NSE seeks higher number of stocks in derivatives segment to boost market

Exchange seeks higher number of stocks in derivatives segment to boost market development

The National Stock Exchange of India (NSE) — the country’s largest exchange — has written to the Securities and Exchange Board of India (Sebi) over the issue of expulsion of stocks from the derivatives segment.  

According to people in the know, the exchange has expressed concerns over large number of stocks moving out of the derivatives segment, in order to adhere to the stringent inclusion and trading framework laid down by the markets regulator. 

The people added that the NSE has made a representation to Sebi, highlighting how the derivatives market helps in improving liquidity in the cash market. Therefore, pruning stocks from the futures and options (F&O) segment could impact liquidity and price discovery in the cash segment, the exchange pointed out.

Citing the global trend, the NSE made a case to allow derivatives trading in the top 500 companies by market value, said people with the knowledge of the development. 

The bourse declined to comment on the issue, while Sebi didn’t immediately respond to a query sent by Business Standard.

“The risk management and surveillance measures for the derivatives market in India are more stringent as compared to most of the global markets. Given how closely our markets are regulated, there is a case for allowing more stocks in the derivatives segment to help the development of the overall market,” said a derivatives market expert, asking not to be identified.

At present, F&O contracts on 196 listed stocks are traded on the NSE, which has a near-monopoly in the equity derivatives segment.  

On Monday, the exchange announced that it would expel 37 securities from the derivatives segment with effect from June 28, to comply with Sebi guidelines issued last year. 

Upon removal of these securities, only 159 stocks — out of total listed universe of 1,900 — will be available for trading in the derivatives segment. This will result in the number of stocks traded in the F&O come down by a fourth from the peak of 215 a year ago. 

Furthermore, a large number of stocks in the derivatives are now physically settled, instead of cash. For physically settled contracts, buyers gets the underlying security in their dematerialised (demat) account as opposed to a cash transfer in the bank account. 

The people said Sebi is examining how introduction of physical settlement is playing out and if more securities can be allowed to trade in the F&O segment under compulsory physical delivery. 

In 2017, the markets watchdog had trained its guns on high derivatives turnover vis-à-vis the cash market turnover. 

The regulator was concerned that the high derivatives segment could be luring small investors towards the segment without fully understanding the risks. 

Since then, it has tightened the framework for the derivatives segment, directing the exchange to mandatority settle derivatives contracts of stocks physically, for those that fail to meet the liquidity criteria.  

Market players say the derivatives turnover in India seems to be high optically as the reporting is done in “notional value”. However, if the actual traded volumes are considered, the derivatives volumes are close to thrice the cash market volumes, which is in line with the global market trend.

An option for the future

• Over 1,900 stocks traded in NSE’s cash segment
• Of this, F&O contracts are available in 197 stocks
• Another 37 securities will be expelled from F&O in June
• At its peak, 215 securities were traded in F&O segment
• NSE has requested Sebi to allow more stocks in F&O 
• NSE has pointed out that the cash market benefits from the derivatives market
• Sebi examining if more stocks can be allowed under physical settlement