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Physical Settlement in Equity Derivatives - July, 2019 review
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SEBI in 2018 had issued framework for making physical settlement of stock derivatives mandatory, and planned to enforce it in a phased manner. Traders have to compulsorily take delivery of shares on the expiry day against their derivative (F&O) positions. An earlier post on details about physical settlement in equity derivatives is here.

For this purpose, stocks were ranked in descending order based on daily market capitalization averaged for December 2018. Based on the ranking arrived, it was decided that the bottom 50 stocks would move to physical settlement from end of April 2019 expiry onwards, the next 50 would move to physical settlement from end of July 2019 expiry onwards, and the remaining would move to physical settlement from end of October 2019 expiry onwards. In addition, SEBI said derivatives introduced in any new stocks, meeting the enhanced eligibility criteria specified by it, would also be physically settled. [There have been no new stocks introduced in F&O since April 2019]

The stocks that are moving to physical settlement from end of July expiry or start of August expiry (effective 26 July, 2019) onwards are as below:


Sr. No.

Company Name

Symbol

1

ACC LIMITED

ACC

2

AMBUJA CEMENTS LIMITED

AMBUJACEM

3

ASHOK LEYLAND LIMITED

ASHOKLEY

4

AUROBINDO PHARMA LIMITED

AUROPHARMA

5

BANK OF BARODA

BANKBARODA

6

BHARAT FORGE LIMITED

BHARATFORG

7

BHARAT HEAVY ELECTRICALS LIMITED

BHEL

8

BIOCON LIMITED

BIOCON

9

CADILA HEALTHCARE LIMITED

CADILAHC

10

CIPLA LIMITED

CIPLA

11

COLGATE PALMOLIVE (INDIA) LIMITED

COLPAL

12

CONTAINER CORPORATION OF INDIA LIMITED

CONCOR

13

CUMMINS INDIA LIMITED

CUMMINSIND

14

DIVI'S LABORATORIES LIMITED

DIVISLAB

15

DLF LIMITED

DLF

16

DR. REDDY'S LABORATORIES LIMITED

DRREDDY

17

GRASIM INDUSTRIES LIMITED

GRASIM

18

HAVELLS INDIA LIMITED

HAVELLS

19

HINDALCO INDUSTRIES LIMITED

HINDALCO

20

HINDUSTAN PETROLEUM CORPORATION LIMITED

HINDPETRO

21

INDIABULLS HOUSING FINANCE LIMITED

IBULHSGFIN

22

ICICI PRUDENTIAL LIFE INSURANCE COMPANY LIMITED

ICICIPRULI

23

VODAFONE IDEA LIMITED

IDEA

24

INTERGLOBE AVIATION LIMITED

INDIGO

25

BHARTI INFRATEL LIMITED

INFRATEL

26

L&T FINANCE HOLDINGS LIMITED

L&TFH

27

LIC HOUSING FINANCE LIMITED

LICHSGFIN

28

LUPIN LIMITED

LUPIN

29

MAHINDRA & MAHINDRA FINANCIAL SERVICES LIMITED

M&MFIN

30

MARICO LIMITED

MARICO

31

UNITED SPIRITS LIMITED

MCDOWELL-N

32

MOTHERSON SUMI SYSTEMS LIMITED

MOTHERSUMI

33

MRF LIMITED

MRF

34

NMDC LIMITED

NMDC

35

PAGE INDUSTRIES LIMITED

PAGEIND

36

PIRAMAL ENTERPRISES LIMITED

PEL

37

PETRONET LNG LIMITED

PETRONET

38

POWER FINANCE CORPORATION LIMITED

PFC

39

PIDILITE INDUSTRIES LIMITED

PIDILITIND

40

PUNJAB NATIONAL BANK

PNB

41

RBL BANK LIMITED

RBLBANK

42

SHRIRAM TRANSPORT FINANCE COMPANY LIMITED

SRTRANSFIN

43

SUN TV NETWORK LIMITED

SUNTV

44

TATA MOTORS LIMITED

TATAMOTORS

45

TATA STEEL LIMITED

TATASTEEL

46

TORRENT PHARMACEUTICALS LIMITED

TORNTPHARM

47

TVS MOTOR COMPANY LIMITED

TVSMOTOR

48

UPL LIMITED

UPL

49

YES BANK LIMITED

YESBANK

50

ZEE ENTERTAINMENT ENTERPRISES LIMITED

ZEEL

 

In cash settlement in futures & options, the seller of the financial instrument does not deliver the actual (physical) underlying asset upon expiration or exercise, but instead pockets out the losses or pockets in the gains (depends whether he is on the losing position of gaining position).

When such contracts require physical settlement, it forces traders to roll over positions ahead of the expiry, thus averting lumping of rollovers at the end of the series, which leads to excessive volatility. SEBI’s move on physical settlement of derivatives is aimed to curb the excessive speculation on individual stocks that creates huge volatility.

Pros:

  1. F&O rollovers, which happen near to expiry, might witness rollover a week prior to expiry to avoid lack of liquidity.
  2. Volumes will grow on the indices during the expiry week (as indices still remain under cash settlement).

Cons:

  1. Reduction in liquidity impacts price discovery and broaden bid-ask spread. Generally, 90% of traders use to rollover their position on the day of expiry, now due to physical delivery; they may do that before expiry. Few brokers are putting restrictions 3-4 days ahead of expiry to stop trading in such scripts.
  2. Physical delivery could also reduce short selling. Short sellers will now have to first borrow stocks under the SLB (securities lending and borrowing) mechanism, which allows borrowing of securities from institutional investors. But that space still remains shallow in India.

 

Note: Please do not consider this blog as a recommendation; it is purely for informative purpose only. The author(s) and Adroit research team may have some positions based on this analysis and may have recommended to clients. Please assume we are biased and do consult your financial advisor before taking any positions. There is no other relationship between the author(s) and Adroit research team; and the above company.

For full disclosure, click here.

 

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