In an attempt to curb the retail euphoria in equity options, the capital markets regulator is likely to implement all seven measures recommended by the Padmanabhan committee at its board meeting on Monday, according to two persons aware of the matter.
The next step would involve implementing a product suitability framework (PSF) to discourage people with low income from trading in derivatives, one of the two persons quoted earlier said on condition of anonymity. “The concern stems from the rising number of individual investors with low-income trading despite suffering sustained losses.”
The measures, suggested by the panel chaired by G. Padmanabhan, a former executive director of the Reserve Bank of India, include increasing the minimum lot size of derivatives contracts from ₹5-10 lakh to ₹15-20 lakh at introduction and ₹25 -30 lakh after six months, having just one index options expiry per week per exchange in place of the current five a week, and increasing extreme loss margins to trade a day before and on expiry days of options. The panel also recommended rationalizing option strike prices, collecting upfront margins from option buyers as well against only from sellers, removal of calendar spread benefit on expiry day and intraday monitoring of position limits.
A query sent to the Securities and Exchange Board of India (Sebi) remained unanswered.
The panel’s recommendations made their way into a Sebi consultation paper, eliciting over 6,000 comments from brokers and market stakeholders last month.
Of the seven suggestions, increasing lot sizes, restricting the number of weekly options expiries and raising margins to trade are expected to account for much of an anticipated 30% drop in derivatives volumes, according to Rajesh Baheti, managing director, Crosseas Capital Services, one of the country’s largest arbitraging and jobbing firms.
What has alarmed the regulator, according to the people cited above, is the hefty losses faced by individual futures and options (F&O) traders, who lose out to proprietary and foreign investors using colocation (buying server racks within exchange premises) and sophisticated algorithms.
A Sebi study released on Monday revealed that 93% of over 10 million individual F&O traders on average lost ₹2 lakh each ( ₹1.8 trillion in aggregate), inclusive of transaction charges, in the three years through fiscal year 2024 (FY24). Over 75% of these traders declared an annual income of less than ₹5 lakh in FY24. More than 75% of loss-makers continued trading in F&O.
“Keeping in mind the income level of individuals accessing this segment, the panel will recommend a PSF, where the onus will lie with brokers to discourage those with low net worth from dabbling in derivatives,” said the second person, who also didn’t want to be named.
“One of the criteria in the PSF could be a minimum income threshold for dabbling in derivatives,” he added.
While trading or investing in the cash segment requires brokers to adhere to “know your customer” norms like ascertaining PAN and relevant bank account details to be linked to demat, new clients accessing the derivatives segment have to disclose additional information including annual income levels.
The Padmanabhan panel’s measures will come on top of a steep 60% hike in securities transaction tax (STT) on the sale of derivatives from 1 October announced in the Union budget for FY25. The tax on sale of options will rise from ₹62.5 per lakh to ₹100 per lakh.
“Sebi’s purpose of this consultative paper seems to be to bring down the volumes and, if the proposals as given in the consultative paper are implemented in their totality, there will be a very significant impact on the exchange volumes across India,” said Ashishkumar Chauhan, managing director and chief executive officer of the National Stock Exchange of India (NSE), during a concall in August after the exchange’s first-quarter results.
Nithin Kamath, co-founder of India’s second-largest retail broker Zerodha, anticipates a 30-50% drop in his firm’s revenue when the measures materialize into regulation “sometime in the next quarter” (October-December), according to an online post on Tuesday. The company posted a revenue of ₹8,320 crore in FY24, he said.
Rajesh Palviya, derivatives and technical head of research at Axis Securities, is not ruling out “restriction” on mode of trading employed by foreign institutional investors (FIIs) and proprietary traders who use algorithms to trade in derivatives in the near future.
While individual investors lost ₹61,000 crore, ex-transaction charges, dabbling in derivatives in FY24, prop traders made a gross trading profit of ₹33,000 crore and FIIs of ₹28,000 crore that year, Sebi found.
