Sebi Proposes Sweeping Changes in Derivative Market to Reign in Speculation

Mumbai: To counter risks to market stability and curb losses made by individual retail investors due to hyperactivity in the equity derivative market watch dog Sebi released a consultation paper seeking comments from market participants by August 20, 2024.

The paper seeks to introduce measures to enhance investor protection and promote market stability in derivative markets while ensuring sustained capital formation, Sebi said

Due to changing market dynamics –trading product mix saw introduction of weekly options while earlier equity derivatives contracts generally had a minimum tenure of a month leading to hyper activity in the market. to the extent that as of now there is expiry of weekly index derivatives contracts on all five trading days of the week, the paper observed.

For FY 2023-24, 92.50 lakhs unique individuals and proprietorship firms traded in index derivatives segment of NSE

and cumulatively incurred a trading loss of Rs 51,689 crore, Sebi said.

A study conducted by Sebi in January 2023 found that 89 per cent of individual traders in the equity

F&O segment incurred losses. The same study also highlights that trading in derivatives has

proliferated beyond tier 1 cities in the past 3-4 years.

On the other side, it has been observed that larger non-individual players that are

high-frequency algo-based proprietary traders and/ or Foreign Portfolio Investors (FPIs),

are, in general, making offsetting profits.

Also, large OI(open interest) and hyperactive and abnormal trading activity close to expiry have

implications for market stability, Sebi said.

In view of the aforesaid findings around increased speculative/trading hyperactivity in

index options segment combined with poor profitability outcomes for individual investors,

SEBI, to actively enhance investor protection and ensure market stability, created

an Expert Working Group (EWG) to examine the matter further.

Sebi has proposed following measures to reign in hyper activity in the derivative market.

To address the issue of high implicit leverage in options contracts near expiry,

creating a high risk on a notional basis for entities dealing in options, Sebi has proposed the margins on expiry day and the day before expiry be increased. At the start of the day before expiry, the Extreme Loss Margin (ELM) is to be increased by

3 per cent and at the start of expiry day, ELM is to be further increased by 5 per cent.

Sebi has proposed In view of growth witnessed in the broad market parameters, the minimum

contract size for index derivative contracts to be revised upward from existing Rs 5 lakh to Rs 10 lakh to

minimum Rs 15 lakhs to Rs 20 lakhs and later after 6 months to be revised further to Rs 20 lakhs to Rs 30 lakhs.

It has also proposed that market intermediaries collect option premiums on an upfront basis from the clients,

"Given the evolving market structure, the position limits for index derivative contracts shall also be monitored by the clearing corporations/ stock exchanges on an intra-day basis, with an appropriate short-term fix, and a glide path for full implementation,

given the need for corresponding technology changes," Sebi has further proposed.

For rationalization of weekly index products Sebi has proposed, weekly options

contracts to be provided on a single benchmark index of an exchange.

While the Indian market ecosystem continues to build conservative safety buffers in terms of

margins and default management waterfalls, the daily expiry of options contracts on different

indices combined with the unusual nature of hyperactivity around expiry

does pause significant risk to market to enhance investor protection and promote market stability in derivative markets, weekly options contracts to be provided on single benchmark index of an exchange," Sebi said.