Topic 2: F&O PLAYING BY NEW RULES

Future and Options trading in India have adversely affected the retail investors. Stock Exchange of India introduced new trading rules for F&O which will be implemented from 1st October 2024. These measures would curb the concerns about high levels of speculation in the derivatives market where over 93% of retail traders reportedly incurred losses in recent years, summing around Rs.1.8 trillion. By implementing new rules and regulations SEBI aims to enhance investor protection and promote responsible trading practices among retail participants. To simplify the derivatives trading rules Sebi has made some major changes starting from October 2024.
• Derivatives contract size is raised from Rs.5 lakhs to RS.15 lakhs, this will inhibit speculative trading by retail investors. This new contract size will be effective from 20th November 2024.
• Entire option premium is collected upfront from buyers. SEBI has mandated the brokers to collect the premium, which would prevent excessive intraday leverage and discourage traders from holding positions beyond their collateral.
• Limited weekly expiration of derivatives to one benchmark index per exchange. For example, the National Stock Exchange (NSE) may only offer weekly expiries for either the Nifty or Bank Nifty, while the Bombay Stock Exchange (BSE) will offer them only for Sensex or BankEx. This change is also effective from November 20, 2024.
• No benefits for calendar spreads on expiry day, which means that if traders hold positions across different expiries, they will need to maintain full margin on expiry day, effective from February 1, 2025.
• Additional Extreme Loss Margin (ELM) of 2% is introduced which will be applied to short options contracts on expiry days. This margin is intended to cover potential risks associated with increased volatility on these days.
• Stock exchanges will monitor position limits for equity index derivatives on an intraday basis rather than at the end of the trading day. This measure aims to prevent large traders from manipulating the market and will come into effect in April 2025.

SEBI with these changes restricts the retail investor's participation which would reduce the speculative activity in the derivative market. The minimum contract size for derivatives has been raised from ₹5-10 lakh to ₹15 lakh. Many small investors with limited capital may find it challenging to participate in derivatives trading. The new contract size aims to deter speculative trading among retail investors who often engage in high-risk strategies without sufficient capital or experience. SEBI ensures that only those with adequate financial resources and risk tolerance participate, potentially leading to a decrease in reckless trading behaviour. With the reduction of weekly expiries to one per benchmark index per exchange, retail traders will have fewer opportunities for short-term speculative trades. This limitation may lead to decreased intraday volatility and trading volumes. Retail investors may shift towards longer-term investment strategies rather than frequent trading in derivatives due to the large contract size. The introduction of an additional Extreme Loss Margin (ELM) of 2% for short options on expiry days will further tighten the capital requirements for retail traders. This measure is intended to protect against extreme market fluctuations but may also limit the ability of smaller investors to maintain positions during volatile periods. While the changes are designed to stabilize the market and protect retail investors, they may also lead to lower overall market volatility. This could impact trading dynamics and reduce opportunities for profit-making through active trading strategies. While these measures may present immediate challenges for retail traders, experts believe they could lead to a healthier market environment in the long run. By reducing excessive speculation and promoting responsible trading practices, SEBI aims to protect small investors from significant losses that have historically plagued this segment. Traders and investors should prepare for these changes and adjust their trading strategies accordingly as these regulations come into effect in the coming months.



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