The hike in the Securities Transaction Tax (STT) on F&O (futures & options) trades announced in the amendments to the Finance Bill, 2023, has come as a rude shock to the markets. Brokers believe the move could impact derivative market volumes in the near term, besides adding to cost pressures.
In an interview to Moneycontrol, Prakarsh Gagdani, CEO, 5paisa.com, said the STT hike was likely due to the significant increase in options trading and may be an attempt to dissuade inexperienced traders from jumping in. He added that while the impact on options sellers may not be significant, buyers may be affected due to the lower capital they bring to the market.
He also talks about the scrapping of the Do Not Exercise (DNE) facility for options, and how it will affect risk management for brokers.
Below are the edited excerpts from the interview.
The 25 percent STT hike has come as a big shock. What are your initial thoughts? How big a hit would it be for a brokerage such as yours?
This was a surprise, because it was not part of the initial budget proposal but came out of the blue. I think the reason the STT has been increased is that options turnover has gone up significantly. If you look at the actual terminal value of options trading, which is premium into quantity, it has surpassed the cash market turnover.
Because of the volume increase, the government can earn more by increasing the STT. This has also been done to curb the volume, which has gone up 3-4X. It’s also a way to dissuade small, novice investors who do not understand options.
I don't see option sellers being impacted much as they possess a lot of capital. Though 25 percent sounds like a large hike, an options trader will have to pay just Rs. 6,250 (compared to Rs 5,000 earlier) on a turnover of Rs 1 crore.
However, options buyers carry less capital, therefore a rise in any cost, whether it’s brokerage, STT, stamp duty, or transaction charges levied by the exchange, has an impact on them. So long as people are trading and making decent money, I don't see the charges pinching much.
What about high-frequency traders (HFT)? They play for very little returns, and the hike in the STT will add to their costs. Also, how would retail and small traders be impacted? In the F&O segment, the number of retail investors touched 3.2 million this January — will that figure fall?
There would definitely be an impact on small traders, almost 60-65 percent of whom are option buyers. Small options buyers come to the market with little capital, about Rs 10,000-15,000. Given that the probability of small investors making losses is higher, and on top of that you add the charges and the cost, it would definitely pinch.
On the HFT side, people who are traders will have to factor this cost into their calculations, but the impact would be marginal. We have to see how things pan out over the next couple of months. Because it is not just this, there are a couple more regulations taking effect from April 1. All of that put together might have an impact on trading volumes.
A couple of days ago, NSE had announced that it will scrap the DNE facility for options. What’s your take on that?
The DNE was scrapped to avoid situations like Hindalco, where on the last day of expiry suddenly the out-of-money option was in-the-money and traders and brokers suffered losses. Scrapping the DNE facility won't have much of an impact on customers, but there will be an impact on the risk management policies of brokers.
Even now, though the DNE facility is there, we start calling up customers right from the last week of expiry. The scrapping will lead to more risk management at the broker’s end, to ensure that sellers have equivalent quantity in the cash market so that they can square off. Else, it’ll go to compulsory delivery and might result in an auction. All this will mean extra risk and extra cost for us.
But we've been following good risk management practices and I'm sure we’ll be able to continue that unless something unforeseen as Hindalco happens. We've been figuring out how to work in this new structure in terms of risk management.
The NSE has rolled back the 6 percent hike in transaction charges for equities and F&O trades. How much of a relief would that turn out to be amid the STT hike?
I think it provides some relief as otherwise, it would’ve been a double whammy for customers if both the STT and transaction charges had gone up. Despite all the cost escalation in the last two years, brokers have not increased the brokerage rates. But the government has gone ahead and increased the STT. We’re feeling the pinch, but we’re still bearing it.
Do you think the STT hike would force some foreign investors to shift base to India — those who are unable to claim treaty benefits?
I'm not a subject matter expert on the FPI side, because I predominantly work in retail. But yes, this could happen I guess.