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Informist, Tuesday, Mar. 18, 2025

 

NEW DELHI – The Futures Industry Association has suggested to the Securities and Exchange Board of India that existing non-benchmark indices such as Nifty Bank and BSE Bankex, on which equity derivatives contracts are already available, be exempt from a recent proposal that would restrict the availability if certain additional criteria are not met. SEBI had proposed in its Feb. 24 consultation paper on equity derivatives that derivatives on a non-benchmark index should be introduced only if it has a minimum of 14 constituents, the top constituent's weight is below 20%, the combined weight of the top three constituents is below 45%, and if weights follow a descending weight structure.

 

The association, which represents interests of futures, options and centrally cleared derivatives markets across the world, and has offices in Brussels, London, Singapore and Washington, D.C, wrote to SEBI Thursday giving its feedback on the Feb. 24 paper. It expressed disagreement with four key proposals, including the one on non-benchmark index criteria.

 

The association said Nifty Bank derivatives would fail to qualify under the proposed new norm. Nifty Bank "is a high-volume index with heavier weightings for certain stocks," it said. The derivatives body said that Nifty Bank played a crucial role in risk management for investors as banks are a major component of the Nifty 50. "As such, existing indices or strategies based on them should be exempt from these changes, as applying the proposed weight limits retroactively could disrupt established markets where these limits were not previously a factor," the Futures Industry Association said.

 

The global derivatives body also opposed SEBI's proposal to limit open interest in index options to a gross delta of INR 15 billion, and net delta of INR 5 billion. Delta is the change in the option's price or premium due to the change in the underlying's price. Long call options and short put options always have positive delta between 0 and 1, while short calls and long puts always have negative delta between 0 and -1.

 

The derivatives association said the proposed limits could result in forced unwinding during sharp negative price movements to stay within the limits, which could amplify market declines and introduce systemic instability in derivatives market along with "ripple effects extending to the underlying equity markets." It could also reduce overall market liquidity, the derivatives body said.

 

SEBI, on the other hand, noted its Feb. 24 consultation paper, that for index options, the monitoring mechanism adds long and short notional positions to arrive at a net figure. "This allows an entity to hold large long and large short notional positions that effectively net out to zero in notional terms, despite carrying significant net Delta risk. As an example, long at-the-money call options and short out-of-the-money call options would not show net notional utilization, while implying a large net (long) delta risk," the SEBI paper said. SEBI also clarified in the paper that in line with current practice, open positions backed by underlying securities for short exposures or by cash for long exposures would be exempt from the limits.

 

To illustrate, the derivatives body gave a table of six international exchanges to compare the proposals on open position limits in index options with existing frameworks in other markets. Only one of the seven exchanges, the TAIFEX in Taiwan, had a gross exposure limit, while three others had only a net exposure limit, and two had no net or gross exposure limits.

 

In the US, NYSE and Nasdaq have no gross or net exposure limits, while CME, which is the largest equity derivatives market there, has a net notional exposure limit. The Hong Kong Exchange has a net delta exposure limit, but none on gross exposure, and the Korean exchange, KRX, also has a net delta exposure limit but no gross limit. The TAIFEX has a gross notional exposure limit but none for net exposure.

 

The Futures Industry Association was also strongly against SEBI's main proposal to shift from a notional system to a delta-based, also known as future equivalent, approach for computing open interest. It argued that implementing delta-adjusted thresholds will require multiple layers of calculation, monitoring and dissemination across the trading ecosystem, adding operational burdens and increasing the risk of errors.

 

The global derivatives body also disagreed with SEBI's proposal to introduce pre-open session for derivatives for improving price discovery, arguing that "prices are derived from the underlying cash equity market, which already has a pre-open session to establish prices based on demand and supply." But it was fine with the proposal for a post-closing session because it believed it "could be beneficial as it would allow clients to trade at the last 30-minute VWAP (volume-weighted average price), providing additional flexibility."  End

 

Reported by Rajesh Gajra

Edited by Tanima Banerjee

 

 

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