of 26
8/9/2019 Option presentation
1/26
RULES AND REGULATIONS
OF DERIVATIVES MARKETS -
OPTIONS
8/9/2019 Option presentation
2/26
REGULATORY
FRAMEWORK
The trading of
derivatives
is governed byprovisions contained
SC(R)A [Securities Contract
Regulation Act] 19!
S"#$ Act 199% Stoc& e'changes
rulesa
ndby
e)la
*sof
8/9/2019 Option presentation
3/26
The derivatives e'change+seg,ent should have a separate governing
council
The e'change have to obtain prior approval of S"#$ before start of trading
in any derivative contract
The ,e,bers of the derivative seg,ent *ould need to fulfill the eligibility
conditions as laid do*n by the - C .upta co,,ittee
The clearing and settle,ent of derivatives trades *ould be through aS"#$ approved clearing corporation+house ie /SCC- (The /ational
Securities Clearing Corporation -i,ited)
REGULATION FOR DERIVATIVES TRADING
0erivative bro&ers+dealers and clearing ,e,bers are reuired to get
registered *ith S"#$ (Securities "'change #oard of $ndia)
Representation of trading+clearing ,e,bers shall be li,ited
to ,a'i,u, of 234 of the total ,e,bers of the governing council
8/9/2019 Option presentation
4/26
The ,ini,u, net*orth reuired for clearing ,e,bers of the derivatives
clearing corporation+house shall be Rs533 -a&h
The ,ini,u, contract value shall not be less than Rs% -a&h
The initial ,argin reuire,ent6 e'posure li,its and ,argin de,ands
related to the ris& of loss on the position *ill be prescribed by S"#$+"'change
fro, ti,e to ti,e
The ,e,bers of the derivatives seg,ent are also reuired to ,a&e their clients
a*are of the ris&s by issuing to the client the Ris& 0isclosure 0ocu,ent and
obtain a copy of the sa,e duly signed by the client
The trading ,e,bers are reuired to have ualified approved user and
sales person *ho have passed a certification progra,,e approved by
S"#$
8/9/2019 Option presentation
5/26
7e,bers and dealer6 authori8ed dealer have to fulfill certain reuire,ents and
provide collateral deposits to beco,e ,e,bers of the :; seg,ent
To beco,e ,e,ber of :; seg,ent one has to ta&e ,e,bership of holesale 0ebt 7ar&et) and :; seg,ent=
An e'isting ,e,ber of C7 seg,ent can also ta&e ,e,bership of :;
seg,ent
A trading ,e,ber can also be a clearing ,e,ber by ,eeting additional
reuire,ents There can also be only clearing ,e,bers
8/9/2019 Option presentation
6/26
OPTION MECHANICS
TRADING OF OPTIONS
CLEARING
SETTLEMENT
MARGINS
8/9/2019 Option presentation
7/26
Stoc& options are A,erican style ie options are auto,atically e'ercised
on the e'piration day6 and voluntary prior to the e'piration day of the
option contract
Trading in stoc& options co,,enced on the /S" fro, ?uly %331.
These contracts are A,erican style and are settled in cash
The e'piration cycle for stoc& options is the sa,e as for inde' futuresand inde' options
/S" provides a ,ini,u, of seven stri&e prices for every option
type (ie call and put) during the trading ,onth
;n /S"6 inde' options are "uropean style6 ie options are auto,atically
e'ercised on the e'piration day
TRA0$/. $/ ;@T$;/
A ne* contract is introduced on the trading day follo*ing the e'piry of the
near ,onth contract
8/9/2019 Option presentation
8/26
inal settle,ent price Closing price of underlying on e'ercise day or
e'piry day
Trading cycle The options contracts *ill have a ,a'i,u, of three ,onth tradingcycle B the current ,onth (one)6 the ne't ,onth (t*o) and the far ,onth (three)
/e* contract *ill be introduced on the ne't trading day follo*ing the e'piry of
near ,onth contract
"'piry day The last Thursday of the e'piry ,onth or the previous tradingday if the last Thursday is a trading holiday
Settle,ent basis 0aily settle,ent on T1 basis and final option e'ercise
settle,ent on T1 basis
Security descriptor / ;@TSTD
Details of options
8/9/2019 Option presentation
9/26
Entities in the trading system
There are for entities in the tra!in" s#ste$.
Tra!in"
$e$%ers
Clearin"
$e$%ers
Professional
&learin" $e$%ers
Parti&ipants
8/9/2019 Option presentation
10/26
This $0 is co,,on for all users of a particular trading ,e,ber
Trading
,e,bers
Trading ,e,bers are ,e,bers of /S"
They can trade either on their o*n account or on behalf of their clients
including participants
The e'change assigns a trading ,e,ber $0 to each trading ,e,ber
"ach trading ,e,ber can have ,ore than one user
The uniue trading ,e,ber $0 functions as a reference for all orders+trades
of different users
"ach user of a trading ,e,ber ,ust be registered *ith the e'change and is
assigned an uniue user $0
The nu,ber of users allo*ed for each trading ,e,ber is notified bythe e'change fro, ti,e to ti,e
8/9/2019 Option presentation
11/26
A participant is a client of trading ,e,bers li&e financial institutions
Clearing
,e,bers
Clearing ,e,bers are ,e,bers of /SCC-
@rofessional
clearing ,e,bers
is a clearing ,e,ber *ho is not a trading ,e,ber
Typically6 ban&s and custodians beco,e professional clearing ,e,bers and
clear and settle for their trading ,e,bers.
@articipants
They carry out ris& ,anage,ent activities and confir,ation+inuiry of tradesthrough the trading syste,
These clients ,ay trade through ,ultiple trading ,e,bers but settle through
a single clearing ,e,ber
8/9/2019 Option presentation
12/26
$f it finds a ,atch6 a trade is generated $f it does not find a
,atch6 the order beco,es passive and goes and sits in the respective
outstanding order boo& in the syste,
BASIS OF TRADING
The /"AT :; syste, supports an order driven ,ar&et6 *herein orders
,atch auto,atically
;rder ,atching is essentially on the basis of security6 its price6 ti,e and uantity
All uantity fields are in units and price in rupees
The e'change notifies the regular lot si8e and tic& si8e for each of the contracts
traded on this seg,ent fro, ti,e to ti,e
>hen any order enters the trading syste,6 it is an active order $t tries to find a
,atch on the other side of the boo&
8/9/2019 Option presentation
13/26
CLEARING AND SETTLEMENT
/ational Securities Clearing Corporation -i,ited (/SCC-) underta&es
clearing and settle,ent of all trades e'ecuted on the futures and options
(:;) seg,ent of the /S"
Clearing and settle,ent activities in the ;ption seg,ent are underta&en by
/SCC- *ith the help of the follo*ing entities
CLEARING ENTITIES
Clearing banksClearing members
8/9/2019 Option presentation
14/26
Clearing members
Self clearing
,e,bers
Trading ,e,berBcu,
Bclearing ,e,ber (T7s)
@rofessional clearing
,e,bers (@C7)
clear and settle their trades e'ecuted by the, only either on their
o*n account or on account of their clients
clear and settle their o*n trades as *ell as trades of
other trading ,e,bers (T7s)
is a special category of ,e,bers
clear and settle trades e'ecuted by other trading
,e,bers (T7s)
8/9/2019 Option presentation
15/26
The Clearing and Settle,ent process co,prises of the follo*ing
three ,ain activities1) Clearing
%) Settle,ent
5) Ris& 7anage,ent
Clearing banks
unds settle,ent ta&es place through clearing ban&s
or the purpose of settle,ent all clearing ,e,bers are reuired to open a
separate ban& account *ith /SCC- designated clearing ban& for ;ption
seg,ent
8/9/2019 Option presentation
16/26
@roprietary positions are calculated on net basis (buy B sell) for each contract
$nvolves *or&ing out open positions and obligations of clearing (selfB
clearing+tradingBcu,Bclearing+professional clearing) ,e,bers
This position is considered for e'posure and daily ,argin purposes
The open positions of C7s are arrived at by aggregating the open positions of
all the T7s and all custodial participants clearing through hi,6 in contracts in
*hich they have traded
A T7Es open position is arrived at as the su,,ation of his proprietary openposition and clientsE open positions6 in the contracts in *hich he has traded
>hile entering orders on the trading syste,6 T7s are reuired to identify the orders6
*hether proprietary (if they are their o*n trades) or client (if entered on behalf of
clients) through E@ro+CliE indicator provided in the order entry screen
ClientsE positions are arrived at by su,,ing together net (buy B sell) positions
of each individual client A T7Es open position is the su, of proprietary open
position6 client open long position and client open short position
CLEARING
8/9/2019 Option presentation
17/26
SETTLEMENT MECANISM
All futures and options contracts are cash settled6 ie through e'change of
cashThe underlying for inde' futures+options of the /ifty inde' cannot be
delivered These contracts6 therefore6 have to be settled in cash
Se!!lemen! "# "$!i"ns %"n!ra%!s
0aily @re,iu,
Settle,ent
"'ercise
Settle,ent
$nteri, "'ercise
Settle,ent
;ptions contracts have three types of settle,ents
in the case of option contracts on securities and final settle,ent
8/9/2019 Option presentation
18/26
Dail& $remi'm se!!lemen!
#uyer of an option is obligated to pay the pre,iu, to*ards the
options purchased by hi,
The seller of an option is entitled to receive the pre,iu, for the
option sold by hi,
The pre,iu, payable a,ount and the pre,iu, receivable a,ount
are grouped to co,pute the net pre,iu, payable or receivable
a,ount for each client for each option contract
8/9/2019 Option presentation
19/26
E(er%ise se!!lemen!
There is al*ays a possibility of the option seller being assigned
an e'ercise
;nce an e'ercise of an option has been assigned to an option seller6
the option seller is bound to fulfill his obligation (,eaning6 pay the cash
settle,ent a,ount in the case of a cashBsettled option) even though
he ,ay not yet have been notified of the assign,ent
understanding of e'ercise can help an option buyer deter,ine
*hether e'ercise ,ight be ,ore advantageous than an offsettingsale of the option
8/9/2019 Option presentation
20/26
$nteri, e'ercise settle,ent is effected for such options at the close
of the trading hours6 on the day of e'ercise
An investor can e'ercise his inBtheB,oney options at any ti,e during
trading hours6 through his trading ,e,ber
Ta&es place only for option contracts on securities
.
.
In!erimE(er%ise se!!lemen!
Falid e'ercised option contracts are assigned to short positions in the option
Contract *ith the sa,e series (ie having the sa,e underlying6 sa,e e'piry
date and sa,e stri&e price)6 on a rando, basis6 at the client level
8/9/2019 Option presentation
21/26
$s effected for all open long inBtheB,oney stri&e price options e'isting at the
close of trading hours6 on the e'piration day of an option contract
FinalE(er%ise se!!lemen!
The investor *ho has long inBtheB,oney options on the e'piry
date *ill receive the e'ercise settle,ent value per unit of the option fro,
the investor *ho has been assigned the option contract
All such long positions are e'ercised and auto,atically assigned to short
positions in option contracts *ith the sa,e series6 on a rando, basis
8/9/2019 Option presentation
22/26
/SCC-Es onBline position ,onitoring syste, ,onitors a Clearing 7e,bers
open @ositions on a realBti,e basis
The open positions of the ,e,bers are ,ar&ed to ,ar&et based on
contract settle,ent price for each contract The difference is settled in
cash on a T1 basis
$t specifies the initial ,argin reuire,ents for each options
Contract on a daily basis
The financial soundness of the ,e,bers in ter,s of capitaladeuacy (net *orth6 security deposits) should be strong
A co,prehensive ris& contain,ent ,echanis, for the
;ptions seg,ent
RISK MANAGEMENT
/SCC-developed
eatures
8/9/2019 Option presentation
23/26
A separate settle,ent guarantee fund for this seg,ent has been created out
of the capital of ,e,bers
/SCC- assists the Clearing 7e,ber to ,onitor the intraBday e'posure li,its set
up by a Clearing 7e,ber and *henever a Trading ,e,ber e'ceed the li,its6
it stops that particular Trading ,e,ber fro, further trading
A ,e,ber is alerted of his position to enable hi, to adGust his capital @ositionviolations result in *ithdra*al of trading facility for all T7s of a Clearing 7e,ber
in case of a violation by the C7
@R$S7 uses S@A/(r) (Standard @ortfolio Analysis of Ris&) syste, for the purpose
of co,putation of onBline ,argins6 based on the para,eters defined by S"#$
The actual position ,onitoring and ,argining is carried out onBline through@arallel Ris& 7anage,ent Syste, (@R$S7)
The ,ost critical co,ponent of ris& contain,ent ,echanis, for ;ptions seg,ent
is the ,argining syste, and onBline position ,onitoring
Types of margins
8/9/2019 Option presentation
24/26
Types of margins
$nitial ,argin
7argin in the ;ption seg,ent is co,puted by /SCC- upto client level for openpositions of C7s+T7s
'
These are reuired to be paid upBfront on gross basis at individual client level for
client positions and on net basis for proprietary positions
A C7 is reuired to ensure collection of adeuate initial ,argin fro, his T7s
upBfront The T7 is reuired to collect adeuate initial ,argins upBfront fro,
his clients
/SCC- collects initial ,argin for all the open positions of a C7 based on the
,argins co,puted by /S"BS@A/
8/9/2019 Option presentation
25/26
The ,argin is charged on the net e'ercise settle,ent value payable by a C7
to*ards interi, and final e'ercise settle,ent
$n addition to initial ,argin6 pre,iu, ,argin is charged at client level This ,argin
is reuired to be paid by a buyer of an option till the pre,iu, settle,ent is co,plete
@re,iu, ,argin
Assign,ent ,argin for options on securities
$s levied in addition to initial ,argin and pre,iu, ,argin
$t is reuired to be paid on assigned positions of C7s to*ards interi, and
inal e'ercise settle,ent obligations for option contracts on individual
securities6 till such obligations are fulfilled
8/9/2019 Option presentation
26/26
Additionally ,e,bers are also reuired to report details of ,argins collected
fro, clients to /SCC-
Client ,argins
/SCC- inti,ates all ,e,bers of the ,argin liability of each of their client