SEBI Plans To Rationalise Margin System In Derivatives Segment
The headquarters of the Securities and Exchange Board of India (SEBI) in Bandra-Kurla Complex, Mumbai, India. (Photographer: BloombergQuint)

SEBI Plans To Rationalise Margin System In Derivatives Segment

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The Securities and Exchange Board of India is planning to rationalise margin system in the equity and commodity derivatives segments to boost liquidity and bring down the trading cost, industry officials said.

The market regulator is expected to come out with the new margin system this week, they said. The framework has been prepared based on the recommendations by the capital markets regulator’s risk management review committee.

Margin, in market parlance, is the minimum fund or security an investor is required to pay to the stock broker before executing a trade. This is basically part of the money collected by the bourses from brokerages upfront, before giving exposure for trading in equity and commodity derivatives.

Under the new framework, SEBI is likely to lower margin for a hedged position, which will benefit market participants, especially hedgers, officials said.

The new margin system will be based on standard portfolio analysis of risk-model, developed by NSE Clearing Corporation and International Organization of Securities Commissions’ principles, they said. Market participants said currently margins were on the higher side compared to those levied by global exchanges.

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Besides, there are numerous margins levied by exchanges on members, which pushes up the overall cost of trading. These include initial, premium and assignment margins.

An initial margin paid by the broker is based on the “standard portfolio analysis of risk” model. Also, it charges members a premium margin and an assignment margin, in addition to the initial margin.

Premium margin, charged to members, is the client-wise premium amount payable by the buyer of the option and is levied till the completion of pay-in towards the premium settlement. An assignment margin is levied on assigned positions of members till the payment towards settlement obligations is complete.

As part of the margin rationalisation, SEBI is likely to lower margins, which will help market participants to transact more, eventually leading to improved liquidity situation and reduced impact cost.

In November 2019, SEBI had asked trading and clearing members to compulsorily collect upfront margins from their clients in the cash segment. The move became effective from Jan. 1, 2020.

Under the guidelines, trading and clearing members need to report to the stock exchange about the actual short-collection or non-collection of all margin from clients.

From April 1, non-compliance of this would be penalised, which brokers would have to pass on to their clients, impacting trading volumes.

Derivatives in financial markets typically refer to the forward, future, option or any other hybrid contract of pre-determined fixed duration, linked for the purpose of contract fulfilment to the value of a specified real or financial asset or to an index of securities.

Broadly, there are two types of derivative contracts — futures and options.

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A futures contract means a legally binding agreement to buy or sell the underlying security on a future date, while options contract gives the buyer or holder of the contract the right (but not the obligation) to buy or sell the underlying asset at a predetermined price within or at end of a specified period.

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