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Revised Lot Size For Nifty, Fin Nifty and Nifty Midcap Contracts - And What Does it Mean For You?

On April 2, the National Stock Exchange (NSE) of India announced significant adjustments to the lot sizes for derivatives trading across several major indices, including NIFTY50, FINNIFTY (Nifty Financial Services), and MIDCAPNIFTY (Nifty Midcap Select). The new lot size for F&O contracts in Nifty, FINNIFTY and MIDCPNIFTY will be applicable from all the contracts trading 26^th April, 2024 onwards. According to the announcement, NIFTY50's lot size will be adjusted from 50 to 25, FINNIFTY's from 40 to 25, and MIDCAPNIFTY's from 75 to 50, while the lot size for NIFTY BANK will remain unchanged at 15. This decision marks a pivotal moment for derivatives trading in India, aimed at broadening market participation and enhancing competitiveness.

What is a lot size in derivatives and why does it matter?

In derivatives trading, the term "lot size" indicates the number of units of the underlying asset covered by the contract. For instance, if we consider the NIFTY Index options contract, the lot size is set to a specific number of units of the index like 50 units of NIFTY (till April 26^.2024). This means that each Nifty contract you trade would represent an exposure to 50 units of the NIFTY Index. The lot size also determines the minimum amount you need to invest and the level of exposure you get to the underlying asset, thereby shaping both the risk and potential return on your trades in derivatives. To understand this with an example – if the lot size for Nifty is 50 units and Nifty is trading at 22,500 points, one contract of Nifty is equivalent to an exposure of Rs. 11,25,000. By reducing the lot size for Nifty contracts to 25, NSE has now effectively reduced the exposure of 1 lot of Nifty contract from Rs. 11,25,000 to Rs. 5,62,500 from 26^th April onwards which is expected to lower the inherent risk in trading 1 lot of the contract.

Lot size directly affects liquidity in the market, as contracts with sizes that are too large may be too costly for many participants, reducing the number of potential buyers and sellers. On the other hand, very small lot sizes might lead to excessive trading and volatility, which can destabilize the market. Thus, exchanges carefully select lot sizes to balance these concerns, aiming to maintain a healthy, liquid market that is accessible to a broad range of investors.

Why did the NSE revise the lot size for NIFTY, FINNIFTY and MIDCAPNIFTY?

The primary driver behind the NSE's revision of lot sizes is to boost retail investor participation. By decreasing the lot size, NSE has significantly reduced the minimum capital needed to enter the derivatives market, thereby lowering the entry barrier for retail traders. For instance, under the previous lot size, trading a NIFTY50 contract meant taking a position which was worth ₹11.2 lakh but with the lot size halved to 25, 1 lot of Nifty would amount to a position worth ₹5.6 lakh approximately. The lower position size will effectively reduce the margin requirement from ₹1.28 lakh per lot to ₹64,000 thereby making derivatives trading more accessible to traders with limited capital & also enhancing liquidity in the market by facilitating increased participation.

Another critical factor for the NSE's adjustment of lot sizes is to remain competitive, especially in light of the Bombay Stock Exchange (BSE) introducing its Futures & Options (FnO) contracts in May 2023. With the BSE quickly gaining momentum in derivatives trading, the NSE's strategy aims to offer more attractive options compared to SENSEX options contracts, thereby retaining its market share in the derivatives segment.

Additionally, the revision aligns with directives from the Securities and Exchange Board of India (SEBI), which mandates that the contract value for all F&O contracts should be within the ₹5 to ₹10 lakh range. Periodic reviews, conducted every six months, ensure that contract values that deviate from this range are adjusted accordingly, either through increasing or decreasing the lot size.

What does revision in lot size of Nifty, FINNIFTY and MIDCPNIFTY contracts mean for retail traders?

For retail traders, the reduction in lot sizes presents numerous benefits. It not only makes derivatives trading more affordable by halving the investment required for trading indices like NIFTY50 but also reduces the associated risk, as lower margin requirements mean less capital at stake. This adjustment is expected to enhance market liquidity by encouraging more retail participation, allowing traders to engage more actively in the derivatives segment, which boasts a daily turnover exceeding ₹8,28,100 crores. Through these measures, the NSE aims to foster a more inclusive and dynamic trading environment, promoting broader participation while ensuring compliance with regulatory standards.

However, it would be prudent for retail investors to understand the risk behind trading in derivatives – despite the lower lot size and lower capital requirements – before initiating large positions in derivatives trading. In fact, with lower barriers to trading derivatives, relying on expert advice through either live trading sessions or through full service brokers would be the best strategy for retail traders who might enter the derivative trading arena for the first time owing to lower capital requirements.

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