NSE suggests upfront margin in share trading

Currently, clients mandatorily deposit money with brokers in advance only in futures, options trading

The Securities and Exchange Board of India (Sebi) has received a proposal from National Stock Exchange (NSE) to make it mandatory for brokers to collect upfront margin money from investors for trading in shares or cash segment. Currently, clients mandatorily deposit money with brokers in advance only in futures and options trading. The bourse has also sought the regulator’s nod to allow a shift in the calculation of circuit filters to the previous day’s closing price. Now, exchanges calculate the daily trading limits on the values of the last day of the previous quarter.

The suggestion to introduce compulsory margins in the cash segment is aimed at strengthening the risk practices of brokers as Sebi looks at various steps to avert flash crashes such as the one happened in October 2012, when a fat finger trade resulted in a 900-point dive in the Nifty in two minutes. But such a step is likely to face stiff resistance among brokers, who are worried about the impact of this move on their business and trading volumes.

NSE had put forth this proposal in its response to Sebi’s show-cause notice in which the bourse insisted the lack of adequate risk management practices by the broker-- Emkay Global-- had caused the crash. The regulator, in the notice, held the bourse was also responsible for not having enough controls in place to avert the crash.

NSE said, in the notice, mandating upfront margins even in the cash segment would have prevented the flash crash in October 2012. Currently, exchange collects upfront margins from brokers, but brokers do not ask clients for money in advance in the cash segment. In short, brokers are funding the margins of the clients, who settle the trades on a T+1 basis (next day of the trade).

On that day, the Nifty tumbled as much as 16 percent after a dealer at Emkay punched a wrong order on behalf of its institutional client. The dealer, who was supposed to sell worth Rs 17 lakh, ended up selling a basket of 1.7 million shares belonging to the Nifty, sparking a panic. Emkay incurred losses of Rs51 crore in these trades.

An NSE spokeswoman did not respond to queries on the matter.

Brokers concede that the move to make margins in cash mandatory would reduce risks but feel the settlement system is not geared up for that. “It’s a good practice, but not practical. This system would be a big problem for outstation cheques, which take many days to clear,” said a managing director with a leading retail brokerage.

Such a move could negatively impact volumes because upfront margins could increase the cost of trading.

“It may prove to be a bad move in market conditions such as these. The timing of this suggestion is bad,” said a senior official with a Mumbai-based listed brokerage.

NSE is expected to argue that despite upfront margins being compulsory for futures and options trades, volumes have only gone up in the last many years.