SEBI mandates new eligibility rules for derivatives on non-benchmark stock indices

The Securities and Exchange Board of India (SEBI) has released a circular outlining new eligibility criteria for stock exchanges to offer derivatives on non-benchmark indices. Indices like Bankex, FinNifty, and BankNifty will be subject to these updated rules. Stock exchanges are mandated to adjust the composition and weighting of stocks within these indices to meet SEBI's specified standards.

For Bankex and FinNifty, the index rebalancing must be completed in a single phase by December 31, 2025. BankNifty will undergo adjustments over four monthly phases, concluding by March 31, 2026. This phased approach is designed to ensure a smooth transition for index-tracking funds and market participants.

The primary objectives behind these guidelines are to boost overall market efficiency, ensure that these indices accurately represent the banking and financial sectors, and provide investors with more diverse trading and investment avenues.

Key criteria for an index to qualify for derivatives trading include having a minimum of 14 constituent stocks. Furthermore, the weight of the single largest stock must not exceed 20% of the index's total weight, and the combined weight of the top three stocks should not surpass 45%. The remaining stocks must be ordered by weight in descending order based on their market capitalization.

SEBI has instructed exchanges and clearing corporations to update their systems accordingly, provide advance notification to market participants, and ensure full compliance within the stipulated timelines.

Impact: This regulatory directive will likely lead to significant rebalancing activities for funds and traders heavily invested in these derivatives. It aims to create more robust and representative indices, potentially leading to more stable and diversified trading strategies. The impact on market liquidity and investment flows is expected to be moderate to significant, enhancing the integrity of derivative products. Impact rating: 7.

Difficult terms: Derivatives: Financial contracts whose value is derived from an underlying asset or group of assets, such as stocks, commodities, or currencies. Non-benchmark indices: Stock market indices that are not considered primary or the most widely followed in a market (e.g., Nifty 50, Sensex are benchmark indices). Bankex: A stock market index that tracks the performance of listed banking sector companies. FinNifty: A stock market index that comprises the top 12 financial services sector companies listed on the National Stock Exchange of India. BankNifty: A stock market index that represents the banking sector and includes the most liquid and large Indian banking stocks. Composition: The specific components or constituent stocks that make up a stock market index. Weights: The percentage or relative importance assigned to each constituent stock within an index, typically based on market capitalization. Prudential norms: Rules and regulations designed to ensure the financial stability and soundness of financial institutions and markets. Index-tracking funds: Investment funds, such as Exchange Traded Funds (ETFs) or mutual funds, that aim to replicate the performance of a specific market index by holding its constituent assets in similar proportions. Rebalancing: The periodic process of adjusting the constituents and their weights within an index to maintain its intended investment characteristics and to reflect changes in the underlying market.