F&O volumes likely to decline 30% on tighter peak margin regulation

A further 20-30 per cent decline in retail derivatives volumes is likely as phase two of peak margin norms kicks in from March 1. Retail participation in the F&O segment — especially that for options writers on expiry days — has already been impacted owing to these norms, which became effective from December 1.

The derivatives turnover on weekly expiry days on the NSE in December in the index futures segment, for instance, came off 41 per cent over the previous month, while that for index options reduced 19 per cent, the data from brokerage Prabhudas Lilladher showed.

Peak margin rules dictate a short-margin penalty — ranging from 0.5-5 per cent of the shortfall per day — if brokers fail to secure the minimum margin for intraday positions.

Market regulator Sebi has effectively capped the leverage that’s possible in derivatives to four times the margin in phase 1 and a penalty is levied if margin blocked is less than 25 per cent of the minimum 20 per cent of the trade value (VAR+ELM) for stocks or SPAN+Exposure for F&O. From March 1, penalty will be levied if margin blocked is less than 50 per cent of the minimum margin required. 

The maximum intraday leverage that can be offered by a broker will keep reducing until September 1, 2021. After this, a broker can provide maximum leverage that is equal to SPAN+exposure for the F&O segment and VAR+ELM for the cash segment.

SPAN is standard portfolio analysis of risk, VAR is value at risk, and ELM is extreme risk margin — metrics used to determine the risk to investment for a particular security.

“Until February 2021, we will not be affected directly as the leverages we offer won’t change. But after that and especially after intraday leverages are completely removed by September 2021, our intraday business will be affected by at least 30-40 per cent, which can potentially mean around 20-30 per cent hit in terms of overall revenue,” said Nithin Kamath, CEO, Zerodha.

The F&O segment contributes about 40-60 per cent to revenues of retail brokers.

On February 9, the stock exchange NSE warned brokers against entering into arrangements with non-banking financial companies to fund the peak margin requirements of their clients. It said trading members should not finance or act as a conduit or front for financing any secondary market transactions or margin requirements for their clients unless it conforms to the regulatory provisions of Margin Trading Facility and Securities Lending and Borrowing mechanisms. This may further plug the loophole brokers used for financing clients.

To be sure, overall derivatives volumes have surged to record highs in the last three months, despite the peak margin norms, averaging Rs 38 trillion compared with Rs 20 trillion in 2020.

Until December last year, it was common for brokers to offer leverage of 4-8x for intraday trading in the F&O segment, going as high as 30-40x. The end-of-day margin reporting allowed broking customers to take intraday positions with margins far lesser than VAR+ELM or SPAN+Exposure.

The additional intraday leverages that were offered through products such as MIS would be squared off before the close of trading hours, ensuring there is no margin penalty on the end of the day open positions.