Explained: New SEBI rules to curb F&O frenzy, aim to protect small investors

Market experts believe that tighter F&O rules could help limit speculation in the derivatives market, protect the interest of retail investors, increase constructive participation, and improve market stability.

1. Contract size for index derivatives recalibrated

The minimum contract size at the time of its introduction in the market has been recalibrated to Rs 15 lakh from the existing stipulation of Rs 5-10 lakh. The regulator has said that the contract size should be fixed in such a way that the contract value of the derivative on the day of review is Rs 15-20 lakh.

This will apply to all new index derivatives contracts introduced after November 20 this year. This step raises the entry barrier, and seeks to ensure that participants in the derivatives market take on appropriate risks.

IMPLICATION: V K Vijayakumar, Chief Investment Strategist at Geojit Financial Services, said the increase in contract size can curb speculation by small traders who have been hyperactive in the F&O segment.

Kunal Sanghavi, Chief Strategy and Transformation Officer, HDFC Securities, said small investors and retail participants end up taking undue risks and make losses in the F&O segment. “Retail players in tier 2 and tier 3 cities will need to re-strategise on account of the increase in the minimum index derivatives contract value from Rs 5 lakh to Rs 15 lakh at the time of introduction,” Sanghavi said.

“A lot of retail investors may end up staying away from index derivatives. This will protect them from losses in the greed to earn money quickly,” he said.

2. Upfront collection of options premium

To deny undue intra-day leverage to the end client, and discourage the practice of allowing positions beyond the collateral at the end client-level, SEBI has mandated the collection of options premium upfront from options buyers by the trading member (TM) or the clearing member (CM). The new rule will be applicable from February 1, 2025.

IMPLICATION: This is primarily to ensure prudent risk management at the investor level, Puneet Sharma, CEO and Fund Manager at Whitespace Alpha, a multi-asset class asset management firm, said.

“Options carry inherent leverage, which can amplify gains or losses. By mandating upfront collection, SEBI aims to minimise undue intraday leverage, ensuring that positions are taken only against adequate collateral,” he said.

The aim is to instill discipline, reduce aggressive short-term speculation, and mitigate the risk of defaults due to overleveraged positions, Sharma said.

3. Rationalisation of weekly index derivatives products

SEBI has said that expiry-day trading in index options at a time when option premiums are low, is largely speculative. Stock exchanges offer short-tenure options contracts on indices which expire on every day of the week, leading to hyperactive trading in index options on expiry day.

SEBI has directed that “henceforth, each exchange may provide derivatives contracts for only one of its benchmark index with weekly expiry”. This will be effective from November 20.

IMPLICATION: Sanghavi said this will limit the avenues for uncovered/ naked options selling. A naked position one that is not hedged.

Sharma said the hyperactive trading in multiple weekly expiring contracts leads to short holding periods and increased market volatility, particularly on expiry days. “By limiting the availability of these products, SEBI is focusing on reducing the volume of purely speculative trades, and thereby curbing the frequent price fluctuations that can destabilise the market,” he said.

4. Intra-day monitoring of position limits

Amid large volumes of trading on expiry day, there is a possibility of undetected intra-day positions beyond permissible limits. “To address the risk of position creation beyond permissible limits…existing position limits for equity index derivatives shall henceforth also be monitored intra-day by exchanges,” SEBI said. This will be effective from April 1, 2025.

IMPLICATION: Intra-day monitoring of position limits, rather than just end-of-day checks, reflects a commitment to ensuring real-time compliance with regulatory norms. “By implementing random intra-day snapshots, SEBI is trying to proactively prevent speculative excesses and maintain orderly market behaviour throughout the day,” Sharma said.

5. Removal of ‘calendar spread’ treatment on expiry day

Expiry day can see significant ‘basis’ risk, where the value of a contract expiring on the day can move very differently from the value of similar contracts expiring in future. Given the large volumes on expiry day, from February 1, 2025, the benefit of offsetting positions across different expiries (‘calendar spread’) will not be available on the day of expiry for contracts expiring on that day, SEBI said.

IMPLICATION: “This will force players to do rollovers early and not wait until expiry day, easing expiry day ‘basis’ speculation,” Sanghavi said. ‘Basis’ is the difference between the futures price and stock price, which is majorly impacted during rollovers — ultimately impacting the underlying asset price and leading to undesired movement in prices of all derivatives instruments of the underlying asset.

6. Increase in ‘tail risk’ coverage on day of expiry

The regulator has increased the ‘tail risk’ coverage by levying an additional ‘Extreme Loss Margin’ (ELM) of 2% for short options contracts. ELM is the margin that exchanges charge over and above the normal margin requirement. Tail risk is the chance of a loss due to a rare event.

IMPLICATION: This will ensure that market participants have more skin in the game, particularly on days when volatility spikes, Sharma said. “It acts as a buffer against abrupt market moves driven by leveraged short options, protecting both investors and the broader market ecosystem from significant downside risk,” he said.