 "Sebi")
Illustration: Binay Sinha
Stock market regulator, Sebi, has once again raised an alarm about a risky investment trend: futures and options (F&O) trading. Everyday Indians are losing huge amounts of money, up to Rs 60,000 crore a year, by gambling on F&O contracts. Sebi chief Madhabi Puri Buch says this is a serious issue that could hurt the overall economy.
“If Rs 50,000-60,000 crore a year is going away into losses in F&O whereas that would have been productively deployed as may be the next IPO round, maybe MF, to other productive purposes, why is that not a macro issue?” Buch said.
What are F&O contracts?
Imagine you think a stock price will go up. You can buy the stock itself, but F&O contracts offer a riskier way to bet. They’re basically agreements to buy or sell a stock at a certain price by a certain date.
Why are they risky?
Most F&O bets (around 90%) end in losses! Unlike buying a stock and holding it, F&O contracts have a deadline. If your prediction is wrong by that date, you lose your money.
What’s Sebi doing about it?
Sebi is proposing new rules to make F&O trading less attractive to everyday investors. These include:
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Limiting the number of times F&O contracts can expire each week. -
Increasing the minimum amount of money needed to invest in F&O contracts. -
Requiring investors to pay the full price of the option upfront, instead of just a deposit.
In recent years, there has been a surge in stock market participation in India. According to data from the Association of Mutual Funds in India, investments just through the SIP route (systematic investment plan) stood at Rs 1.99 lakh crore in 2023-24, more than doubling from Rs 92,693 crore in 2018-19. But, alongside there are concerns over the sharp surge in trading in futures and options (F&O) by retail investors.
Earlier this year, Sebi proposed a several measures to prevent speculative trading, such as gambling in index derivatives, which include curbing multiple option contract expiries and increasing the size of options contracts.
A Sebi study had earlier pointed to 90 per cent of the trades resulting in losses. The capital markets regulator also came up with a consultation paper on Tuesday proposing ways to limit the activity.
The surge in retail participation in the derivatives market has coincided with a significant increase in turnover, from Rs 4.5 lakh crore in 2018 to Rs 140 lakh crore in 2024. However, this growth has been accompanied by a steep rise in losses, with 90% of traders incurring negative returns.
To curb excessive speculation, Sebi is proposing several measures. These include increasing the contract size for F&O contracts, reducing the frequency of contract expiry, and mandating upfront collection of option premiums. The regulator is also considering stricter norms for investment advisors and exploring ways to make the Application Supported by Blocked Amount (ASBA) system mandatory for all qualified brokers.
Currently, index-based contracts expire daily. Sebi is considering allowing only one weekly contract per index to reduce short-term speculation.
To deter small investors from high-risk trades, Sebi has proposed hiking the minimum contract size from Rs 5-10 lakh to Rs 15-20 lakh in the first phase, and further to Rs 20-30 lakh subsequently.
Sebi also wants to prevent excessive leverage by requiring investors to pay the full option premium upfront, instead of the current practice of blocking collateral.
As the paper said, “Options prices depending on the moneyness move in a non-linear way and thus carry very high implicit leverage. These are timed contracts with possibility of very fast paced price appreciation as well as depreciation. In order to avoid any undue intraday leverage to end client and to discourage any market wide practice of allowing position beyond the collateral at the end client level, it is desirable to mandate collection of options premium upfront by TM/ CM from the options buyer. (At present, CCs block collateral at CM level for options buy trades).”
Sebi is also taking aim at a specific type of risky F&O trade popular with some retail investors: cheap options contracts with strike prices far away from the current market price. These are often referred to as “out-of-the-money” options because they have a low probability of becoming profitable.
Sebi has proposed a system with tighter intervals for strike prices near the current market price (around 4% above or below). As the strike prices move further away (becoming more “out-of-the-money”), the intervals will widen (between 4% and 8%). This makes it less attractive to gamble on options with a very low chance of success.
Exchanges will be limited to offering a maximum of 50 strike prices for a single index derivatives contract at launch. This restricts the number of these “out-of-the-money” options available, making it harder for investors to chase unlikely bets.
Sebi wants all stock exchanges to implement these changes in a coordinated manner to ensure a level playing field and prevent any exchange from offering a wider range of risky options to attract investors.
First Published: Jul 31 2024 | 11:52 AM IST
