Here is a comprehensive study note for the AHSEC Class 12 Finance textbook, focusing on Chapter 12: Methods of Trading in a Stock Exchange.
Chapter 12: Methods of Trading in a Stock Exchange
Summary Note
This chapter explains the modern methods of trading securities on a stock exchange, focusing on the shift from physical to electronic trading, the settlement process, and the role of stock indices.
- Methods of Trading Stocks:
- Offline Stock Trading: The traditional method involving calling a broker to place a buy or sell order. It is more expensive due to commissions but offers personal advice.
- Online Stock Trading: The most popular modern method where traders use an electronic platform provided by an online broker to buy and sell stocks themselves. It is convenient, cost-effective, and provides real-time information.
- Day Trading: Buying and selling stocks within the same day to profit from small, short-term price movements.
- Swing Trading: Holding stocks for a few days or weeks to profit from short-to-medium term trends or “swings.”
- Position Trading: Holding stocks for weeks or months based on fundamental analysis and long-term market trends.
- Benefits of Online Stock Trading:
- Convenience: Trade from anywhere, anytime with an internet connection.
- Lower Costs: Fees and commissions are typically lower than traditional brokers.
- Real-Time Information: Access to live stock quotes, charts, and news.
- Increased Control: Traders can execute their trades quickly and directly.
- Liquidity: Connects a large number of participants, improving market liquidity.
- Steps in Trading and Settlement (Screen-Based Trading):
India follows a T+2 rolling settlement system, meaning trades are settled within two working days after the trade day. The process involves:- Selection of Broker: An investor chooses a registered broker and opens a trading account by signing a broker-client agreement.
- Opening Demat Account: The investor must open a Demat (Dematerialised) account with a Depository Participant (DP) to hold securities in electronic form. A bank account is also needed for cash transactions.
- Placing the Order: The investor places a clear order with the broker to buy or sell a specific number of shares at a specific price range.
- Matching the Order: The broker connects to the main stock exchange’s electronic system and matches the order with the best available price.
- Executing the Order: Once a match is found, the trade is executed electronically.
- Issue of Contract Note: The broker issues a contract note to the investor within 24 hours, detailing the trade.
- Pay-in Day: The investor delivers the sold shares or pays the cash for bought shares. This happens before the T+2 day.
- Pay-out Day: On the T+2 day, the exchange delivers the shares or makes payment to the other broker. The broker then makes the final payment to the investor within 24 hours.
- Delivery of Shares: The shares are delivered in Demat form directly to the investor’s Demat account.
- Stock Indices:
- Meaning: A stock index is a statistical measure that represents the performance of a group of stocks, acting as a barometer of market behaviour. It reflects the overall market direction and sentiment.
- Need for Indices:
- Sorting: Helps classify thousands of listed companies into manageable groups.
- Representation: Acts as a representative for the entire market or a specific sector.
- Comparison: Used as a benchmark to compare the performance of a stock or a portfolio.
- Reflection: Reflects the mood or sentiment of investors.
- Important Indian Indices:
- BSE Sensex: India’s oldest index (1986), comprising the top 30 largest and most frequently traded stocks on the Bombay Stock Exchange (BSE). It is also called the S&P BSE SENSEX.
- Nifty 50: An index comprising the top 50 largest and most frequently traded stocks on the National Stock Exchange (NSE).
- Some Key Terms:
- Investor vs. Trader: An investor holds stocks for the long term, while a trader buys and sells frequently for short-term profit.
- Demat: The process of converting physical share certificates into electronic form.
- Depository & Depository Participant (DP): A depository (like NSDL or CDSL) is an institution that holds securities electronically. A DP (like a bank or broker) is an agent of the depository that provides services to investors.
- Large Cap, Mid Cap, Small Cap: Classification of companies based on their market capitalization (Large: >₹20,000 cr, Mid: ₹5,000-20,000 cr, Small: <₹5,000 cr).
Complete Textual Question Answers
Here are the answers to all the questions given at the end of Chapter 12.
A. Very Short Answer Questions (1 Mark each)
- Who is an investor?
Ans: An investor is a participant in the stock market who identifies good companies and holds their stock for years, hoping that their value will increase over time. - Write the full form of DP.
Ans: The full form of DP is Depository Participant. - What is depository?
Ans: A depository is an institution or an organization which holds securities (e.g., shares, bonds, mutual funds) in electronic form on behalf of investors. - What is hedge?
Ans: A hedge is a strategy that seeks to limit risk exposure in financial assets, often by taking an offsetting position in a related security. - What is LARGECAP?
Ans: LARGECAP companies are those which have a market capitalization of more than Rupees 20,000 crores. - What is MIDCAP?
Ans: MIDCAP companies are those which have a market capitalization between Rupees 5,000 and 20,000 crores. - What is SMALLCAP?
Ans: SMALLCAP companies are those which have a market capitalization of less than Rupees 5,000 crores.
B. Short Answer Questions (2 Marks each)
- What is demat?
Ans: Demat is the short form of dematerialization. It is the process where securities held by an investor in physical form (paper certificates) are cancelled and the investor is given credit for the securities in an electronic account with a Depository Participant. - State any two methods of trading stock?
Ans: Two methods of trading stock are:
i. Offline Stock Trading: Involves calling a broker and placing an order to buy or sell stocks.
ii. Online Stock Trading: Involves using an electronic trading platform provided by an online broker to buy and sell stocks directly. - What is Offline trading of stock?
Ans: Offline stock trading is the traditional method of trading that involves calling a registered broker and placing a verbal order to buy or sell stocks. This method is typically more expensive due to brokerage commissions but offers personal advice. - What is Day trading?
Ans: Day trading involves buying and selling stocks within the same day, often within minutes or hours. Day traders aim to profit from small price movements and do not hold positions overnight. - What is Swing trading?
Ans: Swing trading involves holding stocks for a few days or weeks to profit from short-to-medium term price movements or “swings.” Swing traders use technical analysis and market trends to identify opportunities. - What is Position trading?
Ans: Position trading involves holding stocks for weeks or months. Position traders make their trading decisions based on fundamental analysis and long-term market trends, looking for stocks that are undervalued or overvalued. - What is Options trading?
Ans: Options trading involves buying and selling options contracts. These contracts give the trader the right, but not the obligation, to buy or sell a stock at a specific price (strike price) within a specific time frame. - What is Online trading of stock?
Ans: Online stock trading is the most popular method of trading today, where traders use an electronic platform provided by an online broker to buy and sell stocks. It provides real-time quotes, charts, and news, allowing for quick and cost-effective execution of trades. - State two benefits of online trading of securities.
Ans: Two benefits of online trading are:
i. Convenience: It allows traders to buy and sell stocks from anywhere, at any time, as long as they have an internet connection.
ii. Lower Costs: Online trading platforms typically have lower fees and commissions compared to traditional offline brokers. - Write any two steps in the trading and settlement procedures.
Ans: Two steps in the trading and settlement procedure are:
i. Selection of broker: The investor first approaches a registered broker and opens a trading account.
ii. Placing the order: The investor places a clear order with the broker to buy or sell a specific quantity of shares at a quoted price. - Give the meaning of Stock indices.
Ans: A stock market index is a barometer of market behaviour. It is a statistical measure that reflects the performance of a representative group of stocks, indicating the overall direction and sentiment of the market. - Write two global stock market indices.
Ans: Two global stock market indices are:
i. Dow Jones Industrial Average (USA)
ii. NASDAQ Composite index (USA) - Write two most important stock market indices in Indian market.
Ans: Two most important stock market indices in the Indian market are:
i. BSE Sensex
ii. NSE Nifty 50
C. Long Answer Questions (Type-1) (5 Marks each)
- Write any five methods of trading stock.
Ans: (Refer to the “Methods of Trading Stocks” section in the summary and explain five methods: Offline Trading, Online Trading, Day Trading, Swing Trading, and Position Trading). - What are the needs for stock indices?
Ans: (Refer to the “Need for Indices” section in the summary and explain the key needs: Sorting, Representation, Comparison, and Reflection of investor sentiment). - Write five benefits of online trading.
Ans: (Refer to the “Benefits of Online Stock Trading” section in the summary and explain five benefits: Convenience, Lower Costs, Real-Time Information, Efficiency of information, and Increased Control).
D. Long Answer Questions (Type-2) (8 Marks each)
- Explain the steps in the trading and settlement procedure.
Ans: (This answer requires a detailed, step-by-step explanation of the entire process as outlined in the summary. Describe each of the 10 steps, from selecting a broker and opening a Demat account to the final delivery of shares on the T+2 day). - What are Stock Indices? Explain the need for Indices.
Ans: (Combine the answers from B.11 and C.2. First, provide a detailed definition of a stock index, explaining what it measures and how it works. Then, elaborate on the various reasons why indices are needed, such as for sorting, representation, comparison (benchmarking), and reflecting market sentiment). - What is online trading of stock? Explain the benefits of online trading of stock.
Ans: (Combine the answers from B.8 and C.3. Start with a clear definition of online stock trading, explaining how it works through electronic platforms. Then, discuss its various benefits in detail, such as convenience, lower costs, real-time information, efficiency, increased control, and access to a variety of investment options).
Previous Year AHSEC Question Answers (2015-2025)
Short Questions (1-2 Marks)
- What is Demat? (AHSEC 2016)
Ans: Demat (Dematerialization) is the process of converting physical share certificates into an equivalent number of securities in electronic form, which are then credited to the investor’s account with a Depository Participant. - What is BSE Sensex? (AHSEC 2017)
Ans: The BSE Sensex is the benchmark stock market index of the Bombay Stock Exchange (BSE). It consists of the 30 largest, most liquid, and financially sound companies across key sectors of the Indian economy. - What is online trading? (AHSEC 2019)
Ans: Online trading is a method of buying and selling stocks using an electronic trading platform provided by an online broker over the internet. It allows traders to execute trades quickly and conveniently from anywhere. - What is Nifty 50? (AHSEC 2022)
Ans: The Nifty 50 is the benchmark stock market index of the National Stock Exchange (NSE). It represents the weighted average of the 50 largest and most liquid Indian companies.
Long Questions (5-8 Marks)
- Explain the procedure of trading on a stock exchange. (AHSEC 2018, 2021)
Ans: (This answer is the same as the textual Long Answer Question D.1. Please refer to that answer above, explaining the step-by-step process). - What are stock indices? Explain the need for stock indices in a stock market. (AHSEC 2020)
Ans: (This answer is the same as the textual Long Answer Question D.2. Please refer to that answer above).
10 Most Important Questions
- What is the T+2 settlement cycle?
Ans: T+2 settlement means that all trades executed on a stock exchange must be settled (i.e., payment made and securities delivered) within two business days following the transaction day. - What is the difference between a trading account and a Demat account?
Ans: A trading account is used to place buy and sell orders for securities on the stock exchange. A Demat account is used to hold the purchased securities in electronic (dematerialized) form. - Who is a Depository Participant (DP)? Give an example.
Ans: A Depository Participant (DP) is an agent of a depository (like NSDL or CDSL) that provides depository services to investors, such as opening and maintaining Demat accounts. Examples include banks (like HDFC Bank) and stockbrokers (like Zerodha). - What is the purpose of a ‘contract note’?
Ans: A contract note is a legal document that confirms a trade has been executed. It provides proof of the transaction and includes all details like the price, quantity, time of trade, and brokerage fees. - Why are stock indices like Sensex and Nifty important?
Ans: They are important because they act as a benchmark for the overall performance of the stock market and the economy. They help investors compare the performance of their own investments and gauge market sentiment. - Differentiate between Day Trading and Position Trading.
Ans: Day trading involves buying and selling stocks within the same day for quick, small profits. Position trading involves holding stocks for several weeks or months based on long-term fundamental analysis. - What is the main advantage of dematerialization of securities?
Ans: The main advantage is the elimination of risks associated with physical certificates, such as theft, forgery, and damage, and it allows for faster and more efficient trading and settlement. - What is market capitalization and how is it used to classify stocks?
Ans: Market capitalization is the total market value of a company’s outstanding shares (Share Price × Number of Shares). It is used to classify stocks into Large Cap, Mid Cap, and Small Cap, which helps investors understand the size and risk profile of a company. - What is the role of a broker in online trading?
Ans: In online trading, the broker provides the electronic trading platform, connects the trader to the stock exchange, executes the orders, and handles the back-end settlement process, including fund and security transfers. - What is ‘Pay-in’ and ‘Pay-out’ day?
Ans: ‘Pay-in’ is the day when the broker makes the payment or delivers the shares to the stock exchange for the trades executed. ‘Pay-out’ is the day (T+2) when the exchange makes the payment or delivers the shares to the counterparty broker.
