Derivatives

The term "Derivative" indicates that it has no independent value, i.e. its value is entirely "derived" from
the value of the underlying asset. The underlying asset can be securities, commodities, bullion, currency,
live stock or anything else. In other words, Derivative means a forward, future, option or any other hybrid
contract of pre determined fixed duration, linked for the purpose of contract fulfilment to the value of a
specified real or financial asset or to an index of securities.
Derivatives in mathematics, means a variable derived from another variable. Similarly in the financial
sense, a derivative is a financial product, which has been derived from a market for another product.
Without the underlying product, derivatives do not have any independent existence in the market.
Derivatives have come into existence because of the existence of risks in business. Thus derivatives are
means of managing risks. The parties managing risks in the market are known as HEDGERS. Some
people/organisations are in the business of taking risks to earn profits. Such entities represent the
SPECULATORS. The third player in the market, known as the ARBITRAGERS take advantage of the
market mistakes.
The need for a derivatives market
The derivatives market performs a number of economic functions:
1. They help in transferring risks from risk averse people to risk oriented people.
2. They help in the discovery of future as well as current prices.
3. They catalyze entrepreneurial activity.
4. They increase the volume traded in markets because of participation of risk-averse people in
greater numbers.
5. They increase savings and investment in the long run.
Factors driving the growth of financial derivatives
1. Increased volatility in asset prices in financial markets,
2. Increased integration of national financial markets with the international markets,
3. Marked improvement in communication facilities and sharp decline in their costs,
4. Development of more sophisticated risk management tools, providing economic agents a wider
choice of risk management strategies, and
5. Innovations in the derivatives markets, which optimally combine the risks and returns over a
large number of financial assets leading to higher returns, reduced risk as well as transactions
costs as compared to individual financial assets.
A derivative is a financial instrument whose value depends on the value of other, more basic underlying
variables.
The main instruments under the derivative are:
1. Forward contract
2. Future contract
3. Options
4. Swaps
1. Forward Contract:
A forward contract is a particularly simple derivative. It is an agreement to buy or sell an asset at a certain
future time for a certain price. The contract is usually between two financial institutions or between a
financial institution and one of its corporate clients. It is not normally traded on an exchange.
One of the parties to a forward contract assumes a long position and agrees to buy the underlying asset on
a specified future date for a certain specified price. The other party assumes a position and agrees to sell
the asset on the same date for the same price. The specified price in a forward contract will be referred to
as delivery price. The forward contract is settled at maturity. The holder of the short position delivers the
asset to the holder of the long position in return for a cash amount equal to the delivery price. A forward
contract is worth zero when it is first entered into. Later it can have position or negative value, depending
on movements in the price of the asset.
2. Futures Contract:
A futures contract is an agreement between two parties to buy or sell an asset at a certain time in the
future for a certain price. Unlike forward contracts, futures contract are normally traded on an exchange.
To make trading possible, the exchange specifies certain standardized features of the contract. As the two
parties to the contract do not necessarily know each other, the exchange also provides a mechanism,
which gives the two parties a guarantee that the contract will be honoured.
One way in which futures contract is different from a forward contract is that an exact delivery date is not
specified. The contract is referred to by its delivery month, and the exchange specifies the period during
the month when delivery must be made.
3. Options:
An option is a contract, which gives the buyer the right, but not the obligation, to buy or sell specified
quantity of the underlying assets, at a specific (strike) price on or before a specified time (expiration date).
The underlying may be commodities like wheat/rice/ cotton/ gold/ oil/ or financial instruments like equity
stocks/ stock index/ bonds etc.
There are basic two types of options. A call options gives the holder the right to buy the underlying asset
by a certain date for a certain price. A put option gives the holder the right to sell the underlying asset by
a certain date for a certain price.
4. Swaps:
Swaps are private agreements between two companies to exchange cash flows in the future according to a
prearranged formula. They can be regarded as portfolios of forward contracts.
5. Warrants:
Options generally have lives of upto one year, the majority of options traded on options exchanges having
a maximum maturity of nine months. Longer-dated options are called warrants and are generally traded
over-the-counter.
6. LEAPS:
The acronym LEAPS means Long-Term Equity Anticipation Securities. These are options having a
maturity of up to three years.
7. Baskets: Basket options are options on portfolios of underlying assets. The underlying asset is usually
a moving average or a basket of assets. Equity index options are a form of basket options.
Types of Traders in Derivatives Market:

1. Hedgers
Hedgers are interested in reducing a risk that they already face. The purpose of hedging is to make the
outcome more certain. It does not necessarily improve the outcome.
2. Speculators
Whereas hedgers want to eliminate an exposure to movements in the price of assets, speculators wish to
take a position in the market. Either they are betting that a price will go up or they are betting that it will
go down. Speculating using futures market provides an investor with a much higher level of leverage than
speculating using spot market. Options also give extra leverage.

3. Arbitrageurs
They are a third important group of participants in derivatives market. Arbitrage involves locking in a
riskless profit by entering simultaneously into transactions in two or more markets. Arbitrage is
sometimes possible when the futures price of an asset gets out of line with its cash price.

Bonds and Debentures
A debenture is a debt security issued by a corporation that is not secured by specific assets, but rather by
the general credit of the corporation. Stated assets secure a corporate bond, unlike a debenture, but in
India these are used interchangeably.

Bonds are lOUs between a borrower and a lender. The borrowers include public financial institutions and
corporations. The lender is the bond fund, or an investor when an individual buys a bond. In return for the
loan, the issuer of the bond agrees to pay a specified rate of interest over a specified period of time.
Typically bonds are issued by PSUs, public financial institutions and corporates. Another distinction is
SLR (Statutory liquidity ratio) and non-SLR bonds. SLR bonds are those bonds which are approved
securities by RBI which fall under the SLR limits of banks.
Bonds and Debentures are debt instruments which guarantee to repay the principal of the loan
plus interest to the bondholder. They are considered to be long-term debt and have to be paid back by
their maturity date.
They are considerably safe investment instruments, especially if you're going to stay with high-
quality lenders, whether it's big corporations or the government. Investing in bonds and debentures is
advisable for investors who have a very low risk appetite. They offer a fixed rate of return on maturity
and are independent of market fluctuations.
SRE deals with all kinds of bonds and debentures such as Rural Electrification Corporation Bonds,
National Highway Authority of India Bonds and Non-Convertible Debentures etc. The experts in SRE
also provide guidelines to invest in bonds and debentures, catering to our client's requirements and
attitude towards investing.

A debenture is a document that either creates a debt or acknowledges it, and it is a debt without
collateral. In corporate finance, the term is used for a medium- to long-term debt instrument used by large
companies to borrow money. In some countries the term is used interchangeably with bond, loan stock or
note. A debenture is thus like a certificate of loan or a loan bond evidencing the fact that the company is
liable to pay a specified amount with interest and although the money raised by the debentures becomes a
part of the company's capital structure, it does not become share capital.[1] Senior debentures get paid
before subordinate debentures, and there are varying rates of risk and payoff for these categories.
Debentures are generally freely transferable by the debenture holder. Debenture holders have no rights to
vote in the company's general meetings of shareholders, but they may have separate meetings or votes e.g.
on changes to the rights attached to the debentures. The interest paid to them is a charge against profit in
the company's financial statements

In finance, a bond is an instrument of indebtedness of the bond issuer to the holders. It is a debt
security, under which the issuer owes the holders a debt and, depending on the terms of the bond, is
obliged to pay them interest (the coupon) or to repay the principal at a later date, termed the maturity.[1]
Interest is usually payable at fixed intervals (semiannual, annual, sometimes monthly). Very often the
bond is negotiable, i.e. the ownership of the instrument can be transferred in the secondary market.[2]
Thus a bond is a form of loan or IOU: the holder of the bond is the lender (creditor), the issuer of
the bond is the borrower (debtor), and the coupon is the interest. Bonds provide the borrower with
external funds to finance long-term investments, or, in the case of government bonds, to finance current
expenditure. Certificates of deposit (CDs) or short term commercial paper are considered to be money
market instruments and not bonds: the main difference is in the length of the term of the instrument.
Bonds and stocks are both securities, but the major difference between the two is that (capital)
stockholders have an equity stake in the company (i.e. they are owners), whereas bondholders have a
creditor stake in the company (i.e. they are lenders). Another difference is that bonds usually have a
defined term, or maturity, after which the bond is redeemed, whereas stocks may be outstanding
indefinitely. An exception is an irredeemable bond, such as Consols, which is a perpetuity, i.e. a bond
with no maturity
Importance of Derivatives Instruments
Derivatives are becoming increasingly important in world markets as a tool for risk management.
Derivatives instruments can be used to minimise risk. Derivatives are used to separate the risks and
transfer them to parties willing to bear these risks. The kind of hedging that can be obtained by using
derivatives in cheaper and more convenient than what could be obtained by using cash instruments. It is
so because, when we use derivatives for hedging, actual delivery of the underlying asset is not at all
essential for settlement purposes. The profit or loss on derivatives deal alone is adjusted in the derivative
market.

Moreover, derivatives do not create any new risk. They simply manipulate risks and transfer them
to those who are willing to bear these risks. To cite a common example, let us assume that Mr. X owns a
car. If he does not take an insurance, he runs a big risk. Suppose he buys an insurance, (a derivative
instrument on the car) he reduces his risk. Thus, having an insurance policy reduces the risk of owing a
car. Similarly, hedging through derivatives reduces the risk of owning a specified asset which may be a
share, currency etc.

Hedging risk through derivatives is not similar to speculation. The gain or loss on a derivative
deal is likely to be offset by an equivalent loss or gain in the values of underlying assets. Offsetting of
risk in an important property of hedging transactions. But, in speculation one deliberately takes up a risk
openly. When companies know well that they have to face risk in possessing assets, it is better to transfer
these risks to those who are ready to bear them. So, they have to necessarily go for derivative instruments.

All derivative instruments are very simple to operate. Treasury managers and portfolio managers
can hedge all risks without going through the tedious process of hedging each day and amount/share
separately.

Till recently, it may not have been possible for companies to hedge their long term risk, say 10-15
year risk. But with the rapid development of the derivative markets, now, it is possible to cover such risks
through derivative instruments like swap. Thus, the availability of advanced derivatives market enables
companies to concentrate on those management decisions other than funding decisions.

Further, all derivative products are low cost products. Companies can hedge a substantial portion
of their balance sheet exposure, with a low margin requirement.

Derivatives also offer high liquidity. Just as derivatives can be contracted easily, it is also
possible for companies to get out of position in case that market reacts otherwise. This also does not
involve much cost.

Thus, derivatives are not only desirable but also necessary to hedge the complex exposures and volatilities
that the companies generally face in the financial markets today.



Stock market is something which you cannot predict what is going to happen in the market tomorrow
without proper analyzes of market. So, it is always preferable to go for some professional help if you wish
to invest in the Indian stock market. You should also be acquainted with the concept of NSE and BSE.
Here we will discuss the difference between NSE and BSE.

What Is NSE?

National Stock Exchange of India or in short NSE happens to be Indias largest Stock Exchange and
Worlds third largest stock exchange in terms of transactions. It is located in Mumbai and was
incorporated in November 1992 as a tax-paying company. It was in April 1993 that NSE was recognized
as stock exchange under the Securities Contract Act 1956.

Objectives
The main objective behind NSE is to establish trading facility nationwide for all types of securities. It also
ensures equal access to all investors in the country through the process of an appropriate
telecommunication network. NSE was able to achieve its objectives within a very short span of time. NSE
has national reach to major market segments like equity or capital markets, futures and options or
derivatives market, wholesale debt market, mutual funds, initial public offerings and so on. There is also a
concept of day trading which suits well for short term investments. But there are investors who think that
this type of trading is quite risky.

About BSE

BSE or Bombay Stock Exchange is the oldest stock exchange in Asia that was established in 1875.
Whats more, it is also the biggest stock exchange in the world. BSE is located at Dalal Street, Mumbai.

Bombay Stock Exchange and National Stock Exchange are both major stock exchange in India. But there
is a difference between NSE and BSE. Investors put their money in the stock market in order to reap huge
benefits from their investment. But nobody can predict the market as we have already discussed. Also any
stock market is decided by its countrys growth. But you should be aware that it requires a lot of patience.
The market tumbles down and this is the reason why investors fear of investing their money.
Over-the-Counter
OTC. A security which is not traded on an exchange, usually due to an inability to meet listing
requirements. For such securities, broker/dealers negotiate directly with one another over computer
networks and by phone, and their activities are monitored by the NASD. OTC stocks are usually very
risky since they are the stocks that are not considered large or stable enough to trade on a major exchange.
They also tend to trade infrequently, making the bid-ask spread larger. Also, research about these stocks
is more difficult to obtain. also called unlisted.
2. The computer and phone system through which over the counter (as well as listed) securities are traded.
VOLATILITY
Volatility of a stock price is a measure of how uncertain we are about future stock price movements. As
volatility increases, the chance that the stock will do very well or very poorly increases. For the owner of
the stock, these two outcomes tend to offset each other. However, this is not so for the owner of a call or
put. The owner of the call option benfits from price increases but has limited downside risk in the event of
price decreases since the most that he or she can lose is the price of the option. Similarly, the owner of a
put benefits from price decreases but has limited downside risk in the event of price increases. The values
of both calls and puts therefore increase as volatility increases.
Different types of market
Introduction - Types Of Financial Markets And Their Roles
A financial market is a broad term describing any marketplace where buyers and sellers participate in the
trade of assets such as equities, bonds, currencies and derivatives. Financial markets are typically defined
by having transparent pricing, basic regulations on trading, costs and fees, and market forces determining
the prices of securities that trade.
Financial markets can be found in nearly every nation in the world. Some are very small, with only a few
participants, while others - like the New York Stock Exchange (NYSE) and the forex markets - trade
trillions of dollars daily.
Investors have access to a large number of financial markets and exchanges representing a vast array of
financial products. Some of these markets have always been open to private investors; others remained
the exclusive domain of major international banks and financial professionals until the very end of the
twentieth century.
Capital Markets
A capital market is one in which individuals and institutions trade financial securities. Organizations and
institutions in the public and private sectors also often sell securities on the capital markets in order to
raise funds. Thus, this type of market is composed of both the primary and secondary markets.
Any government or corporation requires capital (funds) to finance its operations and to engage in its own
long-term investments. To do this, a company raises money through the sale of securities - stocks and
bonds in the company's name. These are bought and sold in the capital markets.
Stock Markets
Stock markets allow investors to buy and sell shares in publicly traded companies. They are one of the
most vital areas of a market economy as they provide companies with access to capital and investors with
a slice of ownership in the company and the potential of gains based on the company's future
performance.
This market can be split into two main sections: the primary market and the secondary market. The
primary market is where new issues are first offered, with any subsequent trading going on in the
secondary market.
Bond Markets
A bond is a debt investment in which an investor loans money to an entity (corporate or governmental),
which borrows the funds for a defined period of time at a fixed interest rate. Bonds are used by
companies, municipalities, states and U.S. and foreign governments to finance a variety of projects and
activities. Bonds can be bought and sold by investors on credit markets around the world. This market is
alternatively referred to as the debt, credit or fixed-income market. It is much larger in nominal terms that
the world's stock markets. The main categories of bonds are corporate bonds, municipal bonds, and U.S.
Treasury bonds, notes and bills, which are collectively referred to as simply "Treasuries." (For more, see
the Bond Basics Tutorial.)
Money Market
The money market is a segment of the financial market in which financial instruments with high liquidity
and very short maturities are traded. The money market is used by participants as a means for borrowing
and lending in the short term, from several days to just under a year. Money market securities consist of
negotiable certificates of deposit (CDs), banker's acceptances, U.S. Treasury bills, commercial paper,
municipal notes, eurodollars, federal funds and repurchase agreements (repos). Money market
investments are also called cash investments because of their short maturities.
The money market is used by a wide array of participants, from a company raising money by selling
commercial paper into the market to an investor purchasing CDs as a safe place to park money in the
short term. The money market is typically seen as a safe place to put money due the highly liquid nature
of the securities and short maturities. Because they are extremely conservative, money market securities
offer significantly lower returns than most other securities. However, there are risks in the money market
that any investor needs to be aware of, including the risk of default on securities such as commercial
paper. (To learn more, read our Money Market Tutorial.)
Cash or Spot Market
Investing in the cash or "spot" market is highly sophisticated, with opportunities for both big losses and
big gains. In the cash market, goods are sold for cash and are delivered immediately. By the same token,
contracts bought and sold on the spot market are immediately effective. Prices are settled in cash "on the
spot" at current market prices. This is notably different from other markets, in which trades are
determined at forward prices.
The cash market is complex and delicate, and generally not suitable for inexperienced traders. The cash
markets tend to be dominated by so-called institutional market players such as hedge funds, limited
partnerships and corporate investors. The very nature of the products traded requires access to far-
reaching, detailed information and a high level of macroeconomic analysis and trading skills.
Derivatives Markets
The derivative is named so for a reason: its value is derived from its underlying asset or assets. A
derivative is a contract, but in this case the contract price is determined by the market price of the core
asset. If that sounds complicated, it's because it is. The derivatives market adds yet another layer of
complexity and is therefore not ideal for inexperienced traders looking to speculate. However, it can be
used quite effectively as part of a risk management program. (To get to know derivatives, read The
Barnyard Basics Of Derivatives.)
Examples of common derivatives are forwards, futures, options, swaps and contracts-for-difference
(CFDs). Not only are these instruments complex but so too are the strategies deployed by this market's
participants. There are also many derivatives, structured products and collateralized obligations available,
mainly in the over-the-counter (non-exchange) market, that professional investors, institutions and hedge
fund managers use to varying degrees but that play an insignificant role in private investing.
Forex and the Interbank Market
The interbank market is the financial system and trading of currencies among banks and financial
institutions, excluding retail investors and smaller trading parties. While some interbank trading is
performed by banks on behalf of large customers, most interbank trading takes place from the banks' own
accounts.
The forex market is where currencies are traded. The forex market is the largest, most liquid market in the
world with an average traded value that exceeds $1.9 trillion per day and includes all of the currencies in
the world. The forex is the largest market in the world in terms of the total cash value traded, and any
person, firm or country may participate in this market.

There is no central marketplace for currency exchange; trade is conducted over the counter. The forex
market is open 24 hours a day, five days a week and currencies are traded worldwide among the major
financial centers of London, New York, Tokyo, Zrich, Frankfurt, Hong Kong, Singapore, Paris and
Sydney.
Until recently, forex trading in the currency market had largely been the domain of large financial
institutions, corporations, central banks, hedge funds and extremely wealthy individuals. The emergence
of the internet has changed all of this, and now it is possible for average investors to buy and sell
currencies easily with the click of a mouse through online brokerage accounts. (For further reading, see
The Foreign Exchange Interbank Market.)
Primary Markets vs. Secondary Markets
A primary market issues new securities on an exchange. Companies, governments and other groups
obtain financing through debt or equity based securities. Primary markets, also known as "new issue
markets," are facilitated by underwriting groups, which consist of investment banks that will set a
beginning price range for a given security and then oversee its sale directly to investors.
The primary markets are where investors have their first chance to participate in a new security issuance.
The issuing company or group receives cash proceeds from the sale, which is then used to fund operations
or expand the business. (For more on the primary market, see our IPO Basics Tutorial.)
The secondary market is where investors purchase securities or assets from other investors, rather than
from issuing companies themselves. The Securities and Exchange Commission (SEC) registers securities
prior to their primary issuance, then they start trading in the secondary market on the New York Stock
Exchange, Nasdaq or other venue where the securities have been accepted for listing and trading. (To
learn more about the primary and secondary market, read Markets Demystified.)
The secondary market is where the bulk of exchange trading occurs each day. Primary markets can see
increased volatility over secondary markets because it is difficult to accurately gauge investor demand for
a new security until several days of trading have occurred. In the primary market, prices are often set
beforehand, whereas in the secondary market only basic forces like supply and demand determine the
price of the security.
Secondary markets exist for other securities as well, such as when funds, investment banks or entities
such as Fannie Mae purchase mortgages from issuing lenders. In any secondary market trade, the cash
proceeds go to an investor rather than to the underlying company/entity directly. (To learn more about
primary and secondary markets, read A Look at Primary and Secondary Markets.)
A mutual fund is a type of professionally managed collective investment vehicle that pools money from
many investors to purchase securities.[1] While there is no legal definition of the term "mutual fund", it is
most commonly applied only to those collective investment vehicles that are regulated and sold to the
general public. They are sometimes referred to as "investment companies" or "registered investment
companies." Most mutual funds are "open-ended," meaning investors can buy or sell shares of the fund at
any time. Hedge funds are not considered a type of mutual fund.
SEBI
The Securities and Exchange Board of India (frequently abbreviated SEBI) is the regulator for the
securities market in India. It was established on 12 April 1992 through the SEBI Act, 1992.[1]
What are the main objectives of SEBI?
(1) Regulation of Stock Exchanges:
The first objective of SEBI is to regulate stock exchanges so that efficient services may be provided to all
the parties operating there.
(2) Protection to the Investors:
The capital market is meaningless in the absence of the investors. Therefore, it is important to protect the
interests of the investors.
The protection of the interests of the investors means protecting them from the wrong information given
by the companies in their prospectus, reducing the risk of delivery and payment, etc. Hence, the foremost
objective of the SEBI is to provide security to the investors.
(3) Checking the Insider Trading:
Insider trading means the buying and selling of securities by those peoples directors Promoters, etc. who
have some secret information about the company and who wish to take advantage of this secret
information.
This hurts the interests of the general investors. It was very essential to check this tendency. Many steps
have been taken to check inside trading through the medium of the SEBI.
(4) Control over Brokers:
It is important to keep an eye on the activities of the brokers and other middlemen in order to control the
capital market. To have a control over them, it was necessary to establish the SEBI
SEBI is the primary governing/regulatory body for the securities market in India. All transactions in the
securities market in India are governed & regulated by SEBI.
The SEBI Governs the following
1. New Issues (Initial Public Offering or IPO)
2. Listing agreement of companies with Stock Exchanges
3. Trading Mechanisms
4. Investor Protection
5. Corporate disclosure by listed companies etc.
The SEBI is headquartered in Mumbai, India and has regional offices in the 4 metros.
The reason for creation of SEBI is to take care of these three group of people.
1. The Issuers of Securities (The companies)
2. The Investors (Us)
3. The Market Intermediaries (The brokers, DEMAT providers etc)
Initial public offering
An initial public offering (IPO) or stock market launch is a type of public offering where shares of stock
in a company are sold to the general public, on a securities exchange, for the first time. Through this
process, a private company transforms into a public company. Initial public offerings are used by
companies to raise expansion capital, to possibly monetize the investments of early private investors, and
to become publicly traded enterprises. A company selling shares is never required to repay the capital to
its public investors. After the IPO, when shares trade freely in the open market, money passes between
public investors. Although an IPO offers many advantages, there are also significant disadvantages. Chief
among these are the costs associated with the process, and the requirement to disclose certain information
that could prove helpful to competitors, or create difficulties with vendors. Details of the proposed
offering are disclosed to potential purchasers in the form of a lengthy document known as a prospectus.
Most companies undertaking an IPO do so with the assistance of an investment banking firm acting in the
capacity of an underwriter. Underwriters provide a valuable service, which includes help with correctly
assessing the value of shares (share price), and establishing a public market for shares (initial sale).
Alternative methods such as the dutch auction have also been explored. In terms of size and public
participation, the most notable example of this method is the Google IPO.[1] China has recently emerged
as a major IPO market, with several of the largest IPOs taking place in that country.
The first sale of stock by a private company to the public. IPOs are often issued by smaller, younger
companies seeking the capital to expand, but can also be done by large privately owned companies
looking to become publicly traded.
In an IPO, the issuer obtains the assistance of an underwriting firm, which helps it determine what type of
security to issue (common or preferred), the best offering price and the time to bring it to market.
Also referred to as a "public offering.

Why do companies list on the Stock Exchange?
The traditional answer is that private companies list on the Stock Exchange to raise capital and to provide
a market in their shares. The owners give up part of their ownership in the company, and in return receive
money to develop the business.
But within that general explanation there are lots of subtleties:
A large family-controlled company may go public because its shares are split between hundreds of family
members and there is internal pressure to provide a market which will allow them to cash in on their
holdings.
A company whose shares are already quoted may decide to spin off a division and list it separately
because the market is confused by having the two divisions together (e.g. Dixons' decision to float
Freeserve).
A new technology company may list on OFEX because that particular market is suited to speculative
ventures with no track record, and finance is not available anywhere else.
A state-owned company may be privatised by the government because it has a political agenda to widen
share ownership.
An entrepreneur with a City following may list on the Alternative Investment Market (AIM) with a view
to using the new company's highly rated 'paper' (i.e. shares) as a currency for acquiring other companies.
An internet company may list because the mere act of listing provides it with valuable free publicity (e.g.
internet companies found this useful in 1999 and early 2000).
Three Golden rules of accounting
Golden Rules of Accounting is:
Real Accounting:
Dr - what comes in
Cr - what goes out
Example: Cash/Bank, Rent
Personal Accounting:
Debit is the receiver
Credit is the giver
Example: Vendor, Customer
Nominal Accounting:
all gains and income are credit
all losses and expenses are Debit
Example: Sales, Purchases
Real Account : Debit what comes in
Credit what goes out
Nominal Account : Debit all expenses and losses
Credit all incomes and gains
Personal Account : Debit the giver
Credit the received
Real Account : Debit what comes in
Credit what goes out
Nominal Account : Debit all expenses and losses
Credit all incomes and gains
Personal Account : Debit the Receiver
Credit the giver
Type of accounts are classified into three categories :
Personal accounts : The personal accounts are again
classified into Personal and impersonal accounts
Personal accounts : In which the transactions directly indicate the natural persons. Eg. Ram,
sharmaImpersonal accounts : In which the transactions indirectly indicate the artifical persons created by
the law. ICICI BANk
Debit the receiver Credit the giver
Real accounts : For general operating of the firm, it requires some assets like fixed assets and current
assets. These types of assets are classified under this head. Eg. furniture, fixtures,inventory
What comes in Debit, What goes out is Credit
Nominal accounts : The expenes incurred for the operating of the firm, will be classified under this head.
Eg. Wages, Salaries(denpending on the transactions)
All expenses and losses debit , All incomes and gains credit
lAll the accounts(A/Cs) are divided into three classes :-
1. PERSONA A/Cs : deal with, indivduals, forms, companies and corporations.
2. REAL A/Cs : deal with assets which can be seen, tiuchesd or felt through and includes invisible
"goodwill".
3, NOMINAL A/Cs : deal wit expenses and losses; and incomes and gains.
THE RULES FOR 'DEBIT' AND 'CREDIT' are :-
Personal A/cs "debit" the receiver and "credit" the giver,
Real a/cs .. "debit" what comes in and "credit" what goes out.
Nominal a/cs.. "debit" expenese and losses aand "credit" incomes and gains,