Market regulator Securities and Exchange Board of India on Thursday allowed stock exchanges to appoint market makers in the derivatives segment.
These market makers, appointed and incentivised in a transparent manner, can operate for a maximum of six months.
The move will help Bombay Stock Exchange, which has been trying to prop up its near-zero market share in futures and options. “BSE has been pushing for this for two years. The new guidelines allow exchanges to increase liquidity in a transparent manner. This is how globally deep and liquid financial markets are created,” said Sayee Srinivasan, head product strategy, Bombay Stock Exchange.
| TOP 10 ILLIQUID SECURITIES | |||
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*Average Notional Value (options & futures) for the last 60 trading sessions
Compiled by BS Research Bureau
It will also help new exchanges like United Stock Exchange and MCX Stock Exchange get a headstart as and when they launch equity derivative products.
“In consultation with BSE, MCX-SX, NSE and USE, it has been decided to permit Stock Exchanges to introduce one or more liquidity enhancement schemes (LES) to enhance liquidity of illiquid securities in their equity derivatives segments,” a Sebi circular said.
While Sebi allowed a new stock exchange to appoint market makers for all new derivative products it launches, for existing exchanges, the provision is limited to new products and illiquid securities among the existing ones.
Derivative contracts whose average trading volume is less than 0.1 per cent of the market cap of the underlying will be considered as illiquid. An average of 60 trading days will be considered for this purpose.
While most stock futures and options contracts on BSE will qualify under this category, several contracts on the NSE F&O segment are also likely to qualify for LES.
According to BS Research Bureau, at least 27 securities among the stock futures were illiquid as per the definition of Sebi. An NSE spokesperson said NSE welcomed the circular and hoped to implement it soon.
According to the circular, the stock exchange shall ensure the LES, including any modification therein or its discontinuation, has the prior approval of its board. Sebi also directed the exchange's board to monitor the implementation and outcome of the schemes at quarterly intervals.
Sebi also asked the exchanges to quantify the obligations and incentive structures for market makers. They should be “non-discretionary and non-discriminatory,” the circular said. Exchanges can provide these incentives either as discount in fees, adjustment in fees in other segments or cash payment. They can also compensate the market maker through stock.
However, these incentives will be subject to a cap of 25 per cent of net profits or free reserves in a particular year. If the exchange issues shares, these cannot exceed 25 per cent of the shares outstanding.
Exchanges are also required to announce the appointment of such market makers at least 15 days in advance and give monthly reports of their performance.
Srinivasan said these rules give sufficient freedom for the exchanges to structure the schemes unlike the earlier rules on market making which had one condition too many.
One catch for BSE could be that rival exchanges are allowed to launch similar schemes in the same security, though their contracts are not illiquid. However, such schemes cannot continue beyond the closure of the original LES.
