Exclusive: Big relief for F&O traders! SEBI exploring additional limits for position creation in stocks that go into ban

If various stakeholders, such as exchanges, clearing corporations and brokers, reach a consensus, traders can be allowed to take further positions in stocks that are in the ban period, as per sources. An expert working group, formed to deliberate on issues of equity derivatives, is discussing this proposal as part of Ease of Doing Business. “A working group is considering this idea, but it will be based on Future Equivalent (Fut Eq) based Open Interest (OI) formula, not with the existing Open Interest methodology," said a person familiar with discussions in the expert working group.

10% Additional Position Even After the Ban

Another source, privy to the discussions, said, “The discussion is at an early stage and the deliberation is if a 10 percent additional position creation can be allowed under new Future Equivalent formula, in next and far month contracts, when a stock goes in a ban so that traders can hedge their open positions."

“The rationale is as the Next month and Far month contracts are not up for settlement and are generally not liquid, so this additional limit can help the participants but subject to a certain overall limit is fixed across expires," said the person.

In derivatives, futures have a three-month trading cycle, where the 'next month' contract is the 2nd month and the 'far month' contract is the 3rd month. The first month is referred to as the near month.

The future equivalent refers to the quantity of futures contracts required to hedge the risk of the options position of the underlying asset. It is calculated by aggregating change in price (delta) associated with the position. It helps traders understand the number of futures contracts required to buy or sell for hedging so that the options position is neutral.  Open interest refers to the total of all futures and or option contracts entered but not yet offset by a transaction.

What Happens Now?

When a stock's open interest crosses 95 per cent of Market Wide Position Limit (MWPL), in stock across stock exchanges, then no additional position is allowed, till the open interest comes down to 80 per cent. However, brokers start getting alert when it's around 85 per cent and advise their clients to square off the positions, as they don’t want problems for clients and themselves. MWPL is the maximum available limit in the stock for trading in the futures and options contract in the stock. It is usually limited to 20 per cent of non-promoter shares. If open interest in a stock exceeds 95 per cent of the MWPL, stock moves in the ban period. A stock going in a ban period is inconvenient for market participants. Hence, the SEBI expert working group is considering, if additional position creation can be allowed when open interest is calculated in future equivalent terms.

What do market participants say?

Market participants are happy with the deliberation but say the additional 10 per cent limit will be exhausted quickly and then the problem will remain the same. So, if clients are allowed to roll over the existing positions to the next calendar on the expiry day, in spite of the ban, as long as future equivalent open interest does not increase, it will be more helpful. If position limits are exceeded then the penalty is imposed, but sometimes traders are happy to pay a penalty if they are getting an overall bigger profit than the penalty amount.

At the time of publishing this report, queries sent to SEBI remained unanswered.