The Hindu Business Line : `Anomaly' in derivatives trade: Investors at a disadvantage

LAST Thursday, when the sharply plummeting Infosys stock was being quoted at Rs 3,010 in the cash segment, the lowest strike price in the option segment was available at Rs 3,800 on the National Stock Exchange. Again on Friday, when the tech heavyweight tumbled to Rs 2,300, the lowest strike price available was at Rs 2,800.

This has raised questions in market circles about the relevance of the strike price windows on the NSE. Why can't the exchange change the strike price intra-day if the situation demands, asked a derivatives trader.

"If you allow the spot or the futures markets to trade in any price, why on earth are you not opening the relevant strike price windows?" wondered Mr V.K. Sharma, Chief Analyst at Anagram Stockbroking.

For a buyer of a put or a call option, the loss cannot exceed the premium he pays. So investors and traders prefer buying out-of-the-money puts or calls for better leveraging, so that they can decide how much risk they want. This advantage was not available to Infosys investors last week as they could not choose the relevant strike price.

Professor J.R. Verma, Chairman of the derivatives advisory committee of the Securities and Exchange Board of India, told Business Line that the issue had cropped up because the Infosys stock had a steep fall in the cash segment on April 10 and 11. The stock's fall on Thursday had a magnitude of 10 standard deviation.

"According to the current norms, the new strike prices are determined on the basis of the previous day's closing prices and not changed during the day. This is the accepted practice for fixing strike prices in the developed markets also. However, I feel, the NSE authorities may give a relook at the issue and consider adjusting the strike prices intra-day if the spot price of the underlying moves up or down unusually," he said.

According to Mr Mathew Easow of Mathew Easow Research Securities, the NSE should provide correct strike price and immediately change this restrictive practice. The software, which was responsible for the trouble, should be changed forthwith, he felt.

"It is very unfortunate for the investors that on the one hand the system permits a free fall in the spot price, on the other, the hedging mechanism restricts it. The practice goes against the regulator's stated objective of investor protection," he added.

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