By Shubham Shukla

Jan 27, 2025

0 Views

In a significant move to safeguard investors and maintain market stability, the Securities and Exchange Board of India (SEBI) has introduced substantial changes to the rules governing futures and options trading. These reforms are intended to tackle speculative trading, enhance regulatory oversight, and align with international standards. Let’s break down what these reforms mean, why they were introduced, and the challenges they bring.

A key change is the requirement for option buyers to pay premiums upfront. Beginning February 1, 2025, buyers will need to settle the premium at the time of trade initiation. This approach aims to effectively manage risks associated with options, which are highly leveraged financial instruments with prices that can vary widely. By mandating upfront payments, SEBI seeks to deter speculative trading that exceeds a client’s financial means. While this initiative promotes responsible trading, it could also pose challenges for smaller investors due to the increased initial costs.

A significant reform is the elimination of calendar spread margin benefits on expiry days. Previously, traders holding offsetting positions across various expiry dates could benefit from lower margin requirements. However, SEBI has noted that expiry days often experience increased speculative activity and considerable risks, as contracts set to expire that day can behave erratically compared to those expiring later. Starting February 1, 2025, this benefit will be discontinued for contracts expiring on the same day. This adjustment aims to address the heightened risks associated with expiry days and to deter excessive speculation, although it may lead to higher trading costs for participants who depend on these strategies.

To enhance risk management, SEBI will implement intraday monitoring of position limits for index derivatives. At present, these limits are only checked at the end of the trading day. With the increase in trading volumes and speculative activities on expiry days, SEBI's new regulation requires stock exchanges to monitor these limits several times a day using random snapshots. This initiative, starting April 1, 2025, aims to prevent excessive intraday violations of position limits, promoting a more orderly market. However, it will also necessitate upgrades to the systems of exchanges and brokers to accommodate real-time monitoring, which may pose a logistical challenge.

Another important change is the adjustment of contract sizes for index derivatives. Starting November 20, 2024, the minimum contract value will rise to between ₹15 lakh and ₹20 lakh, up from the previously range was of ₹5–₹10 lakh. This change reflects the increase in market valuations and aims to keep derivatives trading accessible for investors with sufficient capital. Although this may restrict participation from smaller retail investors, it highlights SEBI’s commitment to promoting responsible trading among well-prepared participants.

SEBI is also making changes to weekly index derivatives contracts. Starting November 20, 2024, each stock exchange is permitted to offer weekly derivatives contracts for just one benchmark index. This modification responds to worries about excessive trading in weekly contracts, particularly on expiry days, when trading tends to become extremely active and volatile. By restricting the number of these products, SEBI hopes to bring more stability to the market. However, this change might limit the flexibility for traders who depend on various indices for hedging.

To mitigate risks on expiry days, SEBI will introduce an additional extreme loss margin (ELM) of 2% on short options positions that are set to expire that day. Starting November 20, 2024, this initiative aims to offer enhanced protection against sudden price fluctuations. While it strengthens the market's risk management framework, it could also raise costs for traders involved in short options strategies, especially on expiry days.

These reforms highlight SEBI’s commitment to safeguarding investors and upholding the integrity of India’s derivatives market. By addressing speculative practices, enhancing risk management, and ensuring that products are appropriate for participants, SEBI is fostering a more robust market environment. However, these changes also pose challenges, especially for smaller investors and participants who might find it difficult to adapt. As these reforms are implemented, traders, brokers, and exchanges will need to revise their strategies and systems to align with the new regulations. Although the transition may be challenging, the long-term advantages of a stable and well-regulated market are likely to surpass the initial difficulties.

Reference:

Measures to Strengthen Equity Index Derivatives Framework for Increased Investor Protection and Market Stability

SEBI Tightens Rules for Futures and Options Trading: Key Insights

Reference:

Our Top Articles