On 24th August '15 at Open, many Nifty put Options (in August expiry) were not available for trading. I would like to know the norms for fixing the upper circuit limit and norms for resuming trading in those Options.
Options are basically insurance policies and I don’t understand the logic of locking them in a fast market.
NSE has two types of price limits set in the system
1. Execution range which was introduced last year to protect traders from impact costs on illiquid option contracts. You can read more here: http://zerodha.com/z-connect/queries/stock-and-fo-queries/deciphering-nses-execution-range-circular
So if the reference price for an option is 100 and it now opens on a particular day at Rs 200, market orders or limit orders placed above 110 won't be accepted until it is relaxed by NSE.
2. Price range/circuit limits
These limits are set on all F&O contracts and stocks to ensure no manipulation in prices. When the circuit limits are hit, it alerts NSE and NSE has to manually relax these limits.
On monday when the markets crashed, all the put options would have been subjected to both the above checks in the system. So the time taken by NSE to relax these limits/range was over 5 mins.
Introduction of execution range has saved a lot of traders from a lot of pain when placing market orders in illiquid contracts, but yeah these are double edged swords. I know that the exchanges are working on ensuring that time taken to relax the preset limits are brought down significantly.
Thank you for the clarification Nithin. I hope NSE differentiates between liquid Options and illiquid Options. I would request you to write to them to have no such norms for liquid Index Options. Thanks again.
Does’nt placing a limit on option price goes against the theory where it is stated that the buyer of an option has the potential of unlimited gain with limited risk.