Nithin Kamath says real hedging in choices market is now more durable resulting from heavy hypothesis
In a put up on X, Kamath mentioned critical hedgers sometimes depend on choices contracts with maturities of 30 days or longer, however the market has more and more shifted towards ultra-short-term contracts following the rise of weekly expiries.
In line with knowledge shared by Kamath, the open curiosity (OI) construction of Nifty index choices has modified sharply over the previous decade. In 2015, contracts expiring inside 0-7 days accounted for about 18.8% of whole index choices open curiosity. At this time, that share has surged to round 60.4%, reflecting a major focus of buying and selling in near-term contracts.
On the identical time, the share of 16-30 day contracts has dropped sharply from round 30% in 2015 to simply about 12% now, indicating that longer-dated choices, sometimes used for portfolio hedginghave misplaced liquidity.
Kamath mentioned the shift has been much more dramatic when measured when it comes to buying and selling volumes. Whole index choices contracts traded per quarter have surged from about 564 million in 2015 to a peak of 34.9 billion within the third quarter of 2024, representing a roughly 62-fold improve.
Nonetheless, he famous that the expansion has been pushed nearly completely by contracts with maturities of lower than seven days, suggesting that the surge in exercise displays speculative buying and selling moderately than conventional danger administration.
“The market has structurally shifted from hedging to hypothesis,” Kamath mentioned in his put up.Whereas the surge in liquidity is optimistic for market participation, he warned that it has created an imbalance within the choices market construction. Liquidity is now closely concentrated in very short-dated contracts, whereas longer-tenor choices, which institutional buyers and portfolio managers use to hedge dangers, have develop into comparatively skinny.
This imbalance turns into significantly seen during times of elevated volatility, comparable to the present geopolitical tensions involving Iran, Israel and the US.
Kamath mentioned that in such episodes, buyers seeking to purchase safety by way of longer-dated choices usually discover it tough to execute significant hedges as a result of liquidity in these contracts has dried up.
“When volatility spikes, shopping for significant insurance coverage is tough exactly when individuals want it most,” he mentioned.
He argued {that a} wholesome derivatives market ought to provide liquidity throughout a number of time horizons, together with 30-day, 60-day and 90-day contracts, moderately than concentrating nearly completely on near-week expiries.
To handle the imbalance, Kamath prompt that regulators and exchanges may take into account pricing incentives to encourage longer-tenor choices buying and selling. Measures comparable to decrease securities transaction tax (STT), diminished alternate costs and decrease brokerage prices for choices positions held past 30 days may assist appeal to extra exercise to longer-dated contracts.