAT terminals, underscoring the depth of its market connectivity.

Today the NSE is recognised as a technology-driven exchange that has positioned itself as “the exchange with a difference.” To retain its leadership, it continually adapts trading systems and practices to meet evolving user needs, investing in upgrades and innovations that expand access and efficiency. These efforts are reflected in its market share: about 84 per cent of cash-segment turnover and some 74 per cent of derivatives trading by volume take place on the NSE.

The exchange’s impact has been acknowledged internationally. It received the inaugural Wharton–Infosys Business Transformation Award in the “organization-wide transformation” category for Europe and the Asia–Pacific region, and in 2005 it ranked third globally by number of transactions. More recently, the NSE was named Stock Exchange of the Year at the Asian Banker Achievement Awards 2015, validating its role in modernising India’s capital markets.

Regional Stock Exchanges: Decline and Reforms

One striking feature of India’s capital market has been the once-large network of regional stock exchanges (RSEs) — at one time as many as 19, the largest number in the world. Regional exchanges also existed in other markets, but most eventually merged or closed as national exchanges and electronic trading developed. For example, more than 20 local exchanges in the United Kingdom federated from the mid-1960s and unified into a single national exchange by 1973. In Australia the six capital‑city exchanges formed the Australia Associated Stock Exchanges and later became subsidiaries of the national Australian Stock Exchange in 1987. Italy consolidated trading in 1991 by shifting listings from local exchanges to a national computerized, order‑driven platform; today trading there is entirely screen‑based and location‑independent.

In India, RSEs originally reflected the country’s geographic spread and earlier telecommunications constraints. They offered local investors access to large brokers based in Mumbai and provided a direct link between regional companies and their local investor base. Reputed local firms could list on these exchanges, which in turn promoted trading in local scrips. That environment encouraged issuers to seek listings on multiple exchanges to broaden investor reach, and exchanges competed aggressively for listings. Because listing fees were a major revenue source, some exchanges diluted listing standards to attract issuers, while issuers faced the burden of complying with multiple listing rules and costs.

The 1990s brought structural change. New institutions such as the Over the Counter Exchange of India, the National Stock Exchange (NSE), and the Inter‑Connected Stock Exchange of India were created and permitted nationwide trading, and existing exchanges were allowed to operate across the country. As online, screen‑based trading spread, investors in remote locations could trade directly on the NSE or the Bombay Stock Exchange (BSE), reducing the need to use local exchanges. Many RSE members turned to speculative activities rather than expanding outreach to new investors or efficiently serving local companies. Turnovers on RSEs fell sharply; numerous regional exchanges became members of the BSE or the NSE and operated as stockbrokers rather than independent trading venues. Large companies increasingly delisted from all but the BSE and NSE, depriving RSEs of their main income stream. Although exchanges earned interest and rent income from custodial deposits, most still reported losses.

The decline is evident in the numbers. By 2001–02 the NSE accounted for roughly 80% of market turnover and the BSE about 16%, leaving only about 4% for all regional exchanges combined. RSEs’ share continued to erode — reported at around 1.1% in 2003–04, falling to 0.19% in 2005–06 and to 0.01% in 2008–09. Several exchanges registered negligible or no trading; for example, daily turnover at the Delhi Stock Exchange had dropped to ₹7,100 crore in 2002, and exchanges in Guwahati, Cochin, Jaipur, Bhubaneswar, Mangalore, Madhya Pradesh and others saw virtually no activity. Some exchanges were not granted recognition by the regulator (for instance, the Mangalore Stock Exchange in 2004–05), while others such as Magadh, Hyderabad and Saurashtra‑Kutch were formally derecognized by the regulator. After derecognition an entity may continue as a corporate body, but it may not use the words “stock exchange” or any variation in its name or the name of a subsidiary.

By 2008–09, 13 of the 15 regional exchanges had almost no transactions. In response to declining volumes, several RSEs set up subsidiaries that obtained access to national exchanges at concessional rates; some of these subsidiaries became profitable by offering trading services, acting as depository participants and distributing mutual funds. Nonetheless, the practical need for independent regional exchanges diminished as the NSE and BSE provided nationwide, screen‑based trading. Many RSEs lacked the financial resources to upgrade IT infrastructure — a basic requirement to remain competitive — and continued declines in turnover made their long‑term viability doubtful.

Regulatory and policy responses sought to revive or repurpose regional exchanges. The Securities and Exchange Board of India (SEBI) permitted outside investors to take stakes in exchanges, allowing a single entity up to 15% ownership and permitting foreign direct and portfolio investment up to 49% of an exchange’s equity. Despite these changes, most RSEs were unable to resume meaningful operations. Over time the number of recognized exchanges shrank: at one point seven exchanges remained, with the BSE, NSE, Calcutta Stock Exchange and Ahmedabad Stock Exchange holding permanent recognition and the Metropolitan Stock Exchange of India Ltd. granted a renewal; Magadh and the Delhi Stock Exchange were derecognized and in the process of exit. Following SEBI’s 2012 exit policy, 17 exchanges exited the business — 12 between 2012–13 and 2014–15 and five more in 2015–16 — and the Calcutta and Ahmedabad exchanges, though previously permanently recognized, also exited in 2017. Effectively, there are no functioning regional stock exchanges in India today.

To foster alternate trading venues for smaller firms, SEBI in November 2008 laid down a framework to promote dedicated platforms or exchanges for the small and medium enterprises (SME) sector. Under the framework, a new dedicated exchange or an SME platform of an existing exchange must obtain recognition under the Securities Contracts (Regulation) Act, 1956 (SCRA) and meet specified eligibility, operational and investor‑protection standards. Key requirements include incorporation as a corporatized entity from inception with subsequent demutualization and compliance with public shareholding rules within a defined period; a prescribed minimum balance‑sheet net worth; nation‑wide trading terminals and an online screen‑based trading system with business continuity and disaster recovery arrangements; real‑time online surveillance of positions, prices and volumes to guard against manipulation; adequate arbitration and grievance‑redressal mechanisms covering all four regions of the country; inspection capacity; and risk‑management and surveillance systems equivalent to those used in the cash market. Trading members of the SME platform must register with the exchange and SEBI, and the exchange must disseminate trade and quote information in real time to at least two information vendors accessible to investors nationally. These eligibility conditions also apply, where relevant, to existing exchanges wishing to set up SME platforms.

On trading, clearing and settlement, the SME platform rules specify a minimum trading lot of ₹1 lakh. The market may be order‑driven or quote‑driven, and settlement may operate on rolling, trade‑for‑trade or call‑auction bases; clearing may be performed by an appropriate clearing corporation or clearing house.

Recognizing the developmental role of SME platforms, SEBI allowed certain relaxations for issuers listing on them. Companies listed on an SME exchange may send shareholders a statement containing salient features of prescribed documents instead of a full annual report; they may submit periodical financial results on a half‑yearly basis rather than quarterly; and they may make financial results available on their websites instead of publishing them in print.

The history of regional exchanges in India illustrates a transition driven by technology, consolidation and regulatory reform: once essential for regional capital formation, RSEs lost relevance as national, screen‑based markets emerged. The SME platform initiative represents an effort to create focused, well‑regulated venues that can serve smaller enterprises within the modern, electronic market structure.

Secondary Market Liquidity Reforms

To deepen liquidity in the secondary market, the Securities and Exchange Board of India (SEBI) introduced a package of reforms aimed at increasing participation, reducing settlement risk, and improving price discovery. One of the earliest and most significant steps was opening the equity market to foreign institutional investors (FIIs), which brought fresh capital and greater global participation. At the same time, structural and operational changes — including the introduction of a depository system, a stock‑lending mechanism, share buy‑backs, formal market‑making arrangements, margin trading facilities, and the shift to rolling settlement — were put in place to make trading more efficient, reliable and continuous.

Each of these measures addressed a different friction in the market: dematerialisation and depositories reduced paperwork and settlement risk; stock‑lending and borrowing enabled smoother settlement and short positions; buy‑backs provided alternative exit and price‑support mechanisms; market makers improved depth and narrowed bid‑ask spreads; margin trading allowed investors to leverage positions under regulated terms; and rolling settlement sped up finality and limited counterparty exposure. A brief profile of each of these measures follows.

FIIs: Regulation and Market Impact

A defining feature of India’s capital markets in the 1990s was the entry and growing activity of foreign institutional investors (FIIs). Although foreign investors had earlier accessed Indian securities indirectly—mainly through instruments such as global depository receipts (GDRs), foreign currency convertible bonds (FCCBs), and foreign currency bonds issued by Indian firms—FIIs were formally permitted to participate directly in the Indian capital market in September 1992.

The legal and operational framework for these investors was clarified by the SEBI (Foreign Institutional Investors) Regulations, 1995, which defined an FII as an institution established or incorporated outside India that seeks to invest in Indian securities. Under the government’s Portfolio Investment Scheme (PIS), such investors became eligible to buy equity shares and convertible debentures of Indian companies, bringing a new channel for foreign portfolio flows into the domestic market.

FIIs first entered the market with a modest investment of Rs 20.6 crore in January 1993 and grew steadily thereafter, becoming notably active from August 1993. A diverse range of FIIs—including foreign mutual funds, pension funds and country funds—have since operated in the Indian capital market, influencing liquidity, pricing and market integration with global capital.

Foreign institutional investors (FIIs) access Indian equity markets by three routes: direct registration with the market regulator, investment through sub-accounts, and via offshore derivative instruments called participatory notes.

In the direct route a foreign entity applies to SEBI for registration as an FII and, once registered, can invest directly in Indian securities. Sub-accounts are a common alternative: a sub-account is a person or entity resident outside India on whose behalf an FII proposes to invest and who is registered under SEBI’s FII regulations. The names of sub-accounts must be disclosed to SEBI by the sponsoring FII, and FIIs are required to keep their own funds clearly separate from those of their sub-accounts. A wide range of entities — foreign institutions, funds or portfolios, broad-based funds, proprietary funds, foreign corporates and individuals — may be registered as sub-accounts. The government has also permitted large listed foreign companies (assets of at least $2 billion with a proven profit track record) and foreign individuals with a minimum net worth of $50 million to register as sub-accounts and trade in Indian stocks.

SEBI has simplified the approval process for sub-accounts, and many FIIs establish sub-accounts in Mauritius because of administrative convenience and tax considerations. While sub-accounts involve some administrative cost, they are generally less expensive than acquiring participatory notes. India’s double taxation avoidance agreement (DTAA) with Mauritius has made that jurisdiction a popular platform for channeling investment into India; as a result, a large proportion of FIIs are registered there and often report income as capital gains. To improve transparency, SEBI requires FIIs and their sub-account applicants to submit joint undertakings: among other things, these undertakings confirm that the sub-account is not an NRI or an Overseas Corporate Body (OCB) and that the applicant’s income comes from known, legitimate sources. As of 18 September 2008, 1,506 FIIs and 4,576 sub-accounts were registered with SEBI.

Participatory notes (P-notes) are offshore derivative instruments issued by SEBI-registered FIIs to foreign investors and derive their value from underlying Indian securities such as equities or equity-linked instruments. They are typically issued by affiliates of India-based brokerage houses, and major issuers have included Morgan Stanley, Credit Lyonnais, Citigroup and Goldman Sachs. Because investors taking exposure through P-notes are not themselves registered with SEBI, the ultimate investor identity and source of funds can remain opaque — a regulatory concern that has prompted SEBI to tighten rules. Since February 2004, P-notes backed by Indian securities may be issued only to regulated entities, and any subsequent transfers are allowed only to other regulated entities that satisfy know-your-client (KYC) requirements. FIIs must fully disclose details of offshore derivative instruments and are required to report the issuance, renewal, cancellation and redemption of such instruments.

Foreign institutional investors (FIIs) have been a central force in reshaping the Indian stock market. Their arrival accelerated the adoption of screen-based trading and a depository system, and created demand for professional equity research that was largely absent a decade earlier. By bringing large, mobile capital into equity markets, FIIs helped ease pressures on the rupee arising from the balance of payments and lowered the cost of capital for Indian companies. Their preferences also promoted better corporate governance practices, a change that has benefited domestic shareholders as well.

As trendsetters, FIIs were often the first to spot sectors with high growth potential—technology stocks being a prominent example—and their early buying frequently led other investor classes to follow. Because FIIs tend to concentrate trades in roughly the top 200 companies out of some 6,000 listed on the BSE, trading activity and liquidity became focused in a relatively small set of liquid scrips. This concentration left the remainder of listed stocks markedly less liquid and made stock indices heavily dependent on FII flows.

The active participation of FIIs also altered market structure and intermediary behaviour. Increased foreign interest prompted many brokerage firms to corporatize, which improved transparency and helped reduce brokerage charges—changes that widened and deepened the bourses. FIIs’ distaste for the old badla (carry‑forward) system led to the introduction of rolling settlement; shorter settlement cycles particularly suited FIIs by allowing quicker exits and lowering settlement risk.

With their substantial resources and global mobility, FIIs have largely supplanted traditional domestic market movers. State-owned institutions and mutual funds, including erstwhile counterweights like UTI, now have limited ability to counteract large FII-driven moves during market stress. Large FII inflows can also generate strong bull runs that encourage retail participation: the 2003 rally, to which FIIs made a decisive contribution, was instrumental in enabling the government’s disinvestment programme.

Regulation of Foreign Portfolio Investors

On 7 January 2014, SEBI notified the SEBI (Foreign Portfolio Investors) Regulations, 2014, and the new framework came into force on 1 June 2014. This regime replaced the earlier structure for Foreign Institutional Investors (FIIs) and their sub-accounts, consolidating all existing FIIs, sub-accounts and Qualified Foreign Investors (QFIs) into a single category called Foreign Portfolio Investors (FPIs).

Under the Regulations, an FPI is any person who meets the eligibility requirements set out in Regulation 4 and is duly registered under Chapter II of the 2014 rules. As a transitional measure, any FII, sub-account or QFI holding a valid certificate of registration under the earlier SEBI (Foreign Institutional Investors) Regulations, 1995 is treated as an FPI until the end of the three‑year block for which fees were paid under the old Regulations.

Chapter II — Registration of Foreign Portfolio Investors

No person may buy, sell or otherwise deal in securities as a foreign portfolio investor unless they have obtained a certificate issued by the designated depository participant on behalf of the Board. Existing foreign institutional investors (FIIs) or their sub‑accounts may, however, continue to operate under their FII registration until that registration expires or until they obtain a certificate as a foreign portfolio investor, whichever occurs first; this continuation is subject to payment of the conversion fees specified in Part A of the Second Schedule and to the other provisions of these regulations. Likewise, a qualified foreign investor may continue to deal in securities under these regulations for a period of one year from the commencement of these regulations, or until it obtains a certificate of registration as a foreign portfolio investor, whichever is earlier.

Applications for a certificate as a foreign portfolio investor must be submitted to the designated depository participant using Form A of the First Schedule and must be accompanied by the fee specified in Part A of the Second Schedule.

To obtain a certificate of registration as a Foreign Portfolio Investor (FPI), an applicant must satisfy a set of eligibility conditions before the designated depository participant will entertain the application.

First, the applicant must be a person not resident in India. The applicant’s home jurisdiction must have a securities market regulator that is either a signatory to the International Organization of Securities Commissions’ Multilateral Memorandum of Understanding (MMoU) or has entered into a bilateral Memorandum of Understanding with the Board (Securities and Exchange Board of India — SEBI) that provides for information sharing. Where the applicant is a bank, it must be resident in a country whose central bank is a member of the Bank for International Settlements (BIS).

Applicants must not be resident in any jurisdiction publicly identified by the Financial Action Task Force (FATF) as having strategic Anti‑Money Laundering/Combating the Financing of Terrorism (AML/CFT) deficiencies to which countermeasures apply, nor in jurisdictions that have failed to make sufficient progress in addressing such deficiencies or have not committed to an FATF action plan. Individuals who are Non‑Resident Indians (NRIs) are explicitly excluded from eligibility.

The applicant must be legally permitted to invest in securities outside its country of incorporation, establishment, or place of business, and its constitutional documents (such as Memorandum and Articles of Association or equivalent agreements) must authorize it to invest either on its own behalf or on behalf of clients. In addition, the applicant should have adequate professional experience, a good track record, financial soundness, and a reputation for fairness and integrity.

SEBI must also be satisfied that granting registration would serve the development of the securities market, and that the applicant is a “fit and proper” person as assessed against the criteria in Schedule II of the Securities and Exchange Board of India (Intermediaries) Regulations, 2008. The Board may also specify any other criteria from time to time.

For interpretation, terms used in these eligibility conditions follow the Income‑tax Act, 1961 where relevant: “person,” “non‑resident,” and “resident in India” carry the meanings given in Section 2(31) and other applicable provisions of that Act. A bilateral Memorandum of Understanding with the Board means an MoU between SEBI and the overseas regulator that, among other things, provides for information‑sharing arrangements under the Act.

An applicant seeking registration as a foreign portfolio investor must apply under one of the categories specified by the Board, or any other category that the Board may notify from time to time.

Category I comprises government and government-related investors, for example central banks, government agencies, sovereign wealth funds and international or multilateral organizations or agencies.

Category II covers a range of institutional and professionally managed investors. This includes appropriately regulated broad-based funds such as mutual funds, investment trusts and insurance or reinsurance companies; appropriately regulated financial and investment intermediaries such as banks, asset management companies, investment managers or advisors, and portfolio managers; broad-based funds that are not directly regulated but whose investment manager is appropriately regulated (provided that the investment manager itself is registered as a Category II foreign portfolio investor and accepts responsibility and liability for the acts and omissions of its underlying broad-based funds); university funds and pension funds; and university-related endowments that are already registered with the Board as foreign institutional investors or sub-accounts.

For these purposes, an applicant is “appropriately regulated” if it is supervised by the securities market regulator or the banking regulator of its home jurisdiction in the same capacity in which it proposes to invest in India. A “broad-based fund” means a fund established outside India that has at least twenty investors and in which no single investor holds more than forty-nine percent of the shares or units. If a broad-based fund does have an institutional investor holding more than forty-nine percent, that institutional investor must itself qualify as a broad-based fund. When counting investors, both direct investors and underlying investors are considered; however, only entities created solely to pool funds and make investments are counted as underlying investors.

Category III includes all other applicants who do not qualify under Categories I or II, such as endowments, charitable societies, charitable trusts, foundations, corporate bodies, trusts, individuals and family offices.

To grant a certificate of registration, the Board or the designated depository participant may require the applicant to furnish additional information or clarifications. If requested, the applicant or an authorized representative must also appear for personal representation before the Board or the designated depository participant.

A designated depository participant (DDP) may issue a certificate of registration to an applicant in the form prescribed as Form B of the First Schedule, provided the DDP is satisfied that the applicant is eligible and meets the requirements set out in these regulations. The decision to grant registration should follow an assessment against the criteria specified in the rules.

The DDP should process each application promptly and in any case complete disposal no later than thirty days after receipt of the application, or within thirty days after the applicant furnishes the information requested under Regulation 6, whichever is later. Once the certificate of registration is granted to a foreign portfolio investor (FPI), the DDP must promptly collect the applicable fee from the FPI, as specified in Part A of the Second Schedule, on behalf of the Board and remit that fee to the Board.

If an applicant has any grievance about the handling of its application, or if the DDP requires guidance on the interpretation of any provision of these regulations, either party may refer the matter to the Board for appropriate instructions.

An application for registration as a foreign portfolio investor that is incomplete, or that contains false or materially misleading information, shall be treated as deficient and may be rejected by the designated depository participant. Before rejecting such an application, however, the applicant must be given a reasonable opportunity to remedy the deficiency within the time specified by the designated depository participant. If the application still does not meet the prescribed requirements, the designated depository participant may reject it, but only after affording the applicant a reasonable opportunity to be heard.

Any rejection must be communicated to the applicant in writing and must state the grounds for the decision. An applicant aggrieved by the designated depository participant’s decision may, within thirty days of receiving that written communication, apply to the Board for reconsideration. The Board will examine the submissions made in the reconsideration request, provide the applicant a reasonable opportunity to be heard, and convey its decision in writing as soon as practicable.

Subject to continued compliance with the Act, these regulations and any circulars issued under them, a registration granted by the designated depository participant on behalf of the Board remains in force permanently unless the Board suspends or cancels it, or the foreign portfolio investor surrenders it.

Any suspension or cancellation of registration by the Board will be carried out in accordance with Chapter V of the Securities and Exchange Board of India (Intermediaries) Regulations, 2008.

A foreign portfolio investor who wishes to give up its activity and surrender its certificate of registration must apply to the designated depository participant. The depository participant will accept the surrender only after obtaining the Board’s approval, and in doing so may impose any conditions the Board specifies; the investor must comply with those conditions.

Under the FPI regime, SEBI‑approved Designated Depository Participants (DDPs) act as authorised intermediaries who grant registration to Foreign Portfolio Investors (FPIs) on SEBI’s behalf and perform related onboarding and compliance functions. FPIs must appoint a DDP before making any investments in the Indian securities market.

No person may act as a designated depository participant without the prior approval of the Board. However, two categories are treated as having such approval from the outset, provided they pay the fees laid down in Part B of the Second Schedule: (i) any custodian of securities that was registered with the Board on the date these regulations came into force; and (ii) any qualified depository participant that had already been approved by the Board before these regulations commenced and had opened a qualified foreign investor account on the date the regulations were notified.

An application for approval must be submitted to the Board through the depository of which the applicant is a participant and must be accompanied by the application fee specified in Part A of the Second Schedule, paid in the manner prescribed there. The depository is required to forward the application, together with its recommendations and a certificate that the participant meets the eligibility criteria set out in these regulations, to the Board as soon as practicable and in any event within thirty days of receiving the application.

The Board will not consider an application to be approved as a designated depository participant unless the applicant satisfies several prescribed conditions. The applicant must be registered with the Board as a participant or as a custodian of securities, or be an Authorized Dealer Category‑1 bank authorized by the Reserve Bank of India. It should have a multinational presence, either through its own branches or through agency arrangements with intermediaries that are regulated in their respective home jurisdictions. The applicant must maintain systems and procedures to comply with Financial Action Task Force (FATF) standards, the Prevention of Money Laundering Act, 2002, the Rules made thereunder, and any circulars issued by the Board. In addition, the applicant must be a fit and proper person as defined in Schedule II of the Securities and Exchange Board of India (Intermediaries) Regulations, 2008, and must meet any other criteria the Board may specify from time to time.

Despite the foregoing, the Board may, in the interest of securities market development, consider an application from a global bank regulated in its home jurisdiction if it is satisfied that the bank has sufficient custodial experience. Any such global bank must be registered with the Board as a participant and as a custodian of securities, and must have a tie‑up with an Authorized Dealer Category‑1 bank.

No foreign portfolio investor (FPI) may invest in Indian securities except in accordance with the provisions set out below.

An FPI is permitted to invest only in specified categories of instruments. These include equity instruments such as shares, debentures and warrants of companies listed (or to be listed) on a recognized Indian stock exchange, as well as units of mutual fund schemes and units of collective investment schemes. FPIs may trade in exchange‑traded derivatives, invest in treasury bills and dated government securities, and subscribe to commercial paper issued by Indian companies. Debt instruments permitted include rupee‑denominated credit‑enhanced bonds, listed and unlisted non‑convertible debentures/bonds (including those issued by infrastructure companies and by non‑banking financial companies classified as Infrastructure Finance Companies), rupee‑denominated bonds or units issued by infrastructure debt funds, securitised debt instruments and security receipts issued by asset reconstruction companies. Other allowed instruments include perpetual debt and other debt capital instruments as specified by the Reserve Bank of India, Indian depository receipts, unlisted corporate debt subject to Ministry of Corporate Affairs guidelines, units or certificates issued under SEBI’s securitisation listing rules, and any other instruments the Board may specify from time to time. Unlisted corporate debt securities in the form of non‑convertible debentures/bonds are permitted subject to Ministry of Corporate Affairs guidelines, a minimum residual maturity of three years and an end‑use restriction that bars investment for real estate business, capital market activities and land purchase.

Where an FPI (or its sub‑account) held equity in an unlisted company prior to these regulations and continues to hold those shares after the company’s initial public offering and listing, those shares will be subject to the same lock‑in period, if any, that applies to similarly situated foreign direct investors under the Government of India’s FDI policy in force at the time. Nothing in these provisions affects the applicability of any other law, regulation or guideline.

Additional conditions apply to secondary‑market investments. FPIs must generally transact on a delivery versus payment basis—that is, by taking and giving delivery of securities. Exceptions to the delivery requirement include exchange‑traded derivatives, short selling carried out under the Board’s framework, market‑making or underwriting transactions with merchant bankers in accordance with SEBI’s issue regulations, and other transactions specified by the Board. Trades on a stock exchange may not be carried forward (i.e., no rolling forward of positions). FPIs must transact through stock brokers registered with the Board, except in specified situations such as transactions in government securities and other instruments under the Reserve Bank of India’s domain (which are conducted in the manner RBI specifies), sales made in response to open offers, delisting offers, buy‑backs, divestment offers by Indian companies through ADR/GDR routes as per Government and RBI directions, bids in response to central or state government disinvestment offers, market‑making or underwriting in accordance with SEBI regulations, transactions in corporate bonds by Category I and II FPIs as specified by the Board, trades on electronic book provider platforms of recognized exchanges, and any other transactions the Board may exempt.

Securities held by FPIs must be in dematerialised form. A limited exception allows shares that were held in physical form before these regulations commenced to remain non‑dematerialised if they cannot be converted into dematerialised form.

In respect of debt investments, FPIs must also comply with any additional terms, conditions or directions issued by the Board or the Reserve Bank of India. For these purposes, “debt securities” includes dated government securities, commercial paper, treasury bills, listed or to‑be‑listed corporate debt, units of debt‑oriented mutual funds, unlisted non‑convertible debentures/bonds in the infrastructure sector, security receipts issued by asset reconstruction companies, and any other security the Board specifies.

Unless the Board grants prior approval otherwise, securities acquired by an FPI must be registered in the name of the FPI as the beneficial owner for the purposes of the Depositories Act, 1996. The aggregate holding of equity shares of any one company by a single FPI or by an investor group of FPIs must remain below ten percent of that company’s total issued capital.

FPI investments are also subject to any other conditions or restrictions that the Government of India may prescribe from time to time. Where the Government enters into treaties or agreements with other sovereign states that recognise certain entities as distinct and separate, the Board may, during the life of such treaties, recognise those entities on terms it specifies. FPIs are permitted to lend or borrow securities in accordance with the framework laid down by the Board.

For the purposes of these provisions, the terms security receipts, asset reconstruction, securitisation company and reconstruction company have the meanings assigned to them in the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.

No foreign portfolio investor (FPI) may issue, subscribe to, or otherwise deal in offshore derivative instruments (ODIs), directly or indirectly, unless specific conditions are met. ODIs may be issued only to persons who are themselves regulated by an appropriate foreign regulatory authority, and issuance must follow prescribed know‑your‑client (KYC) norms. Unregulated broad‑based funds that are classified as Category II FPIs solely because their investment manager is regulated are not permitted to issue, subscribe to or deal in ODIs, either directly or indirectly. Similarly, Category III FPIs are expressly prohibited from issuing, subscribing to or dealing in ODIs.

Any transfer of ODIs issued by or on behalf of an FPI must also meet these requirements: the transferee must satisfy the eligibility conditions described above (regulated status and KYC compliance), and the transfer should occur only with the prior consent of the issuing FPI unless the transferee has been pre‑approved by that FPI.

FPIs are required to fully disclose to the Board all information regarding the terms of, and parties to, ODIs—such as participatory notes, equity‑linked notes or other instruments by whatever name—where those instruments relate to securities listed, or proposed to be listed, on any Indian stock exchange. Such disclosures must be made as and when, and in the form, specified by the Board.

Finally, any ODIs issued under the Securities and Exchange Board of India (Foreign Institutional Investors) Regulations, 1995 before these rules took effect shall be deemed to have been issued under the corresponding provisions of the current regulations.

In 2015–16 the Reserve Bank of India put in place a medium‑term framework that fixed Foreign Portfolio Investor (FPI) limits in rupee terms. The framework introduced a separate limit for investments by FPIs in State Development Loans (SDLs) and provided for periodic increases in the debt limits: these are to be reviewed every half year (March and September) and the released amounts announced quarterly. Initial tables accompanying the framework showed the position in government securities and corporate bonds, including reinvestment of coupons in government securities, as of March 31, 2016.

On the registration front, as of March 31, 2017 there were 8,781 FPIs registered with SEBI. Of these, 7,807 were registered under the SEBI FPI Regulations, 2014, and 974 were classified as deemed FPIs. As of March 31, 2016, 18 Designated Depository Participants (DDPs) had been registered with SEBI to facilitate FPI operations.

With regard to tax rules, FPIs in Categories I and II are exempt from the indirect transfer provisions. In addition, the indirect transfer provisions do not apply where shares or interests are redeemed outside India as a consequence of, or arising from, the redemption or sale of an investment in India that is chargeable to tax in India.

For the April–June 2017 quarter the limits for FPI investment in government securities were revised. The cap on investments by all FPIs in central government securities was raised to Rs 1,84,901 crore. The tabulated revision sets the cap for Long‑Term FPIs (Sovereign Wealth Funds, multilateral agencies, endowment funds, insurance funds, pension funds and foreign central banks) in central government securities at Rs 46,099 crore (an earlier sentence in the source appears to contain a typographical figure of Rs 746,099 crore; the table shows Rs 46,099 crore). The cap for investments by all FPIs in SDLs was raised to Rs 27,000 crore. Taken together, the overall upper cap moved from Rs 2,41,000 crore as of March 31, 2017 to Rs 2,58,000 crore effective April 3, 2017; the component changes were: government debt from Rs 1,52,000 crore to Rs 1,84,901 crore, government debt (long term) from Rs 68,000 crore to Rs 46,099 crore, and SDLs from Rs 21,000 crore to Rs 27,000 crore.

In the corporate debt space, investment by FPIs in unlisted corporate debt securities and securitised debt instruments was capped at Rs 35,000 crore within the prevailing corporate debt limit, which at the time stood at Rs 2,44,323 crore. Separately, investments by FPIs in securitised debt instruments were exempted from the minimum three‑year residual maturity requirement.

The rapid expansion of trading activity after the introduction of on‑screen trading exposed serious inefficiencies in the older clearing and settlement methods, prompting the development of a new model known as the depository system. Under this system, physical share certificates are replaced by electronic records, which greatly streamline transfers, reduce paperwork and lower the operational risks that accompanied manual settlement processes.

Recognising these advantages, SEBI mandated the compulsory trading and settlement of certain securities in dematerialized (demat) form. Today, securities are held, transferred and settled electronically rather than through paper certificates. Two depositories provide these centralised electronic services in India: NSDL (National Securities Depository Limited) and CDSL (Central Depository Services (India) Limited). Dematerialisation has eliminated problems such as bad deliveries, forged or mutilated certificates, delays and the high handling costs associated with physical securities, thereby improving the integrity and efficiency of the securities market.

Depositories are discussed in detail in Chapter 18.

Buy‑back of shares occurs when a company repurchases its own previously issued shares. The company may either cancel the repurchased shares, which reduces its paid‑up equity, or retain them as treasury stock, in which case the shares are neither treated as investments nor as equity but can be reissued later—for example to satisfy employee stock options. The accounting outcomes differ: cancelling shares reduces the equity base and draws on reserves to the extent the repurchase price exceeds the nominal capital; holding shares as treasury stock leaves the issuance potential open for future use without extinguishing the securities.

Companies pursue buy‑backs for several practical reasons. A firm with surplus cash may view buying back its own shares as a low‑risk use of funds compared with greenfield investments, acquisitions or new product development. Buy‑backs can increase promoters’ proportional holding and help fend off hostile takeovers. They are also used to alter capital structure where equity has become disproportionately large, to stabilise a panic‑driven fall in share prices, or to signal management confidence as an alternative to higher dividends. By reducing the number of shares outstanding, buy‑backs typically raise earnings per share (EPS), which may lift market price and reduce the firm’s cost of capital when new issues are later undertaken at a premium.

The legal framework in India begins with the Companies Act provisions and is supplemented by securities market rules. Section 77A of the Companies Act, 1956 sets out permissible methods of buy‑back: proportionately from existing security‑holders, from the open market, from odd lots (small holdings below the marketable lot specified by the exchange), or by purchasing securities issued to employees under stock option or sweat equity schemes. The procedural rules for listed companies are contained in the SEBI (Buy Back of Securities) Regulations, 1998. SEBI recognises two principal mechanisms: a tender offer (which may be at market price or at a premium, and may be fixed‑price or auction‑based) and open‑market repurchases, which may use book‑building or direct purchases on the exchange. Tender offers and auctions are typically used for larger buy‑backs or when the company seeks to acquire shares at the lowest possible price; open‑market routes are commonly preferred for smaller repurchases.

Buy‑backs were legally prohibited in India until the Companies (Amendment) Ordinance, 1998 introduced Sections 77A and 77B into the Companies Act, 1956 and permitted buy‑backs subject to certain conditions. A company may buy back shares from free reserves, the securities premium account, or the proceeds of a previous issue (but not from a fresh issue raised specifically for buy‑back). The principal statutory safeguards include that buy‑back must be authorised by the company’s articles, approved by a special resolution of shareholders (subject to certain relaxations discussed below), must not exceed specified limits of paid‑up capital and free reserves, and must leave the company with a debt‑equity ratio within prescribed limits after the buy‑back. Further, only fully paid‑up securities may be bought back and the buy‑back must comply with SEBI regulations; companies in default on repayment obligations are barred from conducting buy‑backs, and buy‑backs through subsidiaries or investment companies are prohibited.

After the 1998 ordinance, SEBI issued buy‑back regulations for listed companies to enhance liquidity and shareholder wealth, and prescribed timelines to speed up the process: offers conducted through exchanges should not remain open for more than 30 days, verification of tendered shares should be completed within 15 days of closure, payments must be made within seven days of verification, and bought‑back shares must be extinguished within seven days of payment.

SEBI relaxed several norms in 2001 to make buy‑backs more flexible. Companies were allowed to buy back up to 10 per cent of equity capital and free reserves by board resolution alone, without shareholder approval, and the moratorium on fresh issues after a buy‑back was reduced from 24 months to six months. Subsequent relaxations affected promoters’ creeping acquisition limits, progressively easing the annual threshold in which promoters could increase their holding without prior SEBI approval.

The relaxation of rules led to a sharp increase in buy‑back activity among cash‑rich corporates. Some high‑profile buy‑backs were announced in the early 2000s, including a very large programme by Reliance Industries and significant offers by other blue‑chip firms. These events exposed concerns: several buy‑backs were launched at depressed historical prices or were used opportunistically by insiders to raise promoter stakes, and some companies announced buy‑backs without actually acquiring a meaningful portion of the maximum proposed quantity. SEBI observed cases where buy‑back announcements were used to manipulate market price rather than to reward shareholders, prompting a review of existing regulations and a discussion paper proposing stronger safeguards.

Key proposals that emerged from SEBI’s review include both substantive and procedural reforms. To prevent frivolous or cosmetic buy‑backs, minimum participation thresholds were proposed: merchant bankers were directed to ensure at least 25 per cent of the maximum proposed quantity is actually bought back, and, based on observed practice, a 50 per cent minimum buy‑back of the disclosed maximum was later proposed. Timelines were tightened with a suggested three‑month completion window for buy‑backs, and a requirement that companies place 25 per cent of the maximum buy‑back amount in escrow to demonstrate seriousness. To discourage repeated market stabilisation exercises, listed companies that undertake buy‑backs would be restricted from raising fresh capital for two years, and firms that fail to complete the announced buy‑back in full would be barred from launching another buy‑back for at least one year.

Disclosure and transparency standards were also strengthened. Companies would be required to report daily the number of shares purchased and the amount utilised, and to provide detailed monthly disclosures—integrated into quarterly and annual financial statements—showing proposed and cumulative shares bought back, amounts spent, shares extinguished, and the residual obligation. SEBI proposed eliminating fortnightly newspaper disclosures to reduce costs, replacing them with consolidated regulatory filings, while retaining monthly explanations where proportionate buy‑back quantities were not met.

Procedural limits were proposed to channel larger buy‑backs through more transparent routes: any buy‑back equal to or exceeding 15 per cent of paid‑up capital and free reserves would be required to proceed only by tender offer. Special arrangements were recommended for odd‑lot physical holdings, including a separate exchange window and simplified tendering for physical investors holding up to 500 shares, subject to PAN/Aadhaar verification and designated brokers to facilitate these tenders; pricing for such odd‑lot holders could be the volume‑weighted average price of shares purchased in the normal market during the relevant week.

Other technical proposals sought to permit limited issuances under employee stock option schemes during a buy‑back provided such allotments exclude directors and key managerial personnel and do not accelerate vesting. Timelines for extinguishment of repurchased shares in open‑market buy‑backs were tightened so that companies would destroy shares bought in a month by the fifteenth day of the succeeding month, with the final month’s extinguishment required within seven days of the offer’s completion; detailed reporting on extinguishment would replace the old separate certification requirement to SEBI. Finally, the prohibition on promoters dealing in the company’s securities during the buy‑back period—previously limited to exchange trading—was proposed to be extended to cover off‑market transactions as well.

Taken together, these reforms aim to balance legitimate corporate motives for buy‑backs—capital structure management, return of surplus cash, and market confidence signalling—with investor protection and market integrity, by imposing clearer timelines, higher minimum buy‑back participation, stricter disclosure, and tighter controls on related party dealing.

Buybacks were introduced to improve liquidity in the securities market, but they produced unintended consequences. In practice, buybacks sometimes led to the delisting of well-performing securities and depressed prices for small shareholders, who found themselves with reduced market options and diminished value. These outcomes prompted closer regulatory attention to protect investor interests and preserve market integrity.

To curb misuse of the buyback route for delisting, regulators required safeguards. The Securities and Exchange Board of India issued directives stipulating that a company must be listed for a minimum of three years before it could be delisted following a buyback. More recently, the draft takeover code has proposed a firmer stance by disallowing delisting through the buyback mechanism altogether. Together, these measures aim to prevent premature exits that harm minority investors and undermine healthy secondary markets.

Beyond securities regulation, policy adjustments are also needed on the foreign investment front. The Centre should revisit FDI guidelines to encourage multinational corporations that establish wholly owned Indian subsidiaries to move toward public listing within a defined period. Such a requirement would promote wider ownership, improve price discovery, and strengthen domestic capital markets while balancing the operational flexibility companies need.

Market Making: Structure and Regulation

Extensive reforms over the past decade have reshaped the securities market: electronic trading and automated order-matching have lowered transaction costs and raised transparency. Yet many listed shares remain thinly traded despite having underlying value. To supply liquidity for such illiquid scrips, market makers are appointed to post continuous two‑way quotes—simultaneously offering buy and sell prices—and thereby create a tradable market. Market makers are permitted to operate with a spread (typically 3–10 per cent), which compensates them for providing this liquidity.

Market making was common in the floor‑based era, where jobbers performed this role, but it has largely disappeared in the screen‑based environment. Key obstacles include limited access to back‑finance for brokers, weak incentives such as the lack of authority to route trades through market makers, and a general lack of market depth. Attempts to introduce market making in the derivatives segment have also fallen short of expectations.

Globally, market making is a highly developed and specialized function, often undertaken by firms focused on particular stocks, sectors or regions, or serving institutional clients. The US markets, particularly NASDAQ, illustrate this intensity: leading NASDAQ companies may have dozens to over a hundred active market makers—for example, Oracle has been quoted by about 101 market makers, Cisco by 99, Dell by 90, Applied Materials by 88, Intel by 86 and Microsoft by 82. Active market making translates into high trading activity: Indian internet stocks such as Sify, with 13 market makers, have recorded average daily volumes of around 50,000–60,000 trades, and Rediff, with nine market makers, about 4,000–5,000 trades. NASDAQ lists roughly 4,730 companies, and more than 90 per cent of them trade on any given day, a level of liquidity largely attributable to market makers. By contrast, on the Bombay Stock Exchange out of about 5,700 listed companies, barely 1,500 trade on a typical day.

In India, a structured form of market making began with the OTCEI, where market making is mandatory and the sponsor is required to act as a market maker for at least three years. Some brokers at regional exchanges also attempted to revive illiquid scrips by quoting two‑way prices, but these efforts were largely unsuccessful.

To promote market making on Indian exchanges, the Securities and Exchange Board of India (SEBI) constituted a committee under G. P. Gupta (Chairman, IDBI) to examine various aspects of market making, including the relative merits of order‑driven and quote‑driven trading systems. The committee recommended classifying shares as liquid or illiquid and providing market making support specifically for illiquid issues. It emphasized that obliging market makers to provide continuous two‑way quotes would necessitate maintaining inventories, implying substantial capital commitment and greater exposure to market risk. The committee also noted that stock lending and margin trading could help stimulate market making.

In April 2010, SEBI framed rules for establishing new exchanges or separate nationwide platforms on existing exchanges for Small and Medium Enterprises (SMEs). Under this framework, market making is mandatory for all scrips listed and traded on the SME exchange. The following guidelines shall be applicable to the market makers on the stock exchanges and SME exchange:

Market-Making Framework and Guidelines

The securities market has undergone a fundamental transformation in recent years, driven by infrastructure upgrades, adoption of international best practices and the introduction of competition. Reforms by SEBI have strengthened the regulatory framework and market surveillance, improving transparency, efficiency and investor protection. The shift to electronic trading and order‑matching systems has lowered transaction costs, accelerated trade execution and raised liquidity for many stocks: spreads have declined nearly tenfold and trading volumes for some securities have increased a hundredfold.

Despite these gains, liquidity remains uneven across listed shares. A large number of securities are infrequently traded even though they may possess sound fundamentals and intrinsic value. To address this gap, a market‑making facility has been proposed: market makers would commit to provide continuous two‑way quotes in selected illiquid stocks, thereby improving price discovery and enhancing tradability.

Market makers will operate under the regulatory framework set out in these guidelines. Each stock exchange will act as the self‑regulatory organisation responsible for monitoring and facilitating market‑making activity. Exchanges are permitted to introduce modifications to the scheme to make participation more attractive, but they must not change the core conditions specified in these guidelines—namely the criteria for selecting scrips, capital adequacy requirements and the risk‑containment measures such as prescribed price bands and margin norms.

Stock exchanges will set their own benchmarks for selecting scrips for market making, but certain shares are expressly excluded. A scrip will not be eligible for market making if it is part of the BSE Sensex or the NSE Nifty 50, if its average number of trades exceeds 50, if its daily traded value exceeds Rs. 10,00,000, or if the company is not in operation and has suffered net worth erosion beyond 50 per cent. Exchanges must review the eligible scrip list after an observation period of two to three months and reclassify scrips as required to ensure trends are persistent. Participation by market makers in eligible scrips is voluntary; if no market maker registers for a given scrip, trading will continue under the existing order-driven system.

When a scrip is eligible for market making and market makers are available, trading in that scrip will be conducted under a quote-driven system, and all orders will flow through the market makers. To ensure orderly markets, an exchange may appoint up to five market makers per eligible scrip. These market makers are to be chosen by objective criteria determined by the exchange, typically including capital adequacy, net worth, infrastructure and minimum business volume. Any exchange member who meets the exchange’s criteria may apply for registration as a market maker.

Registered market makers must provide depth and continuity in trading. They are required to display two-way quotes on a continuous basis, with a minimum quote depth of Rs. 5,000 or one market lot, whichever is higher (for dematerialised shares the previously applicable physical market lot will be used where no demat lot exists). Quotes must not be absent from the screen for more than 30 minutes at a time, and market makers must guarantee execution of orders at the quoted price and quantity. They must commit to buy and sell up to specified quantities in the scrips they cover. Market makers are permitted to revise quotes even if no trade has occurred at the displayed price; however, their obligation to quote ends at a level 1 per cent inside the applicable circuit filter limits. Competition among market makers for better quotes is allowed. After registration, a market maker must begin providing quotes within five trading days and must remain in that capacity for a minimum period of three months.

Market makers are entitled to continuous access to information about the companies in which they make markets, including trading data and financial performance for the preceding three years. They may voluntarily deregister from a scrip after fulfilling the three-month minimum obligation and giving one month’s notice to the exchange. By contrast, failure to fulfil market-making obligations for more than three consecutive trading days will result in automatic de-registration from that scrip and may disqualify the market maker from acting in any other security for at least three months.

Exchanges must publish to the public the list of market makers for each scrip, as well as the price and turnover data for scrips eligible for market making. The number of scrips a market maker may handle should be linked to its capital adequacy, as prescribed by the exchange.

Risk containment for market makers includes strict margin collection without any waiver and exchange-prescribed capital adequacy norms that are commensurate with the number and type of scrips a market maker covers. Exchanges will monitor compliance and any breach of requirements may attract disciplinary action by the exchange’s Disciplinary Action Committee (DAC), including monetary penalties and trade restrictions. Circuit filters and price bands prescribed by SEBI remain unchanged. Maximum bid–ask spreads are prescribed by price band: for low-priced scrips up to Rs. 10 there is no prescribed limit on spreads; for scrips priced above Rs. 10 up to Rs. 20 the maximum spread is 10 per cent; above Rs. 20 up to Rs. 50 the maximum is 5 per cent; above Rs. 50 up to Rs. 100 the maximum is 4 per cent; and for scrips above Rs. 100 the maximum spread is 3 per cent.

Separate, nationwide SME platforms or a separate SME segment of an existing exchange operate under a similar, but stricter, market-making framework: market making is mandatory for all scrips listed on the SME platform. Any exchange member meeting the exchange’s criteria may register as a market maker on the SME platform. Market makers on the SME platform must provide two-way quotes for at least 75 per cent of the trading day; any planned blackout periods must be communicated to the exchange in advance. The minimum quote depth on the SME platform is Rs. 1,00,000. Small investors holding less than Rs. 1,00,000 in a scrip may offer their entire holding to the market maker in one lot provided they submit a declaration to the selling broker. Execution at the quoted price and quantity must be guaranteed. As with the main market, no more than five market makers will be appointed per scrip on the SME platform, selected on objective criteria such as capital adequacy and infrastructure. A market maker on the SME platform must begin quoting from the date of listing or from the date of designation, and the period for which the market maker must remain active is to be mutually agreed with the merchant banker. Deregistration is permitted with one month’s notice, subject to the agreed minimum period.

The exchange must publish the list of market makers for each SME scrip. The number of scrips a market maker may cover on the SME platform is tied to its capital adequacy, and exchanges will enforce margining and capital requirements without exemptions. Exchanges may further prescribe maximum spreads and, if appropriate, price bands for SME scrips; spreads for a new issue must be specified in the offer document with the exchange’s prior approval.

Inventory limits for SME market makers are applied to the upper side during market-making, taking issue size into account. The prescribed ceilings (inclusive of a mandatory initial inventory of 5 per cent of the issue size) are: for issues up to Rs. 20 crore a buy-quote exemption of 25 per cent with a re-entry threshold of 24 per cent; for Rs. 20–50 crore an exemption of 20 per cent and re-entry at 19 per cent; for Rs. 50–80 crore an exemption of 15 per cent and re-entry at 14 per cent; and for issues above Rs. 80 crore an exemption of 12 per cent and re-entry at 11 per cent. The exemption from thresholds is not available for the first three months of market making, during which two-way quotes must be maintained irrespective of inventory levels. The threshold calculations include the mandatory 5 per cent initial allotment; any holdings above that initial 5 per cent are excluded from the threshold calculation. Only shares acquired on the exchange platform during the market-making process count towards the market maker’s inventory for threshold purposes, and thresholds are applied across market makers collectively. A market maker must continue to give two-way quotes until reaching the upper inventory limit, after which it may provide only sell quotes; two-way quoting must resume once inventory declines to the re-entry threshold. There is no exemption on the downside, and if a market maker exhausts its inventory through market making on the exchange, the exchange may, after verification, inform SEBI.

Securities Lending and Borrowing: Framework and Challenges

The Securities Lending and Borrowing (SLB) scheme is a regulated facility that allows investors to lend and borrow listed shares so that sellers who have taken short positions can meet their settlement obligations. Short selling — selling a stock that the seller does not own at the time of the trade — became difficult after the ban on badla because sellers facing adverse price movements often ended up with uncovered positions and were forced into auctions, where auction prices tended to be above the last traded price. By enabling a short seller to borrow and deliver the required shares at settlement, the SLB mechanism reduces such forced auctions, lowers settlement risk for short sellers and contributes to market efficiency, liquidity and price discovery. At the same time, short selling can accentuate downward price trends and, if unchecked, may destabilize markets; the SLB framework therefore incorporates safeguards to limit abuse.

The SLB framework in India was developed following recommendations of SEBI’s Secondary Market Advisory Committee and was formalised under the Securities Lending Scheme, 1997, which SEBI notified on 6 February 1997. The scheme permits all classes of investors — retail and institutional — to short sell, but it expressly forbids naked short selling: sellers must honour their delivery obligations at settlement. To support short-selling activity, SEBI required stock exchanges to put in place a full-fledged SLB facility that is open to all market participants and operates under a transparent, automated order-matching platform run by approved intermediaries (AIs), typically the clearing corporations or clearing houses of exchanges.

Operationally, SLB transactions are executed on a separate screen-based platform provided by the AIs and are independent of normal trading platforms. Borrowers and lenders access this platform through authorised clearing members (including banks and custodians). AIs enter into formal agreements with clearing members that set out rights, responsibilities and risk-management arrangements; these agreements prohibit direct bilateral contracts between lender and borrower and require a standard “rights and obligations” document to be binding on participants. Each client is allotted a unique ID mapped to their PAN to prevent multiple identities.

Eligibility of securities for SLB is limited to companies that meet listing and liquidity criteria — including those on which derivatives trade and other qualifying securities — and exchanges review the eligible list periodically. SLB contracts can have tenures up to 12 months, and settlements for lending/borrowing trades follow a T+1 cycle, operating on a gross basis at the client level (no netting). The SLB settlement is independent of normal market settlement.

Risk management and failure remedies are central to the design. AIs must put in place systems to guarantee delivery to borrowers and return to lenders. If a lender fails to deliver or a borrower fails to return securities, the AI will conduct an auction to obtain the securities; if an auction cannot produce the securities in exceptional circumstances, the transaction is financially closed out at appropriate (and potentially higher) rates to deter failures. Margin and collateral requirements for SLB mirror common cash-market practices, and collateral accepted for SLB margins is the same as that accepted in the cash market. If a borrower defaults on margin obligations, the AI may obtain securities and square off the defaulting position or proceed to a financial close-out.

Position limits are set at market, clearing-member and client levels to contain concentration risk. Initially, market-wide position limits were fixed as a percentage of a company’s free-float capital, with sub-limits for clearing members and clients and parity between institutional investors and clearing members for limit calculations. Exchanges, in consultation with SEBI, determine and periodically review precise limits. SLB activity is suspended for a security during corporate-action periods and exchanges/AIs must disclose such suspensions.

Corporate actions during the tenure of an SLB contract are specifically addressed: dividends are recovered from the borrower at book-closure/record date and passed to the lender; stock splits are adjusted proportionately to ensure the lender receives the revised quantity; and other actions (bonus issues, mergers, open offers) typically result in foreclosure of the transaction from the day before the ex-date, with lending fees apportioned pro rata.

Transparency and surveillance are built into the system. Brokers must collect scrip-wise short-sell positions, consolidate and upload these to exchanges daily; exchanges then publish consolidated information periodically. AIs must publicly disseminate details of SLB transactions and outstanding positions on a weekly basis (frequency subject to review). Exchanges and AIs must also maintain separate demat/system identifiers to distinguish SLB positions from normal holdings, and provide an arbitration mechanism for disputes arising from SLB trades.

The framework also prescribes practical features such as facilities for early recall by lenders and early repayment by borrowers. If a lender requests early recall, the AI will, on a best-effort basis, try to source a replacement borrower for the remaining period and pass the securities to the original lender; the AI may collect the lending fee from the recalling lender for the period concerned. If a borrower repays early, margins are released upon return of securities and the AI may try to onward-lend the securities, passing any income to the repaying borrower. Where a replacement cannot be found, the original borrower may forfeit the lending fee for the balance period. Lending fees for any balance period following early recall or repayment are determined by market rates.

Finally, SLB does not amount to a change in ownership for the purpose of FDI/FII limits or acquisition and disclosure norms under SEBI regulations. Exchanges are expected to adopt deterrent provisions for failures to deliver, ensure robust risk-management that balances commercial viability with prudential safeguards, and permit SLB session timings aligned with normal market hours. Together, these measures seek to enable orderly short selling while protecting market integrity and settlement finality.

The framework permitting short selling by institutional investors and a comprehensive securities lending and borrowing (SLB) scheme for all market participants was brought into operation on April 21, 2008.

A roll‑over facility was introduced to allow lenders and borrowers to extend existing SLB positions at the time they would otherwise be settled. Concretely, a lender who is due to receive securities in the pay‑out of an SLB session may choose to extend the period of lending; similarly, a borrower who is due to return securities in the pay‑in of an SLB session may extend the period of borrowing through the same SLB session. These extensions are executed as part of the SLB session itself. The roll‑over mechanism does not permit netting of opposing positions — a client’s borrowed and lent obligations cannot be offset against each other through roll‑over.

Roll‑over is permitted for a maximum span of three contracts: the original contract plus two roll‑over contracts.

Liquid index exchange traded funds (ETFs) were made eligible for trading in the SLB segment. For this purpose an index ETF is considered liquid if it has traded on at least 80% of trading days over the preceding six months and its impact cost over the same period is less than or equal to 1%. Position limits for SLB transactions in ETFs are determined with reference to the assets under management of the respective ETF.

Stock lending and borrowing (SLB) allows institutional investors — banks, mutual funds, insurance companies and other financial institutions — to earn additional income by lending out otherwise idle securities. The lender receives a lending fee (often described as interest) for the loaned stock; the fee level reflects factors such as the scrip’s liquidity, the issuer’s size and management quality, and the credit and market risk associated with lending that stock. Importantly, the lender retains beneficial ownership and its attendant rights — for example, entitlement to dividends, bonus issues or rights offerings — while the borrower holds the legal title and is free to deal with or dispose of the borrowed securities as required.

Beyond direct income, SLB improves market functioning in several ways. By enabling more market participants to sell or take positions, it increases liquidity and makes markets deeper. It also supports orderly price discovery: lending through the clearing house helps carry forward legitimate short positions, which can temper overheated bullish runs and reduce settlement-time volatility. By facilitating timely delivery of securities, SLB lowers the incidence of delivery failures and contributes to smoother settlement cycles.

SLB is closely linked to the development of the derivatives market. It is widely used by institutional players when writing complex option contracts and supports arbitrage strategies between cash and derivative markets or between convertible instruments and their underlying shares. These activities enhance market efficiency and help integrate cash and derivatives segments.

From a regulatory and tax standpoint, the Central Board of Direct Taxes (CBDT) has exempted stock lending from capital gains, making the arrangement more attractive to lenders. With the near-completion of dematerialization and the functioning depository system, the operational risk of receiving inferior or “unclean” stock has fallen substantially. In addition, stock lending transactions do not attract Securities Transaction Tax (STT), further improving their cost-effectiveness for market participants.

The new scheme failed to gain traction: market participants regarded it as unfriendly and excessively regulated. A primary objection was the level of margins charged on trades in the Securities Lending and Borrowing (SLB) segment. These margins are often so large that a transaction can become uneconomic—at times effectively equating to 100 per cent or more of the exposure. By contrast, margin requirements in derivatives and offshore lending are typically much lower, around 25–30 per cent and 20 per cent respectively. Such high execution costs discourage participation and make the segment unattractive to traders and intermediaries.

A second major concern was transparency: participants warned that public disclosure of SLB transaction details could invite price distortion or other forms of market manipulation. Revealing trade-level information may enable opportunistic strategies that exploit temporary imbalances, undermining market integrity and confidence. Together, the onerous cost structure and the perceived risk of manipulation help explain why the scheme did not take off.

Rolling Settlement in India

The dematerialization of shares and the switch to settlements in demat form transformed the Indian stock market. The next major change was the adoption of rolling settlement, which shifted the market from periodic netting to the routine settlement of each day’s trades.

Rolling settlement was first tried in India by the OTCEI when it began operations in 1992, but it did not take off there because margin trading facilities for borrowing funds or securities were absent. The Securities and Exchange Board of India (SEBI) reintroduced the concept in January 2000, initially covering 10 scrips and expanding on 8 March 2000 to include 153 more. This phase implemented a T+5 cycle—meaning trades are settled five business days after the trade date. Under a T+5 rolling system, all open positions at the close of a trading day result in delivery and payment five working days later; because this process repeats every day, there are daily deliveries and payments, effectively converting the market into a cash market where each day’s transactions are settled in full.

The transition away from older practices continued rapidly. The rolling system replaced the traditional badla mechanism from 2 July 2001, when an additional 215 scrips were included—bringing the total to 414. By 2 January 2002, all listed scrips were under compulsory rolling settlement. Internationally, most developed markets then operated a T+3 cycle and were moving toward shorter cycles such as T+1 or even same‑day settlement (T+0). In line with international recommendations from the Group of Thirty, India moved to a T+3 cycle from April 2002, and subsequently to a T+2 cycle from 1 April 2003.

Operationally, the shorter settlement cycle brought specific procedural changes. In a T+2 rolling settlement, confirmation and determination of obligations occur on T+1, while pay‑in and pay‑out of securities and funds happen on T+2. Practically, custodians are required to confirm trades by 10:30 a.m. on T+1 (with a facility for late confirmations), and by 1:30 p.m. they must process and transmit obligation files to brokers. On T+2, pay‑in of securities and funds is scheduled by 10:30 a.m., with pay‑out by 1:30 p.m. Exchanges also levy additional charges to discourage late confirmations by custodians and maintain mechanisms for quickly resolving shortages of funds or securities so settlement schedules are met.

The benefits of shortening the cycle are clear: lower trading costs, reduced counterparty and settlement risk, and greater market efficiency. SEBI has signalled an ambition to move toward a T+1 cycle. In a T+1 environment, settlement processes become even more real‑time—broker terminals and exchange systems would check and debit investor bank accounts and credit demat accounts rapidly, enabling near‑instantaneous movement of funds and securities.

Rolling settlement thus reshaped Indian market microstructure by replacing periodic netting with daily finality, aligning the market with global norms and reducing systemic risks associated with longer settlement lags.

The principal advantage of the rolling settlement system over the older badla mechanism is its simplicity and transparency. Under the non‑transparent, unregulated badla system investors faced high exposure to risk and fraud and had to follow different settlement procedures for different stocks. By contrast, with a rolling settlement an investor only needs to note the day of purchase or sale, because all scrips are settled in the same standardized format across trading screens, simplifying record‑keeping and oversight.

Standardization under rolling settlement also removes many arbitrage opportunities and sharpens price discovery. When settlement procedures are uniform and predictable, market participants can focus on underlying fundamentals and trade outcomes, producing a single, well‑defined market price that is more useful for information processing by other economic agents. The transparent clearing and settlement process reduces settlement risk and tends to narrow bid–ask spreads.

Institutional participation is encouraged under rolling settlement because it shortens settlement delays and removes practices such as badla or informal netting that many institutions are barred from using. The system dampens price movements around discrete settlement dates, and the introduction of clearing corporations lowers working‑capital needs for brokerages. By reducing opportunities for manipulation and arbitrage, rolling settlement can contribute to lower volatility; retail investors also benefit from faster conversion of securities to cash and vice versa.

Critics argue that rolling settlement can reduce liquidity because it curbs speculative leverage and makes short selling more difficult. Any initial decline in liquidity may be temporary as brokers and investors adjust to the new regime and accept the loss of leverage. This effect can be more pronounced in markets where trading is heavily concentrated: in India, six to seven stocks account for roughly 70 percent of trading volume, so bringing heavily traded forward contracts for these scrips into rolling settlement can temporarily compress liquidity for those issues.

Several offsetting trends mitigate these concerns. Day trading has emerged as a source of intraday liquidity, and foreign institutional investors generally view rolling settlement favorably, which can lead to additional capital inflows. A SEBI study on moving to T+1 reported a cost‑benefit ratio of 0.85, meaning that for every 0.85 unit of likely expense there is a one‑unit benefit; investors stand to gain most, for example through interest savings on margin funds.

The infrastructure needed for rolling settlement—margin trading, continuous net settlement, depositories, a functioning futures and options market, and a robust banking system with electronic fund transfer—now exists in India. Together with improved technology and banking facilities, these prerequisites make the system more efficient today and create the possibility of further shortening settlement cycles to T+1 or even T+0 in the future.

The Indian equity market shifted to a T+2 settlement cycle on April 1, 2003, and the Securities and Exchange Board of India (SEBI) has since aimed to shorten this further to a T+1 cycle. This change is part of wider capital market reforms introduced after the market scams, with the objective of reducing the window for speculation and lowering settlement risk. Under a rolling settlement, trades are closed out within the prescribed cycle so that positions do not remain open across multiple settlement periods; moving to a one-day cycle tightens this process further and reduces counter-party exposure.

Achieving a T+1 cycle depends on faster, more integrated back‑office and banking infrastructure. SEBI has promoted Straight Through Processing (STP) to remove manual bottlenecks and accelerate the flow from trade execution to settlement, enabling automatic debits and credits in investors’ demat and bank accounts and improving transparency. At the banking level, timely gross finality is essential: the Reserve Bank of India (RBI) has urged banks to modernize branches and improve networking, and the real time gross settlement (RTGS) system—launched in April 2005—provides same‑day finality for large-value payments, a critical enabler for one-day securities settlement. Together, STP and RTGS form the operational backbone needed to move the market reliably to T+1.

Straight-Through Processing and Settlement

Straight Through Processing (STP) was introduced in December 2002 on a limited basis to help market participants move smoothly to a shorter settlement cycle of T+2 (trade date plus two business days) in April 2003. STP enables electronic capture and processing of a transaction in a single pass — from the point of the first deal through to final settlement — so that information generated at one end reaches its destination without manual intervention. By providing seamless connectivity among custodians, fund managers and brokers, STP removes the need for repeated data entry by different participants and reduces the chances of errors introduced by manual handling.

Because it automates and standardizes the flow of trade data, STP is a prerequisite for shortening settlement cycles; it was initially adopted on a voluntary basis by institutional participants. A number of service providers now offer STP connectivity, including NST, IT (an NSE subsidiary), NSDL Financial Technologies and Omgeo (a joint venture between the Depository Trust & Clearing Corporation and Thomson Financial). The Reserve Bank of India has also developed Infinet, an STP package tailored for banks and bank-related transactions.

To ensure interoperability across the market, the NSE established a sector STP Centralized Hub. From July 1, 2004, all institutional trades executed on stock exchanges have been required to be processed through the STP system. Beyond facilitating faster settlement, STP reduces the scope for manipulation, improves transparency, lowers counterparty and operational risk, and minimizes data-entry (punching) errors.

In a manual trade the broker issues a paper contract note that is passed on to the custodian or the depository participant, and information is re-entered at several stages. These repeated manual entries create opportunities for errors, mismatches, delays and even deliberate manipulation. By contrast, in an automated Straight Through Processing (STP) environment the contract note is generated electronically and the entire trade lifecycle is handled by computer systems. This removes most scope for manual tampering, speeds up processing, reduces operational risk and largely eliminates settlement failures.

The market regulator, SEBI, has prescribed a specific message-flow framework for the STP ecosystem to ensure secure, auditable communication between participants. Under this framework, the initiating STP user first digitally signs the instruction and sends it to its STP service provider. The sending provider verifies the user’s signature and then either forwards the signed message directly to the recipient (if both users use the same provider) or prepares a wrapper message in the centralized hub’s prescribed format, encloses the user’s message, digitally signs the wrapper and forwards it to the STP centralized hub.

On receiving the wrapper, the centralized hub verifies the signature of the sending service provider and issues an acknowledgement back to that provider. The hub then signs and forwards the original message to the recipient’s STP service provider. The recipient provider verifies the hub’s signature, confirms that the intended recipient user is associated with it, and returns an acknowledgement—digitally signed—to the hub. The hub relays this acknowledgement, duly signed, to the sending provider. Finally, the recipient service provider delivers the message to the recipient user, who verifies the signatures of both the recipient provider and the sending user.

Because this end‑to‑end digitally signed message flow removes manual intervention and creates a clear audit trail, STP combined with real‑time funds transfer systems such as RTGS is expected to enable shorter settlement cycles and pave the way for T+1 settlement.

Margin Trading Framework in India

Margin trading in India was formally permitted by the Reserve Bank of India with effect from 18 September 2001. It enables an investor to take a larger market position than personal funds alone would allow by contributing only a portion of the purchase price and borrowing the remainder. Under the RBI framework, an investor could typically provide 40 percent of the deal value as margin and borrow the remaining 60 percent from banks; financing is routed through stockbrokers and limited to actively traded scrips. At the inception of the scheme, 53 stocks drawn from the NSE Nifty and BSE Sensex were identified for margin trading, and banks’ exposures to such lending remained subject to the overall existing ceiling on their capital market exposure.

The shares bought with borrowed funds serve as collateral for the loan. Because the collateral-backed loan lets an investor control assets whose market value exceeds the investor’s own cash outlay, margin trading is a form of leverage: it amplifies both potential gains and potential losses. Banks that provide margin finance were allowed to invest up to 5 percent of their total outstanding credit in equities and had discretionary freedom to set interest rates on such advances, but they also need appropriate risk-containment measures to protect their assets.

Functionally, margin trading acts as a liquidity enhancer in the market by increasing buying power and turnover. At the same time, it is essentially a deferral mechanism—investors defer payment of a portion of the purchase price by borrowing against the securities purchased. This leverage creates systemic vulnerability: if prices move against leveraged positions, forced sell-offs and margin calls can produce sharp volatility in equity markets. The policy trade-off therefore lies between expanding market liquidity and managing the credit and market risks that leverage introduces.

Suppose an investor has Rs. 40,000 and wants to buy a share quoted at Rs. 40. Under the ordinary settlement system he can buy 1,000 shares with his own funds. Under margin trading, however, the same investor can acquire 2,500 shares worth Rs. 100,000 by paying his Rs. 40,000 as margin and borrowing the remaining Rs. 60,000 from a bank through his broker. The broker pledges the 2,500 shares to the bank, so the bank holds the shares—valued at Rs. 100,000—as collateral for the Rs. 60,000 loan.

If the market price rises to Rs. 50 and the investor sells, the profit without margin trading would be Rs. 10,000 (1,000 shares × (Rs. 50 − Rs. 40)). With margin trading the gross profit is Rs. 25,000 (2,500 shares × (Rs. 50 − Rs. 40)), less interest on the bank loan. Conversely, if the share price falls below the agreed maintenance level (for example, below Rs. 40 in this illustration), the bank will issue a margin call requiring the investor to provide additional funds or securities so that the broker can restore the collateral position.

The Reserve Bank of India (RBI) raised margin requirements with effect from 28 December 2004: the overall margin for advances against shares, for initial public offerings and for guarantees was increased to 50 per cent from 40 per cent. At the same time RBI advised banks to raise the minimum cash component of margin from 20 per cent to 25 per cent. Practically, this means at least 25 per cent of the required margin must be held in cash-like instruments (for example fixed deposits), with the balance covered by shares valued at current market prices.

Margin trading gives banks a way to deploy short-term funds at attractive interest rates while extending modest leverage to investors. It opens access to bank finance for small investors, offers a transparent and collateralised form of leveraged buying, and—when well regulated—can reduce opportunities for opaque intermediaries and scams. At the same time banks must put in place robust risk-management systems to monitor and safeguard loans secured by securities, and improvements in payment and settlement infrastructure are essential to ensure smooth funds transfer. Properly implemented, margin trading can raise market liquidity while keeping default risk low through high levels of collateral and disciplined margining.

Before 2004, efforts to expand margin trading in India through bank financing had little success because banks were generally unwilling to lend for stock market purchases. To improve liquidity in the equity market and to create a fairer playing field between large institutional players and smaller investors, the Securities and Exchange Board of India introduced a formal margin trading framework in April 2004.

Under this framework, SEBI allowed a wider range of entities to provide the financing used to buy shares on margin. Authorized financiers included brokers, banks, non‑banking financial companies registered with the Reserve Bank of India, insurance companies and other financial institutions. Margin trading, as defined in this context, means borrowing funds to partly finance the purchase of securities, thereby broadening the sources of credit available to investors.

The salient features of the new guidelines permit member-brokers to offer a margin-trading facility to clients in the cash segment, subject to the following conditions:

SEBI classifies listed securities into three groups—Group 1, Group 2 and Group 3—based on liquidity and trading history. To fall into Group 1, a security must have a mean impact cost of less than or equal to 1 and must have traded on roughly 80% (±5%) of trading days during the preceding 18 months. (Impact cost is a standard liquidity measure that captures the additional cost incurred when executing a trade because of market depth and price movement.) Securities placed in Group 1 are eligible for the margin trading facility.

Beyond Group 1, SEBI also allows securities offered through Initial Public Offerings to become eligible for the margin trading facility, provided they satisfy the exchange criteria for inclusion in the derivatives segment. This provision permits new listings that meet derivatives-segment standards to access margin trading even before they accumulate a long trading history.

Only corporate brokers that maintain a minimum net worth of ₹3.00 crore are permitted to offer a margin trading facility to clients. For this purpose, the term net worth is defined as capital (excluding preference share capital) plus free reserves, minus specified non‑allowable assets. Non‑allowable assets include fixed assets; pledged securities; member’s card; non‑allowable securities; bad deliveries; doubtful debts and advances (including amounts overdue by more than three months or advances made to associates); prepaid expenses; intangible assets; and 30 per cent of marketable securities. To demonstrate compliance, a broker must submit to the stock exchange an auditor’s certificate confirming the net worth as of 31 March and 30 September each year; these certificates must be filed by 30 April and 31 October respectively.

Before granting a Margin Trading Facility (MTF) to a client who already has MTF with another broker, the new broker must obtain a written no-objection certificate from the existing broker. The existing broker, on receipt of this query, has 21 days to communicate any objection in writing; if no written reply is received within that period, the new broker may proceed to provide the MTF. This requirement ensures that multiple brokers do not inadvertently extend overlapping margin exposures to the same client without the knowledge or consent of the parties involved.

The broker must enter into a written agreement with each client for providing the margin trading facility, following the model agreement at Annexure 1. The broker or exchange may add conditions to this agreement only to make them additional or more stringent; no amendment may dilute the protections or requirements set out in the model agreement or the governing circular.

A broker may fund the margin trading facility only from his own funds or by borrowing from scheduled commercial banks and NBFCs regulated by the RBI; borrowing from any other source is prohibited. Client funds may not be used to finance margin exposure for any other client, even with the client’s consent. At no time shall a broker’s total indebtedness for margin trading exceed five times his net worth (as calculated under the applicable methodology). The broker’s maximum allowable exposure for margin trading must remain within self-imposed prudential limits and in any event may not exceed the broker’s borrowings plus 50 percent of his net worth — together referred to below as the broker’s lendable resources. “Exposure” means the aggregate outstanding margin trading amount recorded by the broker across all clients. Brokers must guard against client-concentration: exposure to any single client must not exceed 10 percent of the broker’s lendable resources. In addition, exposure to any single client shall not at any time exceed 10 percent of the broker’s total exposure as defined above.

The minimum initial and maintenance margins that clients must provide for margin trading are 50 percent and 40 percent respectively, to be provided in cash. The initial margin is the minimum amount, expressed as a percentage of the transaction value, that a client must place with the broker before a purchase; the broker may advance the balance to meet settlement obligations. The maintenance margin is the minimum amount, expressed as a percentage of the market value of the securities (based on the last trading day’s closing price), that the client must maintain with the broker. If a client’s margin account falls below the required maintenance margin, the broker must promptly issue a margin call; no additional exposure may be granted to the client on the basis of any subsequent increase in the market value of the securities. The exchange or broker may, at its discretion, increase margin requirements and make margin calls as needed. Fixed deposits with banks and bank guarantees are treated as cash equivalents and are acceptable forms of initial and maintenance margins for the purpose of availing the margin trading facility.

A broker is entitled to liquidate a client’s securities if the client fails to meet a margin call, does not deposit the required cheques on the day following the margin call, or if a cheque deposited by the client is dishonoured. In such cases the broker may sell the securities to protect the exposure arising from the client’s default.

The broker may also liquidate securities where the client’s balance in the margin account — after accounting for mark-to-market losses — falls to 30 per cent or less of the latest market value of the securities during the period between issuing the margin call and receiving payment from the client.

Outside these specific circumstances, the broker is not permitted to liquidate or otherwise use the client’s securities.

The broker must maintain separate, client-specific accounts with depositories for all securities purchased under the margin trading facility and must provide online access so each client can monitor movements in their account. In addition, the broker is required to keep a distinct record of all funds used for margin trading, including details of their sources.

All books of account relating to the margin trading facility must be audited every six months. The broker must furnish an auditor’s certificate to the relevant stock exchange(s) within one month of the half-yearly closing dates—31 March and 30 September—confirming, among other particulars, the extent of compliance with the conditions governing the facility.

Regulatory authorities, including SEBI and the stock exchanges, have the right to inspect these books of account and any other documents maintained by the broker in connection with the margin trading facility.

Brokers are required to report their gross exposure in the Margin Trading Facility (MTF) to the stock exchange(s) by 12 noon on the trading day following the transactions. The report must include the client’s name, the Unique Identification Number (UIN) under the SEBI (Central Database of Market Participants) Regulations, 2003, the name of the scrip, and—where the broker has borrowed funds to provide MTF—the lender’s name and the amount borrowed.

Using these reports, the stock exchange(s) will disclose to the market the scrip-wise gross outstanding positions in margin accounts across all brokers. Disclosures relating to trades executed on a given day will be posted on the exchange’s website after trading hours on the next trading day.

Exchanges must also maintain robust systems to capture and retain all relevant details for margin trading—member-wise, client-wise and scrip-wise information, together with the members’ source of funds—both on a daily basis and in cumulative form.

The exchange's arbitration mechanism will not be available to resolve disputes between a client and a broker that arise solely from the margin trading facility. However, any trade executed on the exchange — whether a regular transaction or one carried out using margin — is covered by the exchange's arbitration process. In other words, while disagreements specifically about the margin facility itself lie outside the exchange arbitration, disputes concerning transactions executed on the exchange (including those executed through margin) fall within its scope.

The balances in the Investor Protection Fund and the Trade/Settlement Guarantee Fund shall not be deployed to meet losses that arise specifically from the operation of the margin trading facility. At the same time, these funds will continue to fulfil their normal roles in supporting and guaranteeing settlement: they remain available to meet settlement or guarantee obligations for any transaction executed on the exchange, including trades entered into through the margin trading facility.

Brokers who wish to offer margin trading to their clients must first obtain permission from the exchange on which they propose to provide the facility. The exchange may withdraw this permission later, but must communicate the reasons for such withdrawal.

A broker must exercise due diligence before granting margin trading to any client. In particular, the broker must ensure that the client has obtained a Unique Identification Number (UIN) as required under the SEBI (Central Database of Market Participants) Regulations, 2003.

A client may obtain margin trading for buying securities from only one broker per exchange. To enforce this rule, every broker is required to (a) obtain from the client a declaration stating whether the client has already availed margin trading with any other broker on any exchange, or whether any previous request for margin trading was rejected; and, if either is true, to collect the other broker’s name and registration number, and (b) verify these details with the concerned broker(s).

If a client applying for margin trading has previously used that facility with another broker on the same exchange, the new broker must ensure the client has cleared all outstanding liabilities in the margin account with the earlier broker. The new broker should also obtain a written certificate from the earlier broker confirming that the outstanding has been liquidated.

Margin Trading: Benefits, Risks, Implementation

Margin trading has the potential to deepen activity on stock exchanges by increasing the supply of both securities and funds. By allowing investors to borrow to take positions, it can broaden participation, create a new revenue stream for brokers (bringing practices closer to international norms), and enable investors to make longer-term market calls. As a leverage mechanism, margin trading injects liquidity, enhances market depth and aids price discovery, thereby fostering greater integration between money and capital markets.

At the same time, leverage amplifies both gains and losses, and margin trading can therefore encourage excessive speculation if left unregulated. To mitigate these risks regulators must collect comprehensive data on margin activity, enforce robust oversight, and step up investor education so participants understand the potential losses and margin calls inherent in leveraged positions.

In practice, the formal Margin Trading scheme has failed to gain traction with many brokers because its norms are perceived as overly stringent. The rules prohibit accepting stock as collateral and require a 50 per cent initial margin to purchase a stock; these constraints have led most brokers to prefer arranging margin funding through NBFCs instead of using the exchange-sponsored route.

Secondary Market Dynamics After Reforms

Reforms since the 1990s aimed to widen and deepen India’s secondary market so that it could support a vibrant primary market. Evaluating their success requires examining four linked dimensions: volatility, liquidity, size and transaction costs. Each reflects how accessible, stable and efficient the market has become for investors and issuers.

Volatility measures how frequently and how sharply a stock’s price changes; high volatility raises perceived risk and deters long‑term investors. In India, volatility has been driven by a mix of information flows (and misinformation), trading practices, macroeconomic developments and global linkages. During 1998–99 and 1999–2000 the BSE Sensex and the S&P CNX Nifty showed high coefficients of variation, reflecting pronounced market swings. Contributing factors included the inclusion of over‑valued “new economy” stocks in indices, contagion from the NASDAQ technology crash, speculative practices such as the badla system, growth in day trading, and the behaviour of foreign institutional investors (FIIs) whose buy–sell patterns domestic investors often follow. Structural features—high volumes concentrated in a few participants, limited presence of long‑horizon institutional investors such as pension and hedge funds, and declining counter‑vailing forces from institutions like the erstwhile UTI—also reduced market depth and amplified swings.

Some regulatory changes curtailed volatility: the introduction of rolling settlement around 2000–02 helped restrict speculation and dampen price movements. Nonetheless volatility resurged in 2003–04 for several reasons. Political uncertainty after the 2004 general election triggered a steep one‑day fall on 17 May 2004, when trading was halted twice by index‑based circuit breakers and the market ended the day with an 11.1 per cent loss. External shocks—rising crude prices and fears of higher global rates—added to nervousness, while the Union Budget’s announcement of a new Securities Transaction Tax adversely affected sentiment. Growth in the futures and options (F&O) segment, particularly cash–futures arbitrage by FIIs and others near contract expiries, has tended to magnify movements in the cash market. Short selling, intra‑day short covering, rumours and speculative day trading likewise produce short bursts of volatility. Regulatory inaction or delayed communication has also had market consequences: uncertainty around participatory notes in January 2004, for instance, coincided with a sharp fall in the Sensex and a large erosion in market capitalisation. Global turmoil and commodity shocks produced another spike in volatility in 2008–09. To measure and communicate expectations of near‑term turbulence, exchanges and regulators have adopted tools such as scrip‑wise and index‑wise circuit filters, and India’s volatility gauge, the India VIX, which rose from 14.5 on 31 March 2015 to 16.6 on 31 March 2016, implying higher investor expectations of volatility.

Liquidity—the ease with which large trades can be executed without materially moving prices—is central to market development and price discovery. Foreign investors closely watch liquidity: deep, liquid markets attract FII flows, while illiquidity constrains raising capital and deters participation. Two common measures capture liquidity from different angles. The turnover ratio (total value of domestic shares traded divided by market capitalisation) gauges trading activity relative to market size; the value‑traded ratio (value of shares traded divided by GDP) measures trading relative to the economy. A market can be large but inactive (high market capitalisation, low turnover), or small but very liquid (high turnover, low value‑traded ratio), with different policy implications.

Post‑reform indicators show improved liquidity. The entry of the National Stock Exchange (NSE) in 1994 and its screen‑based trading quickly raised trading volumes: the all‑India turnover ratio climbed steeply, from around 21 in 1993–94 to about 409.3 in 2000–01, making it one of the world’s higher observed figures at the time. The value‑traded ratio rose as well—from 53.1 per cent in 2004–05 to 108.9 per cent in 2007–08—signalling greater trading relative to national output. Average daily turnover on the NSE and BSE exceeded USD 2 billion, reflecting growing liquidity, although India’s turnover ratio still lags many developed and emerging markets because trading remains concentrated in a small set of stocks and promoter holdings are often high.

Market size—measured by the market capitalisation ratio (market capitalisation divided by GDP)—captures the stock market’s role in mobilising capital and distributing risk. The early reform years saw volatility in this ratio: it rose from about 19.4 per cent in 1990–91 to 54.2 per cent in 1991–92, then fell to 30.6 per cent in 1992–93 as prices corrected. By 1999–2000 the ratio climbed again to 46.8 per cent but dropped to 27.2 per cent in 2000–01. Over the longer term market capitalisation more than doubled and the composition of listed firms shifted, with sectors such as IT, communications, pharmaceuticals and FMCG growing in importance. A notable milestone occurred in October 2006 when BSE’s market capitalisation briefly exceeded India’s GDP for that year.

Transaction costs have a direct bearing on market efficiency, volumes and volatility. These costs include explicit charges—brokerage, commissions, stamp duty and taxes—and implicit costs such as market impact (price deterioration when executing large orders), clearing and settlement frictions, bad deliveries and bid–ask spreads. In the 1980s and early 1990s transaction costs were high because paper share certificates invited delays, theft and bad deliveries; trading passed through multiple intermediaries; and there was little transparency or formal guarantees.

Reforms since November 1994 transformed the cost structure. Key changes included the establishment of the NSE and its electronic limit order book, the emergence of a nationwide market through VSATs and BOLT terminals, competitive pressure that reduced brokerage fees, the creation of a clearing corporation—the National Securities Clearing Corporation (NSCC)—to eliminate counterparty risk through margining and exposure limits, and the launch of a depository system in November 1996 that enabled large‑scale dematerialisation of shares. These reforms materially reduced both explicit and implicit costs. Researchers and official reports documented sharp declines: transaction costs fell from about 4.75 per cent in 1994 to 2.50 per cent in 1997 and to roughly 0.60 per cent by 1999. Impact cost—often used as a practical measure of liquidity—also improved; for example, the Economic Survey noted that impact cost for executing a large Nifty portfolio declined from 0.12 per cent in 2002 to 0.08 per cent in 2005.

Tax and levy changes have further altered transaction costs. The introduction of the Securities Transaction Tax (STT) changed the tax incidence on exchange trades, and from 1 July 2017 Goods and Services Tax (GST) also applied to securities transactions. Today an investor’s transaction cost typically comprises brokerage, STT, exchange clearing and transaction charges, stamp duty and GST components. By the mid‑2000s a representative round‑trip cost for a large trade was estimated at about 2.3 per cent—roughly 1 per cent brokerage, about 1 per cent impact cost, 0.25 per cent STT and small depository charges—bringing India closer to global benchmarks.

In sum, post‑reform India’s secondary market has become larger, more liquid and substantially cheaper to trade, while remaining sensitive to global shocks, episodic speculation and structural concentration. Continued regulatory vigilance, deeper participation by long‑term institutional investors and measures to broaden the range of tradable stocks would help further reduce volatility and improve market resilience.

Transformation and Outlook of Indian Equity Markets

Indian stock markets, with a history exceeding 140 years, have been transformed over the past decade by technology and regulatory reform. Electronic trading platforms, dematerialization of share certificates, the prohibition of the old carry‑forward "badla" system and the adoption of rolling settlement have together replaced slow, paper‑based processes with near‑instant trading and settlement. These changes—along with new trading systems, instruments, exchanges and market participants—have increased turnover and brought the Indian equity market to a level of technological sophistication comparable to many developed markets.

The establishment of the National Stock Exchange (NSE) marked a watershed in this evolution. In a relatively short time the NSE emerged as the market leader, while the 140‑year‑old Bombay Stock Exchange (BSE) ceded that position. Market consolidation points toward the likely dominance of these two national exchanges in the years ahead. At the same time, globalization means they will face growing international competition and must prepare to compete on a global stage.

To succeed, Indian exchanges need to deepen transparency, enforce corporate‑governance norms rigorously, expand investor‑focused value‑added services and strengthen measures that build market confidence. Strategic alliances with foreign exchanges can provide broader platforms and cross‑border access. Above all, a well‑developed and vibrant secondary market will act as the engine for revitalizing and sustaining primary‑market activity, supporting long‑term growth in India’s capital formation.