Given the changing market dynamics in the equity derivatives segment in recent years with increased retail participation, offering of short-tenure index options contracts, and heightened speculative trading volumes in index derivatives on expiry date, SEBI has issued a consultation paper seeking to introduce the following measures to enhance investor protection and promote market stability in derivative markets, while ensuring sustained capital formation.
The following is the list of measures proposed by SEBI:
Proposal #1 - Rationalization of strike price for options:
Existing strike price introduction methodology may be rationalized to incorporate the following principles:
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Strike interval to be uniform near the prevailing index price (4% around the prevailing price) and the interval to increase as the strikes move away from the prevailing price (around 4% to 8%).
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Not more than 50 strikes are to be introduced for an index derivatives contract at the time of contract launch.
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New strikes are to be introduced to comply with the above requirement daily.
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Exchanges to uniformly implement and operationalize the aforesaid principles after joint discussion.
Proposal #2 - Upfront collection of options premium:
There is a stipulation for upfront collection of margin for futures position (both long and short) as well as options position (only short options require margin whereas long options require payment of options premium by buyers). There is no explicit stipulation of upfront collection of options premiums from options buyers by members.
Currently, CCs block collateral at the CM level for options buy trades
To avoid any undue intraday leverage to the end client and to discourage any market-wide practice of allowing positions beyond the collateral at the end client level, it is desirable to mandate the collection of options premium upfront by TM/ CM from the buyer of the option.
Going forward, the broker is expected to collect option premiums on an upfront basis from the clients.
Proposal #3 - Removal of calendar spread benefit on expiry day:
Given the skew in volumes witnessed on the expiry day as compared to other non-expiry days and the inherent basis and liquidity risk present therewith, the margin benefit for calendar spread position would not be provided for positions involving any of the contracts expiring on the same day.
Proposal #4 - Intraday monitoring of position limits:
Existing practice:
Position limits for various participants/ product types are specified by SEBI. These limits are monitored by MIIs (Clearing Corporations/Stock Exchanges) at the end of the day.
Issues with existing practice:
Particularly on the day of expiry, there is a possibility of undetected intraday positions beyond permissible limits as end-of-day open positions would be NIL.
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.
Proposal #5 - Minimum contract size:
Given the growth witnessed in the broad market parameters, the minimum contract size for index derivative contracts is to be revised as under:
Phase 1: Minimum value of derivatives contract at the time of introduction to be between 15 lakhs to 20 lakhs.
Phase 2: After 6 months, the minimum value of the derivatives contract is to be between the interval of 20 lakhs to 30 lakhs
Proposal #6 - Rationalization of weekly index products:
To enhance investor protection and promote market stability in derivative markets, weekly options contracts are to be provided on a single benchmark index of an exchange.
Proposal #7 - Increase in margin near contract expiry:
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, the margins on Expiry day and the day before expiry to be increased in a below-stated manner:
a. At the start of the day before expiry, the Extreme Loss Margin (ELM) is to be increased by 3%.
b. At the start of the expiry day, ELM is to be further increased by 5%.
You can read the full consultation paper here:
Interesting Insights on this topic
- Thoughts by @nithin
- Nice thread by @deepak.shenoy
What are your thoughts on the above consultation paper by SEBI?