The Securities and Exchange Board of India’s (SEBI) new eligibility framework for derivatives on non-benchmark indices is set to reshape the Nifty Bank index, long dominated by large private lenders. The move is expected to broaden sector representation, cut concentration risk and realign passive fund flows, but may disrupt liquidity in the short term.
The rules, issued last week, set stricter eligibility conditions for indices on which derivative contracts can be launched. SEBI has mandated such indices to have at least 14 stocks, with the largest stock’s weight capped at 20 per cent and the top three together not exceeding 45 per cent.
The rule aims to make derivatives markets more diversified and reduce concentration risks that currently exist in popular sectoral indices such as the Bank Nifty.
Index rebalance
Under the new framework, the Bank Nifty index currently does not meet these limits. Exchanges will rebalance the index in four stages by March 2026 to align with the new requirements to avoid a sudden market shock.
Market participants, however, expect some near-term impact. “Liquidity in derivatives on non-benchmark indices could tighten initially as market-makers adjust to new weights and hedging costs,” said Feroze Azeez, Joint CEO, Anand Rathi Wealth. He added that the gradual trimming of large banks’ weights could lead to temporary price distortions and wider spreads.
ETF impact
The new structure will also affect exchange-traded funds (ETFs) and index-tracking mutual funds. Fund managers will have to rebalance portfolios as the index composition changes, which may temporarily raise tracking errors and execution costs.
“Since Bank Nifty forms a crucial part of many passive funds and ETFs, fund managers will need to closely assess which stocks are likely to be added under the new eligibility norms and how these changes could impact the overall risk-return profile,” said Ajay Garg, CEO, SMC Global Securities.
Vipul Bhowar, Head of Equities, Waterfield Advisors, said trading volumes may dip in the short run as participants adapt to the new framework. “In the long term, the changes will make indices more transparent and representative and could attract wider participation,” he said.
Overall, the move is seen as a step towards making India’s derivatives market more balanced and resilient. While it may cause short-term volatility and rebalancing flows, analysts believe it will eventually create a healthier market structure with reduced dependence on a few heavyweight stocks.