Net Settlement of cash and F&O
Also written Net settlement of cash segment and F&O segment
SEBI's mechanism, from November 30, 2022, of netting cash-segment obligations with physical-settlement obligations of expiring stock derivatives into one settlement.
In plain language
When a stock futures or options contract expires into physical delivery, the investor ends up with a delivery obligation in the F&O segment. If the same investor also bought or sold that stock in the cash market on expiry day, there used to be two separate settlements: pay for the shares in one segment, deliver them in the other.
Net settlement of cash and F&O merges them. The obligations from the cash segment and from physical settlement of expiring stock derivatives are settled on a net basis. Only the difference moves.
SEBI's stated aims: better alignment of the cash and derivatives segments, mitigation of price risk and netting efficiency for market participants.
How it works
Rules (Chapter 5, section 5.6.4; SEBI circular dated November 30, 2022)
- Cash segment obligations and physical settlement obligations of the F&O segment on expiry of stock derivatives are settled net.
- Netting applies only where the investor trades and clears through the same TM-CM combination in both segments. An investor whose TM clears the two segments through a different CM or clearing corporation gets no netting.
- Obligations are netted where the clearing member–trading member–client (UCC) is common across the Capital Market and F&O segments for the same security (Chapter 6, section 6.4.1).
- The net buy or sell obligation is settled in the Capital Market segment, under the settlement/market type and settlement number of the Capital Market segment.
- Institutional investors, including all categories of FPIs, are excluded, because their cash-market transactions must be backed by delivery.
- Netting is only for settlement. STT and stamp duty continue to be computed, levied and reported segment-wise.
- Margin benefit is allowed to the extent the delivery-converted derivative positions offset Capital Market obligations (Chapter 4, section 4.1.2.1).
A worked example
Box 5.1 of the workbook, scaled to 500 shares for illustration.
On expiry day an investor holds a long in-the-money put, strike Rs 110, on 500 shares. The underlying settles at Rs 100. The same day she buys 500 shares at Rs 101 in the cash market.
Separate settlements (old way)
- Cash segment: pay 500 × Rs 101 = Rs 50,500.
- Cash segment: receive 500 shares.
- F&O segment: deliver 500 shares against the put.
- F&O segment: receive 500 × Rs 110 = Rs 55,000. Margins apply on both delivery obligations separately.
Net settlement
- Shares: receive 500 and deliver 500 → no securities pay-in or pay-out.
- Funds: Rs 55,000 − Rs 50,500 = net pay-out of Rs 4,500 (Rs 9 per share, as in Box 5.1).
- She never has to arrange Rs 50,500, and after expiry there is no margin requirement, because only cash is receivable.
STT and stamp duty are still charged on the cash trade and the F&O settlement separately.
Why NISM asks about it
Chapter 5, section 5.6.4 sets out the mechanism and Box 5.1. Chapter 4 (section 4.1.2.1) gives the related margin benefit, and Chapter 6 (sections 6.4.1 and 6.6.3) says where the net obligation settles. Expect questions on eligibility (same TM-CM; no institutions or FPIs), on STT/stamp duty treatment and a numerical based on Box 5.1.
Common exam traps
- Same TM-CM combination is required. A different CM or CC for one segment kills the benefit.
- No institutional investors and no FPIs of any category.
- Netting is for settlement only. STT and stamp duty remain segment-wise.
- The net obligation settles in the Capital Market segment, using its settlement number and market type, not the F&O segment's.
- It is triggered by physical settlement of expiring stock derivatives. Ordinary cash-market trades with no expiring derivative leg are settled as usual.
- Date: SEBI circular of November 30, 2022.
Where this is taught
- Series VIII · Chapter 7: Clearing, Settlement and Risk Managementintroduced here
- Series VII · Chapter 5: Clearing Processintroduced here
Related terms
- Cross marginingReduced margin on a client's positions in the cash and equity derivatives segments that offset each other, with only a spread margin of 25% to 40% of the normal margin charged.
- Foreign Portfolio InvestorAn entity established or incorporated outside India that proposes to invest in India, registered under the SEBI (Foreign Portfolio Investors) Regulations, 2019 as Category I or II.
- Multilateral nettingThe clearing corporation's method of collapsing every trade a clearing member did in a settlement into one net figure per security and one net funds figure, so each member either pays in or receives a pay-out.
- Securities Transaction TaxA central government tax collected by the exchange on the sell side of every futures and option trade — 0.05% of futures traded value, 0.15% of option premium, and 0.15% of settlement price on exercise.
- Settlement numberA unique identifier tagging a trade or batch of trades to a particular settlement cycle and date, used by brokers, clearing corporations and depositories to match and reconcile obligations.
- Physical settlementSettling a derivative on expiry by actual delivery of the underlying shares against payment. In India, all stock futures and options open at expiry have been physically settled since October 2019.