Long Term Derivatives – Can they add value to Indian F&O markets

SEBI has recently announced its intent to offer longer-term derivative contracts in the markets to reduce the volatility caused by F&O trading. Will this system really work and what exactly are the missing links in the puzzle?

Long term F&O contracts already exist

To be fair, long-term F&O contracts already exist on key indices like the Nifty, Bank Nifty and Nifty Next. On stocks, the F&O contracts are only available for the near month, mid-month and the far month. After that, the indices offer quarterly options contracts, which investors and trades can technically use for hedging. Obviously, the new SEBI rules are likely to extend these long-term F&O contracts to individual stocks too. Also, it remains to be seen if SEBI still maintains the 3-month gap in long-term contracts or makes these contracts more frequent. Here is a quick reality check on long-term F&O contracts.

Long-term F&O contracts have not taken off in India

Let us take the Nifty (the Underlying with maximum liquidity in long-term contracts) and see how the volumes and OI have been. If you take the Nifty December 2026 contracts; it is attracting fair bit of volumes and open interest. If you look at 12-Jun trading, the call and put contracts on Nifty December 2026 expiry saw combined volumes of around 90,000 contracts; with open interest on all Dec-26 contracts at around 3,40,000 contracts. However, if you shift ahead to March 2027 Nifty contracts, the total call and put volumes were just 240 lots with total OI of 340 lots. Clearly, that is not much of F&O visibility even on the Nifty. Beyond, March 2027, volumes and OI are almost non-existent.

Spread and margining issues to be taken care of

Let us first talk about the call and put spreads; and here we are referring to the bid-ask spreads on calls and puts. That is a measure of trading risk. Even if you look at the liquid December 2026 contracts, the bid-ask spreads are quite high for ITM contracts, although they are more reasonable for OTM and ATM contracts. However, if you just move to the March 2027 contracts, then most bid-ask spreads for calls and puts become ridiculously high. Margining may not be an issue for the option buyers. However, for option sellers, daily MTM margins can pose a substantial risk, more so since there is no circuit filter on how much option premiums can move in a single day.

Market making and stock lending could hold the key

If SEBI is looking at developing the LEAPS market, then it must not make the mistake of putting the cart before the horse. The first step is to have market makers who can offer bid and ask quotes at thin spreads. That will meaningfully reduce the risk of long dated F&O. Secondly, it is not the buy side, but the sell side that matters. Normally, LEAPS are more common among institutions and that is where big institutions with large risk appetite come into the picture. Above all, if long dated on F&O has to take off on stocks, as is the plan now, a robust securities lending and borrowing mechanism will hold the key. That, alone, will entice the institutions to take on the sell-side risk of LEAPS.