Looks like ELM circular is being mis-interpreted

F&O
1

Received margin shortfall email yesterday wherein the link SEBI's new rules for index derivatives: Here's what's changing – Z-Connect by Zerodha was mentioned for reference. I read the link and found

Additional margins on expiry day

Starting November 20, 2024, an Extreme Loss Margin (ELM) of 2% will be applied to short positions (selling options) on the expiry day to cover potential risks due to increased volatility.

Example: You have a short position in Nifty 25,000 call option expiring on 30th October with a margin requirement of Rs. 1 lakhs. On the expiry day of this option, you will have to maintain an additional 2%.

ELM is calculated on contract value (Strike price * Lot size). So you will need an additional margin of Rs. 12,500 (25000 Strike price * 25 Lot size * 2% / 100) on expiry day.

This does not in any way indicate hedging benefits are unavailable like in the case of calendar spreads. HOW WILL ELM ARISE SO LONG AS THERE IS A HEDGE? MARGIN SHORTFAL DUE TO ELM WILL COME INTO PLAY ONLY IF THE USER SQUARES OF THE LONG POSITION BEFORE EXITING THE SHORT POSITION. ARE THE BROKERS TRYING TO MISINTERPRET THIS TO GET HOLD OF MORE CASH THAN WHAT IS REQUIRED SO THAT CAN BE USED BY THEM FOR OTHER PURPOSES? OR IS THIS A WAY THE SEBI/EXCHANGES ARE COMPENSATING THE BROKERS FOR THE REPORTEDLY FALLEN ACTIVITY IN STOCK MARKET - PARTICULARLY IN THE DERIVATIVES SEGMENT?

This becomes more evident when you read the reasoning for denial of margin benefits on expiry days as mentioned below.

No calendar spread benefits on expiry day

Traders typically hold positions across different expiries (known as calendar spreads), this provides margin benefits and reduces the margin requirements.

On the expiry day of the F&O contracts, there’s a higher risk that the price of the contract expiring will behave very differently from contracts expiring at a later date. This is because of larger trading volumes on that particular day, which can lead to unpredictable price movements.

To manage this risk, SEBI has decided that traders will not get any margin benefits for calendar spreads on the day of expiry for contracts expiring on that day from February 10, 2025.

Example: Let’s say you have a short option expiring on 31st January with a margin of Rs. 1 lakh and a long option expiring on 28th February. Since your short position is hedged by the long one, you get a margin benefit and need only Rs. 50,000 instead of Rs. 1 lakh.

However, on 31st January (expiry day), this margin benefit will no longer be available, and you will have to maintain the full Rs. 1 lakh margin.

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Even @SEBI is silent on this. Hope someone responds. Despite the margin shortfall email, no penalty was imposed though no margin was added before market opened. Looks like the mis-interpretation is deliberately being publicised so we will either add money which the brokers can use for other purposes or collect brokerage charges which otherwise will not be liable if the contracts expire worthless. So sad that there is no clarity. Would have preferred to trade the US markets but for the commissions for transfer to and from the foreign account as well as the conversion charges.

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Keeping aside if there is any requirement to charge higher margins or not on expiry day, circular is not mis- interpreted, that is the regulator wants and all exchanges and brokers has to follow it.

Brokers can’t use it for other purpose, also if more margin is blocked client trades less so brokers earn less, but brokers want users to trade more so this argument also won’t stand a chance.
With these new changes in the last 6 months brokers revenues took a massive hit.

At personal level I would suggest you to accept the reality and adjust to new changes, no other way out.

3 Likes
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Thanks. But I am thinking of approaching SEBI/NSE formally to get this clarified. I was not aware of your perspective as a broker but my point and your contentions are in different contexts. But my broker ought to have penalised me for not adding margin before the market opened. Or at least squared it off under RMS. I have seen most brokers including icicidirect being evasive about the basis for this interpretation. To keep the stakes low, I think I will ensure that I am just short of a small portion of the margin and see what the broker does if that margin is not filled and I do not square off. There should be a cause of action to file a complaint I guess. For now as you said, it is better I live with it till I get a formal resolution from the regulator.**BUT PLEASE POST IF THERE IS ANYTHING ELSE APART FROM THAT CIRCULAR REGARDING ELM ON SHORT POSITIONS ON EXPIRY DAY WHEN THEY ARE FULLY HEDGED **

5

Sure.

Only after market open they can close, as you said you can try it onetime. Penalty will be levied if there is shortfall when the screenshot is taken , so ideally before 10.30 on expiry day they should close if short fall is more.

1 Like
6

Yes and this is how I understood this too. Never a doubt in my mind. ELM is over and above the applicable normal margin (including hedges if any)