The stock exchanges impose an F&O ban at specific times. When the open interest of any stock crosses 95% of the MWPL (Market Wide Position Limit), all Futures and Options contracts of that stock enter a ban period. These stocks are then placed under the ban list. The F&O ban is only applied to stocks and not on any indexes. The stock exchange sometimes imposes a ban on a specific security. Securities in the NSE ban list gets freeze by the Stock exchange.
What is MWPL?
MWPL is the acronym for Market Wide Position Limits, it is the maximum number of contracts that can be open at any time (Open Interest). The open interest includes all outstanding buy and sells positions in the security or futures and options contracts. For All stocks traded in the futures and options (F&O) segment, the exchanges set an MWPL (Market-wide positions limits). MWPL value is less than the following two entities:
30 times the average number of shares that are traded daily during the previous month in the cash segment of the stock exchanges.
20 % of the number of free-float holding.
What happens in the ban period?
The stock exchange freezes trading in stocks in the ban list. When the stock Futures and Options contracts are in the ban period, new positions are not allowed for any of the F & O contracts in that stock. In the ban period, traders are allowed to only exit the existing positions during this period. The ban on F & O will be reversed only if the open interest falls below 80%, you can’t open a new position but can square off your existing stash.
Why does the stock exchange impose an F&O ban?
The panicked speculation can lead to defaults that could be dangerous and can harm the health of the stock market. To prevent excessive speculative activities, the exchange has decided to impose a ban on F & O contracts. When the aggregate open interest of stock exceeds 95% of the market-wide position limit (MWPL), the stock exchange imposes an F&O ban. F&O is a known method of speculation, it can make the riskiest assets safe with limited downside. Volatility is the main benefit of the F&O Ban.
How long is the NSE F&O ban period?
The F&O ban remains till the aggregate open interest reaches 80% or below the MWPL across exchanges. Normal trading starts again on the scrip after the NSE ban period ended.
Can you trade during the Ban period?
If a trader breaks the F&O ban and creates a new position in the stock within the ban period, then that trader will have to pay a penalty of 1% of the value of the increased position. There is no MWPL for indexes, so there is no F & O ban for index futures options. As the open interest remains unaltered in intraday trading, the stocks ban in F&O does not apply to intra-day trades. You can trade in the cash segment, which doesn’t have any such limit.
What to do if F&O enters into a ban period?
Traders face huge losses if the F & O they bought enters the ban period and if they do not have an idea about when the ban will be imposed. Losses are huge because as soon as a ban is imposed on stocks traders have to unwillingly sell or square-off their F&O stocks at a price that could be less than the buying price. But this loss can be avoided if traders learn to know when a ban possibly can impose. While trading, you should keep an eye out on the MWPL limit to prevent the F&O ban from causing losses to you.
The NSE provides a facility on its trading system that, once the open interest of F & O contracts in security exceeds 60% of the MWPL set for the security NSE displays alerts in the intervals of 10 minutes.
So when you are trading, you need to keep watch on stocks in the F&O ban to avoid losses. You need to be careful when the free float of the stocks you are interested in is low. In this case, unethical traders could utilize the situation to manipulate liquidity. Small traders can not resist these activities and can face losses. It is worth noting that when an F&O ban is imposed on a stock, and no new positions are taken, the stock price will continue to remain depressed until the ban is removed.
How to compute F&O Ban?
Until now you must have got an idea about MWPL. It is 30 times the average shares that are traded daily during the previous month in the cash segment of the exchange and 20% of the number of shares held by non-promoters or free float of a particular stock. Now you have a market-wide position limit, one should compare that market-wide position limit number with the aggregate number of open interest in a particular stock. If the aggregate number of open interest is more than or equal to 95% MWPL then that stock will enter into a ban period. The stock will remain in the ban period until the aggregate open interest of that stock will reduce to 80% or below that of the market-wide position limit. The normal trading will restart only when open interest is reduced below MWPL.