Sebi order: Big institutions can hedge, but not speculate

The Securities and Exchange Board of India (Sebi) has decided to crackdown on excessive volatility by imposing several different measures, which will impact traders as well as institutional investors. In particular, speculators in stock futures will have to cut down exposures as the market wide position limit (MWPL) has been reduced to 50 per cent in phases, from the existing 95 percent, for specific F&O stocks.

Margins have also been hiked in the cash segment for both F&O and non F&O stocks, while institutions will have to restrict their F&O positions in the index derivatives segment to stay within a new criteria of cash and cash-equivalents on the long side and value of stock holdings on the short side. In practice, this means a cap of Rs 500 crore has also been imposed on index derivative contracts. The penalties for non-compliance have been hiked steeply to 10x of the minimum prescribed by the exchanges, in certain instances. These measures will be in force for a month, starting Monday.

The impact would be highest on high-volatility F&O stocks. Quite a few may go into the ban period since the MWPL will exceed 50 per cent in several instances. Counters such as NCC, Indiabulls Housing Finance, Jindal Steel & Power, Just Dial, Adani Enterprises, Canara Bank, etc. would likely be immediately placed in the ban period for derivatives trading. Some more stocks could also be impacted, depending on the trading pattern. This may affect roughly 10 per cent of the F&O stocks, according to estimates of market operators. Higher margins would also very likely lead to a reduction in non-delivery volumes in both F&O and cash segment.

Is this measure likely to lead to a reduction in volatility? Perhaps. However, since it will also impact volume in specific F&O counters where offsetting will be required, we may actually see a situation where prices swing more on lower volumes, due to reduction of the liquidity.

The restrictions on index derivative trading are as follows. If an institution – Mutual Fund, foreign portfolio investors (FPI), proprietary trader – exceeds a short or long index position (option and future combined) of Rs 500 crore notional value, they will have either to produce stocks of equivalent value, or put up cash equivalents. In effect, this means that big institutions can hedge, but not speculate.

This should restrict the wilder swings of the indices (Nifty and Bank Nifty mainly) since it would remove a lot of firepower from the market. However, while the daily price fluctuations may be reduced in amplitude, the trend which has been net bearish is unlikely to change.

In the short run, leading up to the March settlement, prices could rise to some extent, as there will be short-covering at several high-volume counters. But, a negative trend has developed over the last month due to nervousness about Covid-19, and it is likely to reverse only if nervousness about the pandemic eases.

The Indian market regulator’s actions are in line with similar, and more extreme measures being undertaken by various market regulators. Regulators in Europe have imposed bans and restrictions on short-selling and some smaller markets have shut down. Supportive central bank statements and action by the Federal Reserve and the European Central bank has not loosened the bear grip either. While the Reserve Bank of India (RBI) is expected to be supportive in its April Monetary Policy review, this has also been discounted by most traders.

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Disclaimer: Devangshu Datta is an independent market expert. Views are his own.