Sebi mulls measures to curb speculative trading in index derivatives

Markets regulator Sebi on Tuesday proposed tightening the rules for index derivatives by revising the minimum contract size and requiring upfront collection of option premiums to curb speculative trading.

This comes days after the government in the Union Budget raised the securities transaction tax (STT) on both futures and options trade from October 1 to allay concerns about hyperactive interest in the derivative segment.
Before that, the Economic Survey flagged concerns over rising retail investors' interest in derivative trading. The survey stated that speculative trade has no place in a developing country.
It also pointed out that the sharp increase in retail investor participation in F&O trading is likely driven by humans' gambling instincts.
In its consultation paper, the regulator has proposed measures, including rationalisation of weekly index products, intra-day monitoring of position limits, rationalisation of strike prices, removal of calendar spread benefit on expiry day and increase in near contract expiry margin.
The Securities and Exchange Board of India (Sebi) has sought public comments till August 20 on the proposals.
Considering the growth witnessed in the broad market parameters, the minimum contract size for index derivative contracts should be revised in two phases, Sebi said in its consultation paper.
Under phase 1, the minimum value of the derivatives contract at the time of introduction should be between Rs 15 lakh and Rs 20 lakh. After 6 months, the minimum value of the derivatives contract is to be between the interval of Rs 20 lakh and Rs 30 lakh as a part of phase 2.
The regulator said that the minimum contract size requirement for derivative contracts (Rs 5 lakh to Rs 10 lakh) was last set in 2015.
The regulator has suggested rationalising of options strikes with a uniform strike interval of 4 per cent around the prevailing index price and expanded strike intervals beyond the initial coverage to reduce the number of strikes further from the index price.
There will be a maximum of 50 strikes at the time of introduction, with new strikes introduced daily to maintain these intervals.
Further, Sebi proposed that members should collect option premiums from clients upfront.
On the removal of calendar spread benefits on the expiry day, Sebi suggested that there should be no margin benefit for calendar spread positions on contracts expiring on the same day.
It also proposed that position limits for index derivatives should be monitored intraday by clearing corporations and stock exchanges.
Weekly options contracts should be provided on a single benchmark index of exchange and the Extreme Loss Margin (ELM) should be increased by 3 per cent the day before expiry and further increased by 5 per cent on the expiry day.
These proposed measures are aimed at enhancing investor protection and promoting market stability in derivative markets.
Derivatives market assist in better price discovery, help improve market liquidity and allow investors to manage their risks better.
"However, bursts of speculative hyperactivity in derivative markets, particularly by individual players, can detract from sustained capital formation by endangering both investor protection and market stability," the markets regulator noted.
A study conducted by Sebi in January 2023 found that 89 per cent of individual traders in the equity F&O segment incurred losses.
For FY2023-24, 92.50 lakh unique individuals and firms traded in NSE's index derivatives, incurring a cumulative trading loss of Rs 51,689 crore, excluding transaction costs. About 85 per cent of these traders made net losses.
Futures and Options trading involves contracts that derive their value from an underlying asset, such as stocks or commodities.
Futures contracts obligate the buyer and seller to transact at a predetermined future date and price, while options give the holder the right, but not the obligation, to buy or sell the asset at a set price within a specific period.
These financial instruments are used for hedging risks, speculating on price movements, and arbitraging price differences. However, they come with significant risks, including leverage risk and market volatility, which can lead to substantial losses.
Last month, the Sebi board approved stricter norms for the entry of individual stocks in the derivatives segment. The proposal is aimed at weeding out stocks with consistently low turnover from the F&O segment of the bourses.