In the world, you would regularly come across the term futures and options ban period. But have you wondered-
What is the reason for stocks being banned?
How does it impact the trading strategy?
Well, let us know everything in detail.
Stocks that are traded in the term futures and option (F&O) segment have a limit on how many contracts can be open at any time. This limit is set by the exchange and is called the Market-wide positions limit (MWPL). The limit is based on the number of open positions, which means the number of contracts that have been created but not yet closed. When the open interest of a stock reaches 95% of the MWPL, all futures and options contracts for that stock enter a ban period. This means that no new positions can be created, either in futures or options that would increase the open interest of the stock. This restriction applies to all types of open interest, including futures, call options, and put options.
What leads to the ban?
Every day, the NSE releases a list of of banned stocks before trading starts. As mentioned earlier, Futures and Options (F&O)
contracts for a stock undergo a ban phase when the open interest for that stock surpasses 95% of the Market Wide Positions Limits (MWPL).
When a stock enters a ban period, no new positions can be created in any futures or options contracts for that stock. The stock exchange releases a list If the open interest in a stock (including all futures and options) exceeds 95% of the Market-wide positions limit (MWPL), fresh positions will be banned. This means you can only close existing positions during this time, not open new ones. The ban will be lifted when the open interest falls below 80% of the MWPL. However, the ban list does not in any way prevent you from trading the stock in the cash market.
Most brokers download the daily ban list and share it with their clients. If a broker allows positions in banned contracts, they will be penalized for breaking the rules.
The regulators aim to maintain market stability and protect investors from additional risks. If the trading activity poses a threat to market stability, a ban may be imposed to reduce these risks. Furthermore, F&O contracts can intensify volatility due to their leverage effect. An F&O ban aims to cool down the market and prevent sharp price swings.
Impact on Trading
No fresh positions: During the ban period, opening new F&O positions in the banned stock is prohibited. Existing positions can still be squared off (closed).
Reduced liquidity: With limited F&O activity, the stock's overall liquidity might decrease, impacting its price discovery process.
Effect on cash and derivatives prices
When a security lands on the ban list, its impact on cash and
derivative prices become a possibility. Particularly in illiquid securities,
the influence hinges on the stance of influential traders. For instance, if
major players are holding long positions in both futures and stocks, and
possess the means to meet marked-to-market margins, those shorting (selling) may face the heat to square their positions.
The dominance of strong players in setting prices arises because no new entrants can join the game during the ban period. Likewise, if influential traders take a short position in the stock, those on the long (buy) side may find themselves compelled to unwind their positions.
Duration of the Ban
F&O bans are temporary measures. The ban is imposed on the stock for fresh F&O positions once 95% of the MWPL limit is reached. Broking systems issue warnings to clients at 80%, 85%, and 90% so that they can prepare their strategy accordingly. Once 95% is breached, fresh positions will only be allowed after the open interest comes back to below 80% of MWPL. Till then, the ban will remain in force for fresh F&O OI buildings.
‘By actively monitoring stop bans and their causes, you can navigate the F&O space with greater awareness, adapting your strategies for a safer and potentially more profitable trading journey. Remember, knowledge is your shield against volatility!’