The National Stock Exchange (NSE) will withdraw its 'Do Not Exercise' (DNE) feature for investors trading in stock futures and option contracts starting Friday. The DNE feature was introduced by the NSE last year and it was originally conceived as a foolproof system for options traders during the time of cash-settlement of options contracts.
However, the DNE option had become redundant with the introduction of the physical delivery settlement.
However, the cash settlement system, while being a relatively simple and foolproof system, had one major loophole in extreme conditions, brokerage firm 5Paisa noted.
However, starting with April series, the NSE will discontinue the DNE facility and go back to physical settlement of stock F&O contracts. From now on, the holders of all 'in the money' call option contracts, will have to take physical delivery of shares if they do not square off their positions by the end of the expiry of contracts. Likewise, all the holders of 'in the money' put option contracts will have to give the delivery of shares if they do not square off their contracts ahead of the monthly expiry of contracts, analysts said.
The DNE facility is not applicable on index (Nifty, Nifty Bank and Fin Nifty) futures and option contracts because these contracts are cash settled unlike stocks where investors have to either give or take the physical delivery of shares.
Analysts advice that investors, who have in the money stock options, should square off their position in stock option contracts prior to the expiry in order to avoid huge losses that they would have to incur by taking physical delivery of those shares.
The 'Do Not Exercise' (DNE) facility acts as a fail-safe for options traders at the time of cash settlement of the options contracts. “The DNE facility gave the trader the freedom not to exercise the option to give/receive delivery which encouraged trading. With the withdrawal of the DNE facility, the auto-square-off facility will not be available. This can lead to huge losses on the expiry day and expecting impact volumes in the F&O segment,” said Girish Sodani, head of equity market at Swastika Investmart.
“DNE mechanism prevented the risks around the physical settlement and allowed brokers to stop exercising Close To Money (CTM) option strikes on behalf of clients. However now, the stock settlement will be done under the cash delivery segment where an options trader will have to pay the required margin to take delivery. Margin will be very high and the options traders will have to pay interest and penalty if they have taken strike without having full amount in their Demat account,” Sodani added.