NISM Series VIII · Unit 7 of 10 · about 13% of the paper
Introduction to clearing and settlement system: NISM Series VIII notes and practice questions
After the trade comes the settlement. This unit covers clearing members, the clearing corporation, margins, daily MTM and final settlement.
What to know in Unit 7
- Roles of clearing corporation and clearing members.
- Margin types and collateral.
- Settlement of futures and options.
Key terms, examples and exam traps
Clearing corporation
The clearing corporation becomes the counterparty to every trade through novation, guaranteeing settlement and managing risk.
Example. After a trade, the buyer's counterparty is the clearing entity, not the seller.
Exam trap. This statement is false: The clearing corporation sets prices of contracts.
Novation
Novation replaces the original contract between buyer and seller with two contracts, each with the clearing corporation as counterparty.
Example. After matching, each side deals with the clearing corporation instead of the other party.
Exam trap. This statement is false: Novation cancels the trade.
Clearing member
A clearing member is authorised to clear and settle trades with the clearing corporation, for itself or for trading members.
Example. A firm that settles trades on behalf of other brokers with the clearing corporation.
Exam trap. This statement is false: A clearing member only advises clients.
Professional clearing member
A professional clearing member clears trades for others without being a trading member itself.
Example. An institution clears trades for several brokers but does not trade itself.
Exam trap. This statement is false: A professional clearing member is also a trading member always.
Self-clearing member
A self-clearing member is a trading member who also clears its own trades and its clients' trades.
Example. A broker that trades and clears by itself.
Exam trap. This statement is false: A self-clearing member relies on others to settle its trades.
Daily settlement price
The daily settlement price of futures is generally the closing price (average of the last half hour), and positions are marked against it.
Example. The price used to compute each day's profit or loss on futures.
Exam trap. This statement is false: The daily settlement price is the opening price.
Final settlement price
On expiry, the final settlement price of index futures is the closing value of the underlying index.
Example. Index futures are settled against the index close on the last day.
Exam trap. This statement is false: The final settlement price is the previous month's average.
Settlement of premium
Option premium is settled in cash on T+1; the buyer pays and the seller receives.
Example. The premium moves between accounts the day after the trade.
Exam trap. This statement is false: Premium is settled after expiry.
Settlement guarantee fund
The clearing corporation maintains a fund to cover member defaults, built from contributions of members and the corporation.
Example. A pool of money used if a member fails to meet obligations.
Exam trap. This statement is false: The fund is paid to investors as dividend.
Collateral for margin
Margin can be given in cash, bank guarantees, fixed deposit receipts or approved securities, subject to haircuts.
Example. A trader pledges approved shares instead of cash margin.
Exam trap. This statement is false: Only cash is accepted as margin.
Haircut
A haircut is a reduction applied to the value of collateral securities to protect against price falls.
Example. A pledged share valued at ₹100 is counted at ₹80 for margin.
Exam trap. This statement is false: A haircut increases the collateral value.
Mark-to-market margin
MTM margin is collected from members for the day's losses on open positions, to ensure daily settlement.
Example. A trader whose position fell during the day pays the difference.
Exam trap. This statement is false: MTM margin is collected only at expiry.
Peak margin
Peak margin rules require traders to maintain margin at the highest level of exposure during the day, not just at the end of the day.
Example. A trader must hold margin for the highest exposure taken at any time in the day.
Exam trap. This statement is false: Margin is checked only at the market close.
Extreme loss margin
Extreme loss margin covers losses beyond those captured by SPAN in highly adverse moves.
Example. A margin collected to cover extreme price moves.
Exam trap. This statement is false: Extreme loss margin is the same as premium.
Position squaring and exercise
A position can be closed by an opposite trade or held to expiry, when options are exercised or lapse and futures are settled.
Example. A trader ends an option position by selling it before expiry.
Exam trap. This statement is false: Positions cannot be closed before expiry.
Default handling
On a member's default, the clearing corporation uses the member's margins and deposits first, then other resources, to complete settlement.
Example. A defaulting member's deposits are used before other funds.
Exam trap. This statement is false: The investors' funds are used first for member defaults.
6 practice questions
Read each question and choose your answer before opening the free mock, which shows the correct answer and the reason.
Q1. Which term is described here? The clearing corporation maintains a fund to cover member defaults, built from contributions of members and the corporation.
- Settlement guarantee fund
- Leverage
- Settlement of stock options
- Self-clearing member
Q2. Which term is described here? A professional clearing member clears trades for others without being a trading member itself.
- Professional clearing member
- Forward contract
- Grievance redressal and arbitration
- Non-speculative business income
Q3. Which statement best describes “Haircut”?
- Implied volatility is the volatility the market's option prices imply for the underlying, derived from the option price.
- A covered call holds the underlying and sells a call against it, earning the premium but capping the upside.
- A haircut is a reduction applied to the value of collateral securities to protect against price falls.
- An exchange fixes the underlying, lot size, tick size, expiry cycle and settlement method for each derivatives contract.
Q4. Which term is described here? Novation replaces the original contract between buyer and seller with two contracts, each with the clearing corporation as counterparty.
- Vega
- Turnover for derivatives
- Novation
- Backwardation
Q5. Which term is described here? A self-clearing member is a trading member who also clears its own trades and its clients' trades.
- Surveillance
- Extreme loss margin
- Mark-to-market accounting
- Self-clearing member
Q6. Which term is described here? A clearing member is authorised to clear and settle trades with the clearing corporation, for itself or for trading members.
- Clearing member
- Minimum contract size
- Futures margin and leverage
- Exchange-traded derivative
Frequently asked questions
How much of NISM Series VIII comes from Unit 7?
Unit 7 (Introduction to clearing and settlement system) usually carries about 13% of the questions. The whole exam has 100 questions and the pass mark is 60%.
What should I study in NISM Series VIII Unit 7?
Roles of clearing corporation and clearing members. Margin types and collateral. Settlement of futures and options.
Are these NISM Series VIII practice questions free?
Yes. Take the full free mocks to see the correct answer and the reason for every question.
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