Seven stocks have been placed under the Futures and Options (F&O) trade ban on Monday. These include Bandhan Bank, Birlasoft, Gujarat Narmada Valley Fertilizers & Chemicals (GNFC), Granules India, Hindustan Copper, Manappuram Finance, and RBL Bank.
What It Means
One basic thing to understand here is, that if you’re dealing only in the Cash segment of any equity that has an Option, you don’t need to worry.
Now coming to the F&O ban and how it’s implemented, it’s fairly straightforward: Every Option has a metric called OI or Open Interest. Open Interest indicates essentially the amount of interest in that particular option. It is an indicator of volume and sentiment.
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In case the OI crosses 95 per cent, that is when a trade ban is imposed, whereby SEBI feels that some manipulation is happening in the Option trade. As the OI falls below 80 per cent, then you can take a positional bet and the ban gets lifted,” says Saksham Malik, Founder, Rabbit Invest, an AI-led mutual fund advisor.
He explains. So for example, if everyone believes that a stock that is Rs 100 today, will reach Rs 120 in three month’s time, and starts buying a call option of Rs120. Let’s say for this stock the market-wide position limit (MWPL) was 10,000 contracts, then when 9,500 people purchase this call option, post that there will be a trade ban, I.e., no new participant, buyer, or seller will be allowed to enter for a period of one day.
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Understanding MWPL
MWPL or the maximum number of positions (contracts) that can be entered in relation to a particular stock’s options. It is done to put a cap on the size of the position, reduce the concentration of holdings, and safeguard against volatility. It is important in F&O primarily because it limits any manipulative activity, and concentration risk at the hands of a few large investors. Complicated risk models are used by the exchange to decide the MWPL by using factors like market cap., liquidity, and the volatility of the underlying securities.
“For people who want to exercise or square off positions and already hold the contract, there is no difference they can do it. You’re allowed to still exercise or square off the positions till that particular day if you hold the positions post that you could attract the penalisation by the exchange,” says Malik.
This is essentially done to prevent investors from overcrowding a particular stock and reducing an instance of manipulation. As the markets tanked previously and the market was on a rebound, there was an OI of more than 95 per cent on the Call options of the listed seven securities, and therefore, the automatic ban limit was surpassed.
