All You Need to Know About Sebi Proposals on Index Derivatives.

All You Need to Know About Sebi Proposals on Index Derivatives.

Decoding Sebi's Proposals to Curb Speculation in F&O.

                    The Securities and Exchange Board of India (Sebi) on Tuesday released a consultation paper on measures to strengthen the index derivatives (futures & options) framework. The objective of these proposed measures is to enhance investor protection and promote market stability in derivatives markets, while ensuring sustained capital formation. Here's all you need to know about what measures the Sebi has proposed, how these will impact derivatives (F&O) traders, and what experts opine on the same.

Rationalization of Strike Price for Options

Existing Practice: Nifty and Bank Nifty options strikes cover roughly 7-8 per cent of index movement on a given day, with additional strikes introduced if necessary. Nifty has a total of up to 70 options strikes, while Bank Nifty has around 90.

Proposed: Not more than 50 strikes to be introduced at the time of contract launch. Strike intervals to be uniform near the prevailing price (around 4 per cent) and may go up to 8 per cent if needed.

Upfront Collection of Options Premium

Existing Practice: There is a stipulation to collect margin for futures positions both on the long and sell side, and short positions in options. However, there is no stipulation for the upfront collection of options premium from options buyers.

Proposed: To collect option premiums on an upfront basis.

Removal of Calendar Spread Benefit on Expiry Day

Existing Practice: Calendar spread margin applies on expiry day for two F&O positions with different expiries, as opposed to two normal F&O positions. This helps in significantly reducing margin requirements.

Proposed: No calendar spread margin for contracts expiring on the same day.
Intraday Monitoring of Position Limits

Existing Practice: Limits are monitored at the end of the day by MIIs (Clearing Corporations/Stock Exchanges).

Proposed: Position limits for index derivatives to be monitored on an intraday basis, with an appropriate short-term fix, and a glide path for full implementation.

Minimum Contract Size

Existing Practice: Minimum contract size requirement of Rs 5 – Rs 10 lakh was set in 2015.

Proposed: In Phase 1, the minimum value at the time of contract introduction to be between Rs 15 – Rs 20 lakh. In Phase 2, after 6 months, implementation of a minimum contract size of Rs 20 – Rs 30 lakh is proposed.

Rationalization of Weekly Index Products

Existing Practice: Weekly expiry of index derivatives has resulted in one expiry every single day of the week across indices/exchanges.

Proposed: Weekly expiry for one benchmark index per exchange.

Increase in Margin Near Contract Expiry

Existing Practice: No additional margin is required in the last two trading days of the expiry.

Proposed: Additional 3 per cent Extreme Loss Margin (ELM) to be collected at the start of the penultimate day of the contract expiry. On the last day, ELM to be increased to 5 per cent.
Why Did Sebi Propose These Measures?

While releasing the consultation paper, Sebi chief Madhabi Puri Buch said an annual loss of Rs 50,000 – Rs 60,000 crore of household savings through derivatives trading is a macro concern. The same money could be deployed into IPOs, mutual funds, or other productive uses for the Indian economy. Sebi believes there is excessive speculative trading activity taking place in F&O.

NSE data shows that retail investors alone account for around 50 per cent of the trading volumes in index derivatives, leaving behind proprietorship traders, foreign investors, and domestic institutional investors. As per Sebi, the cumulative trading loss incurred by 9.25 million unique individuals and proprietorship traders in the index derivatives of NSE alone stood at Rs 51,689 crore in FY24.
What Happens Next?

With the publication of this consultation paper, Sebi has invited public comments and suggestions from other interested stakeholders along with supporting rationale through its web-based portal or alternatively via email, latest by August 20, 2024.
What Experts Have to Say?

Dhiraj Relli, MD & CEO of HDFC Securities, believes that the measures announced by Sebi are to control the exuberance in equity derivatives, and the proposal to rationalize weekly expiry shall impact trading volumes. “One of the proposals is to rationalize weekly expiry and restrict it to one per week on the benchmark index per exchange. This change will likely impact volumes, as the recent volumes in the equity derivatives segment have been driven by weekly expiries,” said Dhiraj Relli in a note.

These may not be the only interventions by the regulator. We may see more measures, including product suitability, customer-level certification, etc. With the realignment of exchange transaction charges, higher STT introduced in the budget, and the proposed regulatory framework, it is expected that there could be a rationalization in equity derivatives volumes, Dhiraj added.

Meanwhile, foreign investment firm Jefferies believes the Sebi proposals could see divergent impacts on market players, with exchanges and retail-focused brokers being most affected.

Sebi's proposed measures to curb speculation in F&O markets are aimed at ensuring greater market stability and investor protection. The rationalization of strike prices, upfront collection of options premium, removal of calendar spread benefits on expiry day, intraday monitoring of position limits, increase in minimum contract size, rationalization of weekly index products, and additional margin requirements near contract expiry are all significant changes. As stakeholders await further developments, the consultation process will be crucial in shaping the final framework.