Sebi mulls ways to protect investors in F&O whirl

Retail investors tend to buy options cheaply, hoping for very high returns, and go far from ‘At the Money’ options leading to losing their premium paid

Short-Term Measures:

• Limiting weekly options
• Rationalisation of strike prices
• Removal of calendar spread benefits on expiry day

Kolkata: The Sebi-appointed expert group on exchange-traded derivatives started discussions on seven proposals to address regulatory issues and protect small investors from risks in index and stock option trading, sources said. The panel members would recommend short-term strategies to bolster investor protection and improve risk metrics in this market segment, they said. “The expert group would deliberate in detail the pros and cons of each of the seven proposals to protect small investors engaged in futures and options (F&O) trading. We know that nine out of ten small investors lose money in F&O. The recommendations of this group will be considered by the Secondary Market Advisory Committee for a final decision,” a source close to the development told PTI.

Options are financial contracts that give a holder a right, but not the obligation, to buy or sell an underlying asset at a specified price within a contract period. The proposals included rationalisation or limiting weekly options, rationalisation of strike prices of the underlying assets and removal of calendar spread benefits on the expiry day, according to the sources. The other four proposals were an upfront collection of option premiums from buyers of options, intra-day monitoring of position limits, an increase in lot sizes and a hike in margin requirements near contract expiry. Both the Securities and Exchange Board of India (Sebi) and the Reserve Bank have expressed concern over the risks associated with retail investors, amid market volatility.

Securities and Exchange Board of India (Sebi) chairperson Madhabi Puri Buch recently said the capital markets regulator has anecdotal evidence of people borrowing money to place speculative bets in the derivatives segment and rued that household savings are going into such risky bets. The regulator has also noted that option volume spurts near the expiry of the weekly contracts. Currently, all five working days of a week have at least one expiry of NSE or BSE indices. According to Sebi data, the overall derivative turnover was Rs 210 lakh crore in FY’18, which jumped to Rs 500 lakh crore in FY24, she said, adding that individual investors in index options jumped to 41 per cent in FY’24 from 2 per cent in FY’18.

The rapid rise in F&O trade volumes in recent years could pose several challenges as retail investors who are not following proper risk management could be impacted by sudden market movements, a Reserve Bank report stated. The equity derivatives segment has been witnessing growing participation from retail investors in recent years, increasing by 42.8 per cent from 65 lakh in 2022-23 to 95.7 lakh in 2023-24. Trading volumes in the derivatives segment have seen exponential growth over the years in notional terms, while the trading volumes measured by the premium turnover have witnessed a linear growth pattern, said the RBI’s bi-annual Financial Stability Report (FSR).

The expert group will scrutinise the weekly options in detail as these are most attractive to retail investors who can participate with low capital, the sources said. Rationalisation of strike prices is another area of interest to prevent small investors from incurring losses, they said. “Retail investors tend to buy options cheaply, hoping for very high returns, and go far from ‘At the Money’ options leading to losing their premium paid,” one of the sources explained. ‘At the Money’ (ATM) describes a situation when the strike price of an option is equal to the underlying asset’s current market price.