F O trading: Sebi to discuss ways to tighten the screws on retail speculation

The Securities and Exchange Board of India is planning a discussion paper on measures to rein in retail speculation in F&O trading. The development follows a meeting of the regulator’s Secondary Market Advisory Committee (SMAC) on Monday evening.

"All I can say is that a discussion paper will be issued shortly," said a person aware of the development.

The SMAC meeting was held to deliberate the recommendations of the Padmanabhan Working Group Committee on futures and options.

Read | Retail investors and the draw of options trading, and why regulators are worried

The panel headed by former Reserve Bank of India executive director G. Padmanabhan in a report earlier this month suggested increasing the cost of trading to dissuade small retail clients from accessing the equity F&O segment on exchanges such as the National Stock Exchange (NSE) and BSE, fearing mounting losses for them.

The panel has proposed increasing the contract value of derivatives instruments, raising the price interval between options contracts, and having one index option expiry a week instead of the current five.

Given that this would be a major policy move, the SMAC's decision on the Padmanabhan panel is expected to be discussed by the Sebi board, led by chairperson Madhabi Puri Buch and its four whole-time members.

“Though Sebi will not have to issue regulations to institute any of the panel recommendations, these will be discussed by the Sebi board given its far-reaching implications," said M.S. Sahoo, former whole-time member of Sebi.

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Monday's meeting was a result of rising regulatory concern over retail exuberance, especially on trading index options, including Nifty and Bank Nifty, after the pandemic.

Flagging concerns on the retail fixation of F&O trade, Reserve Bank of India governor Shaktikanta Das said at a media event last month that equity derivatives trade turnover had exceeded the country’s nominal GDP (provisional ₹295.36 trillion).

Data on NSE, the world’s largest equity derivatives marketplace, shows notional turnover of equity derivatives had jumped to ₹79,928 trillion in 2023-24 from ₹3,445 trillion in FY20. 

Around 98% of this notional turnover is accounted for by index options alone. Premium turnover, or the actual traded turnover of index options, had risen 12.77 times to ₹138 trillion over the same period.

Curbing retail exuberance

As concerns mounted over retail losses two years ago, Sebi mandated that brokers upload disclaimers on their apps and websites warning that nine out of 10 derivatives traders lost their money. The disclaimers also had to mention that net trading loss was close to ₹50,000, and that they spent 28% more of net trading losses as transaction costs.

Sebi is now thinking anew on measures to curb retail exuberance in F&O. The counterparty to retail tends to be the technology-savvy and deep-pocketed proprietary trader, a broker trading on his own account.

While the retail client market share in premium turnover of index options stood at 35.5% in this fiscal year through May, up 140 basis points from the corresponding period of 2023-24, proprietary traders’ share fell 315 basis points to 46.1% over the same period, show NSE data.

If the regulator decides accepts the Padmanabhan panel's recommendations, it could impact turnover by as much as a fifth, according to Sahoo.

However, not all believe that the proposals will prove effective in denting retail trade. Getting rid of weekly option expiries and having only monthly ones will be more expedient than raising contract lot sizes, say some experts.

“Increasing the lot sizes will force many retail investors to buy deep out-of-the-money options, which, in most cases, expire worthless and add up to their losses," said research analyst Sandip Sabharwal. 

“It is better to eliminate weekly expiries and only have monthly expiries as weekly options have lower value and many retail investors tend to buy them cheap only to lose money. Weekly expiries are also more prone to manipulation," Sabharwal added.

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The NSE has launched weekly expiry options on Nifty Midcap Select (every Monday), Nifty Financial Services or Finnifty (Tuesday), Bank Nifty (Wednesday) and Nifty (Thursday), while BSE has launched Sensex option contracts on Friday and Bankex on Monday.

“Sebi’s latest measures come in the wake of non-retail traders gaining at the expense of retail trade," said Nilesh Shah, managing director, Kotak Mahindra AMC. “Pro (proprietary) traders use algorithms based on data analytics to trade while most retail don’t have access to the same tech and analytics."