Sebi's proposals aim to curb use of offshore structures for derivative trades, say sources

Indian markets regulator’s latest proposals seek to limit the use of opaque offshore structures to trade in derivatives and contain possible volatility, two sources with direct knowledge of the matter said.

The Securities and Exchange Board of India (SEBI) on Tuesday proposed that offshore derivative instruments (ODIs) issued by offshore funds should be backed only by cash equity or debt positions and not derivatives.

It also proposed that investors in ODIs make more disclosures if more than half of the instruments’ funds are deployed in an Indian corporate group.

ODIs are vehicles that allow foreign investors to invest in Indian securities without registering in the country.

Derivatives positions taken by ODIs in Indian markets add to market volatility, according to the sources, who declined to be named as they are not authorised to speak to the media. An email query sent to SEBI for comments did not get an immediate response. India has been tightening regulations on derivative trades, with the government raising tax on such transactions and the regulator moving to curb retail activity, warning about wider risks. SEBI now wants to discourage a build up of derivative positions by offshore funds via opaque structures, the first source said.

Four offshore funds with ODIs have long futures positions worth 30.75 billion rupees (about $366 million) on Indian securities, according to SEBI.

If the proposals are implemented, these would need to be wound up in one year.

SEBI has no visibility on the leverage taken by ODIs in overseas markets, which poses a surveillance challenge, the second source said.

“Hence a complete ban on derivatives positions (via ODIs) in India has been proposed. SEBI wants the ODI to be hedged only through cash market to avoid unknown and opaque leverage,” the person said.

ODIs have 1.34 trillion rupees (about $16 billion) invested in India, nearly 2% of total foreign investments.

A year ago, SEBI mandated offshore funds to disclose ultimate investors if they had concentrated holdings in India corporate groups.

While the norms were applicable to ODIs, SEBI faced resistance from large ODI holders as they were not explicitly mentioned, the first source said.