Securities and Exchange Board of India, SEBI 50 50 rule has generated considerable interest among option sellers in India. This rule mandates that when paying margin money to the exchange, option sellers must allocate a maximum of 50% through collateral and a minimum of 50% as a cash component. In this blog post, we will delve deeper into the implications of this rule, explore various options for meeting the cash component requirement, and discuss the significance of SEBI’s recent circular regarding bankers’ guarantee.
Table of Contents
The Importance of Cash Component
Understanding the distinction between cash and cash component is crucial. While cash refers to liquid cash, a cash component includes various financial instruments that can be considered as liquid assets. SEBI accepts multiple options as cash components, including fixed deposits, sovereign gold bonds, liquid funds, and liquid bees. Among these, fixed deposits are popular among High Net Worth Individuals (HNIs) due to their advantages such as no haircut and ease of exit.
Challenges with Fixed Deposits to meet SEBI 50 50 rule
Although fixed deposits are an attractive option for the cash component, some hurdles exist. Many brokers do not accept fixed deposits as collateral, creating complications for clients. Previously, clients could directly deposit fixed deposits in the bank and pass them on to the exchange. However, exchanges no longer accept client fixed deposits, requiring funds to be transferred to the broker, who then represents the client. This process makes the interest on fixed deposits payable to the broker rather than the client, adding complexity to the arrangement. Nonetheless, smaller brokers may still offer this service.
Also read: Margins – Why maintaining margins is critical, types, examples
Exploring Alternatives
For those unable to utilize fixed deposits, several alternatives exist. Liquid funds are an option, but they come with lower returns and a 10% haircut. Sovereign gold bonds offer a reliable long-term investment option, providing 2.5% interest semi-annually. However, investors should be aware of the risks associated with gold price fluctuations. Presently, gold prices in India are at an all-time high, which may affect the wisdom of investing in gold. Additionally, liquid funds can lead to short-term capital gains if held for less than three years, making taxation a significant consideration.
Bankers’ Guarantee and SEBI’s Circular
Bankers’ guarantee is another avenue to fulfill the cash component requirement. However, it is important to note that brokers receive bankers’ guarantee, not clients directly. This process results in additional charges, particularly for HNI clients. SEBI’s recent circular addresses concerns related to brokers leveraging bankers’ guarantee beyond the funds available in the bank. To safeguard the interests of traders, SEBI emphasizes the need for brokers to refrain from taking excessive leverage. This regulation aims to prevent situations where brokers suffer financial losses, potentially impacting traders’ capital.
Cash component under SEBI 50 50 rule
SEBI 50 50 rule, requiring a cash component for option sellers, aims to ensure the stability of trading operations. While fixed deposits offer a straightforward and advantageous option, brokers’ acceptance of fixed deposits may vary. Alternatives such as liquid funds and sovereign gold bonds have their own considerations, including lower returns and gold price volatility. Brokers leveraging bankers’ guarantee beyond available funds is a concern that SEBI’s recent circular addresses, protecting traders’ interests. As traders, understanding and adhering to these regulations is crucial for a smooth and compliant trading experience.
