What are the changes suggested by Sebi?
The regulator wants a minimum of 14 stocks in non-benchmark indices such as BSE‘s Bankex and NSE’s Bank Nifty and Finnifty that are eligible for being traded in the derivatives. It has also suggested limits in weights for each stock and the top three constituents. They are aimed at reducing the influence of any particular stock or a set of stocks on the indices.
“Sebi’s move aims to reduce concentration risk and limit the influence of a few heavyweight stocks, reducing any chances of index manipulation,” said Rajesh Palviya, head of technical and derivatives research at Axis Securities.
Why is Sebi implementing this for non-benchmark indices, especially banks?
Currently, HDFC Bank has a 28.49% weight, ICICI Bank 24.38%, and SBI 9.17% on the Bank Nifty index. Together, their weight is 62.04% on the Bank Nifty index, which is a significant concentration of weight for a derivatives index. Now, the weight of the single largest stock in the index will be capped at 20%, compared with 33% currently. Similarly, the combined weight of the top three stocks cannot exceed 45%, compared to the current 62%. The decision to reduce specific stock influence on Bank Nifty could have stemmed from the recent instance where US trading giant Jane Street was accused of Bank Nifty derivatives and its components.
By when and how are these to be implemented?
Sebi said the new rules must be implemented through weight adjustments in a single tranche for the two indices – Bankex (derivatives traded on BSE) and Finnifty (derivatives traded on NSE) – by December 31. In the case of Bank Nifty (derivatives traded on NSE), the implementation may take place in a phased manner, over four monthly tranches, by March 31.
So, how will the adjustments work out for the indices?
The Nifty Financial Services index currently has 20 constituents and will have to modify the weights of its members. Bank Nifty and Bankex, with 12 and 10 constituents respectively, will be required to add new stocks to meet the revised criteria. This essentially means the weights of large banks will come down.
What will be the impact on the banking index and the shares?
Since both Bank Nifty and Bankex will be looking to add new banking stocks to their indices, the focus will be on the new likely additions. With Bank Nifty having significantly higher trading volumes than Bankex, markets will be watching NSE’s moves more closely.
“While the change may have a short-term sentimental impact on large banks such as HDFC Bank, ICICI Bank, and SBI, smaller and mid-sized banks stand to benefit,” said Chandan Taparia, head of technical and derivatives research at Motilal Oswal Financial Services.
Taparia’s top contenders for inclusion in the Bank Nifty are Indian Bank, Yes Bank, and Union Bank.
“In recent sessions, markets have already reflected a ‘buy PSU banks, sell private banks’ trend. With this rebalancing, a new trade theme could emerge where traders go long on small and mid-sized banks and short on larger banks,” he said.
What does this mean for investors in mutual funds with a focus on bank stocks?
Multiple passive funds and exchange-traded funds (ETFs) tracking the Bank Nifty will need to rebalance their portfolios along with the index. “Passive and index funds tracking these indices will undergo rebalancing, likely creating supply pressure on large-cap banks while boosting demand for smaller ones,” said Palviya.
What does it mean for derivative traders in Bank Nifty?
For traders, there will be several opportunities.
“This shift may trigger some unwinding in major banks, presenting opportunities for traders and arbitrage funds to create short positions,” said Palviya.
With smaller banks set to join the index, day-to-day swings could become sharper, nudging up option prices and implied volatility. The reshuffle is also expected to spark new trading themes, particularly long positions in PSU and mid-sized banks versus shorts in large private lenders. As the index’s dependency on HDFC Bank or ICICI Bank reduces, its behaviour and correlations will shift, prompting traders to recalibrate their hedge ratios and trading models accordingly.
