What is Futures and Options Ban?
When you start futures trading and options trading, you need to remember that sometimes, the stock exchange bans futures and options trading on certain stocks. When the exchange implements the ban, traders cannot open new positions on the said stock. However, they can square off their existing positions.
In this article, we will discuss the F&O ban and look at how and why a stock exchange bans futures and options trading on certain stocks.
What is F&O Ban?
Speculation is fundamental to futures trading and options trading. Traders analyze and try to assess the direction a stock price can take and buy or sell shares accordingly. This is speculation.
However, there are times when there is an excessive speculative activity in the F&O segment. This is the time the stock exchange bans a stock for futures trading or options trading. The level of speculation is determined using the Market Wide Position Limit or MWPL.
A stock exchange sets a limit to the maximum number of open futures or options contracts at any time. This is the MWPL. It is calculated by taking the lower of the following two figures:
- 30 x (Average number of shares traded daily in the cash segment in the preceding month)
- 20% of the number of shares that are not held by promoters
If the number of open contracts (Open Interest) exceeds 95% of all MWPL, then the exchange bans all futures and options trading in the said stock.
Suppose a trader violates the ban and creates a new position on the banned stock, then the exchange levies a penalty of one per cent of the value of the increased position after the ban. The minimum limit is ₹5000, and the maximum limit is ₹1 lakh.
Also, it is important to remember that the ban applies only to futures trading and options trading for the stock. Traders can create new positions in intraday trades without any restriction.
Also Read: Intraday Trading Tips for Traders
The ban is lifted by the exchange only when the open interest falls below 80 per cent of MWPL across stock exchanges. Once the ban is lifted, traders can start futures and options trading in the said scrip.
Points to Remember
- As a trader, if you are not aware of the open interest of the futures and options contracts in a security, then you might suffer heavy losses. Therefore, the NSE has a system in place where it displays an alert on its trading system once the open interest of futures and options contracts crosses 60 per cent of the MWPL. The trading system ensures that the alert is displayed every ten minutes.
- Stock market indexes do not have an MWPL. Therefore, traders in index contracts need not worry about the F&O ban.
- Since no new positions are allowed during a ban on futures and options trading, the stock price usually does not rise until the ban is lifted.
- When a stock is banned in the F&O segment by the stock exchange, traders can square off their existing positions but not enter into any new positions.
While the stock exchange imposes a ban on the futures trading and options trading of a stock to prevent excessive speculation, as a trader, you must ensure that you are aware of the MWPL limit to avoid unexpected losses.
So, if you are a trader participating in the derivatives segment, make sure that you track the open interest of the futures and options contracts. Since the exchange bans the stock after the open interest crosses per cent, you can start reducing your stock load by squaring off some positions.
Once the stock enters the F&O ban list, then normal trading will only resume once the open positions fall below 80 per cent of the MWPL.
Also Read: Pre Open Market Session in stock Market
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Frequently Asked Questions
The F& ban on a stock is not lifted until the open interest falls below 80 per cent of MWLP across stock exchanges. It is also important to remember that the ban applies only until the expiry of the F&O contract. Once the contract expires, the ban on futures and options trading of the stock is automatically lifted.
The F&O market usually has a lot of speculation done by traders. However, there are times when the speculative activity increases beyond a certain threshold. This is when the stock exchange bans the script for futures and options trading.
The threshold is as follows:
- MWPL is calculated as the lower of 20% of the number of shares held by non-promoters and 30 times the average number of shares traded daily in the cash segment in the preceding month.
- Open Interest is calculated as a percentage of the MWLP
If it exceeds 95% of the MWLP, then the stock is banned for futures and options trading