INSUBCONTINENT EXCLUSIVE:
Market regulator Sebi (Securities and Exchange Board of India) on Monday issued much-awaited framework for making physical settlement of
stock derivatives mandatory
The same will be enforced in a phased manner
As on date, out of 200 stocks traded in futures options segment, physical settlement mechanism already exists in 50 stocks.
Now, Sebi
wants to apply same mechanism to all stocks, which are cash-settled under existing framework
Remember, a large share of FO volumes comes from index contracts, which will remain cash settled.
According to Sebi, stocks shall first be
ranked in descending order based on daily market capitalisation averaged for December 2018.
Based on ranking arrived, bottom 50 stocks would
move to physical settlement from April expiry onwards, next 50 would move to physical settlement from July expiry onwards, and remaining
would move to physical settlement from October expiry onwards, market regulator said.
Sebi said derivatives introduced in new stocks,
meeting enhanced eligibility criteria specified by it, would also be physically settled.
Derivatives in financial markets typically refer to
forwards, futures, options or any other hybrid contracts of pre-determined fixed duration linked for purpose of contract fulfillment to
value of a specified real or financial asset or to an index of securities.
The Indian market is considered one of most speculative in world
as far as derivative contracts go
Currently, on a cash market turnover to derivative market turnover ratio basis, Dalal Street has highest level in world.
The Sebi move is
aimed at curbing excessive speculation, which creates too much volatility in market
Under physical settlement, traders will have to compulsorily take delivery of shares on expiry day against their derivative positions.
In
cash settlement in futures options, seller of financial instrument does not deliver actual (physical) underlying asset upon expiration or
exercise, but instead transfers associated cash position
When such contracts require physical settlement, it forces traders to roll over positions ahead of expiry, thus averting lumping of
rollovers at end of series, which leads to excessive volatility.
Analysts say by forcing such physical settlement, Sebi is reducing
good news, as it may trigger a spike in bid-ask spreads, which can, in turn, cause impact costs to rise, as it all depends on liquidity
Liquidity, in turn, is variable of derivative volumes
Better liquidity facilitates more efficient price discovery and tightens spreads between bids and asks.
Physical delivery could also reduce
Short sellers will now have to first borrow stocks under SLB (securities lending and borrowing) mechanism, which allows borrowing of
securities from institutional investors
But that space still remains shallow in India.
Some of market participants would now have a relook at SLB space
Viral Berawala, CIO of Essel Mutual Fund.
Nirav Chheda, Technical Derivatives Research Analyst, Nirmal Bang Securities said FO rollovers,
Investment Managers.
However, market veteran calls move half-baked
Rs 5 lakh or Rs 10 lakh eventually
This unnecessarily creates too much of pressure and volatility, including rollovers, during which you see sharp increase in volumes, which
When traders will have positions working for them on hedge side or on leverage side, probably delivery-settled derivative market would work
Over time, when Sebi brings down or removes market lots, volatility would come down significantly, he said.
Choksey, however, said this is a
volatile as market participants adjust to new mechanism
As process settles and market participants realise approximate amount of physically-settled stock, volatility will normalise.
