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Informist, Tuesday, Oct. 1, 2024

 

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--SEBI releases circular on tightening of equity index derivative framework
--SEBI mandates upfront option premium collection from index option buyers
--SEBI removes calendar spread treatment on expiry day, effective Feb 1
--SEBI: Exchanges to monitor index F&O intraday position limits from Apr 1
--SEBI: Minimum index F&O contract size raised to INR 1.5 mln from Nov 20
--SEBI: Weekly expiry on only 1 benchmark index per bourse effective Nov 20
--SEBI: Only one weekly expiry on benchmark index allowed per exchange
--SEBI: 2?ditional extreme loss margin on short options on expiry day
--SEBI: Extra extreme loss margin on short options on expiry day from Nov 20
--SEBI: Upfront option premium from index option buyers from Feb 1

 

By Rajesh Gajra

 

MUMBAI – The Securities and Exchange Board of India Tuesday announced stringent conditions for exchanges, brokers, and traders on trading in equity index derivatives contracts. The measures were largely in line with proposals made by SEBI in the Jul. 30 consultation paper on steps to strengthen the index futures and options framework so as to increase investor protection and market stability.

 

Six major changes will take place in the index derivatives framework after SEBI's circular Tuesday. There will be weekly expiry in only one benchmark index per exchange, option premium will be collected upfront from index option buyers, and calendar spread treatment on expiry day will be removed. Further, stock exchanges will monitor intraday position limits in index futures and options, the contract size in index futures and options will be a minimum of INR 1.5 million, and there will be a 2?ditional extreme loss margin on short options on expiry day.

 

From Nov. 20 a stock exchange will not be permitted to offer weekly expiry contracts in more than one benchmark index. Currently, National Stock Exchange of India Ltd. offers weekly expiry in options contracts of Nifty 50, Nifty Bank, Nifty Financial Services, and Nifty Midcap Select indices, while BSE offers the same in the Sensex and the Bankex indices.

 

Weekly expiry in Nifty 50 options currently happens every Thursday, while that for BSE Sensex takes place every Friday. Weekly expiry of Nifty Midcap Select and BSE Bankex is Monday, of Nifty Financial Services is Tuesday, and that of Nifty Bank is Wednesday.

 

Informist had reported Sept. 5 quoting sources that the BSE is likely to retain weekly expiry on Sensex options contracts and NSE is likely to do the same on Nifty 50 options if SEBI decided to restrict weekly expiry to one benchmark index per exchange. This is because benchmark index typically refers to a broad-based index that is a good indicator of a major section of the equity market. Sensex, Nifty Bank, Nifty Financial Services, and Nifty Midcap indices are sectoral or thematic indices and not benchmarks for the equity market.

 

With SEBI issuing the circular Tuesday the NSE and BSE will have the choice of having weekly expiry contracts on their benchmark indices such as Nifty 50, Sensex, Nifty Next 50, Nifty 100, Nifty 200, Nifty 500, Sensex 50, BSE 100, BSE 200 and BSE 500 indices. The NSE recently launched monthly expiry contracts on Nifty Next 50 index. It did not get SEBI's approval to launch weekly expiry contracts on this index.

 

With the new curbs on weekly expiry in index options taking effect from Nov. 20, many equity F&O traders indicated on social media Tuesday that trading volume will be hit severely from mid-Nov onwards. Most F&O traders believe that having a weekly expiry on index options every day of the week allows them to do zero-day to expiry trades which carry relative lower risks and better utilisation of capital as compared to keeping a position overnight or for more than two trading days.

 

However, SEBI is of the view that large open interest and hyperactive trading activity was taking place close to expiry, and if an extreme black swan event were to occur minutes before expiry the potential stress to the ecosystem with those that are short options rushing to hedge in cash, futures, and options markets can be immense. This could potentially destabilise the market despite existing safety buffers in terms of margins and default management waterfalls being in place.

 

F&O traders will also see the benefit of offsetting positions across different expiries, called as calendar spread, being taken away from them on expiry days from Feb 1, according to the SEBI circular. The market regulator justifies this removal on the ground that basis risk on expiry day can move very differently from the value of similar contracts expiring in futures. Added to this, according to SEBI, is the fact that there is relatively very large volume on the expiry day as against future expiry days. The calendar spread removal will only be limited to expiry day contracts and the existing margin calculations for calendar spread positions will continue as currently for positions involving all expiries other than the contracts expiring on a given day, SEBI said in Tuesday's circular.

 

Another major change from SEBI's circular pertains to contract size for index derivatives. Currently, index futures and options contracts have a value between INR 500,000 and INR 1 million, and this limit was set in 2015. From Nov. 20 the minimum contract size requirement will be between INR 1.5 million and INR 2 million. "Given the inherent leverage and higher risk in derivatives, this recalibration in minimum contract size, in tune with the growth in the market, would ensure that an inbuilt suitability and appropriateness criteria for participant is maintained as intended," SEBI said in the circular.

 

In a relaxation from the proposal in the consultation paper, SEBI decided to impose an additional extreme loss margin of 2% on all open short options at the start of an expiry day. This will be applicable from Nov. 20.

 

In the Jul 30 consultation paper, SEBI had proposed that the extreme loss margin be increased by 3% at the start of the day prior to the expiry, and at the start of expiry day it be further increased by 5%. SEBI had argued in the consultation paper that trading activity, quantum of open positions, and volatility increased around expiry, but the increased risk was not accounted for in the margin. It said "near expiry the premium traded decreases, thereby creating higher risk on notional basis for entities dealing in options and additional buffers are required." However, with the increase in extreme loss margin being limited to 2% as per Tuesday's circular, the cost of trading will not rise substantially for the futures and options traders.

 

On Tuesday, SEBI also decided to make it compulsory for stock exchanges to collect options premium upfront from options buyers from Feb. 1. The market regulator believes this necessary to discourage undue intraday leverage to the trader, and taking of positions beyond the collateral with the trader.

 

From Apr. 1, SEBI wants stock exchanges to monitor intraday positions. The market regulator believes the benefit of this will be felt on expiry days when "amidst the large volumes of trading… there is a possibility of undetected intraday positions beyond permissible limits." For intraday surveillance, the stock exchange will take minimum four snapshots of open positions during the day at random times but within pre-defined time windows.  End

 

Edited by Deepshikha Bhardwaj

 

 

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