Derivatives Market Will House Insider Traders

Bombay Stock Exchange president M G Damani yesterday warned that with the introduction of futures and options, speculators and insider traders would make the derivatives market their home and ramp prices regularly. Damani, a known advocate of the Indianised forward trading known as `badla', is also a member of the L C Gupta committee on derivatives set up by the Securities and Exchange Board of India (Sebi).

Introduction of futures and options in the current market scenario will be dangerous as it can only provide an opportunity to indulge in aggressive speculation on the basis of sensitive information on companies from leading corporate houses, Damani said, adding the country is not prepared to deal in futures and options.

 

"My concern is to do with the timing of its re-introduction, safety of the market and the regulartory aspect," Damani told Business Standard. "In fact, badla trading is a much safer option than derivatives and is a perfect hedging option," he added.

Damani's attack on derivatives is significant when viewed against the fact that meetings of the committees on badla review and introduction of derivatives are slated for June 5 and 6.

Besides, in an era of mergers and acquisitions, option traders will try to profit illegally from proprietary information and direct more of their activity in options, thereby hurting the business.

"When somebody thinks they have inside information and think that they have the timing of whatever it is down pretty cold, the options market gives them an absolutely enormous bang for their buck," said Damani.

Insider trading in options market is particularly unfair because market-makers are being subjected to unusual risks by someone doing something that is illegal, he said.

Sources say the attraction of insider trading in options is clear: options, which gives the holder the right but not the obligation to buy or sell a particular stock at a certain price on a specific date, week or months away, can be purchased for a fraction of the cost of the stock itself, offering alluring leverage to traders.

Citing statistics, Damani said at the American Stock Exchange, one of the five US exchanges where options on individual stocks change hands, the traded volumes had risen 16.8 per cent in 1996 from year-earlier levels. But the number of insider-trading cases involving options that the exchanges' surveillance officials referred to the Securities & Exchange Commission soared 70.6 per cent in the same period and continued to climb.

In foreign markets, a lot more insider trading has been happening in options market these days in absolute and relative terms.

It has been observed that the costs are not limited to the traders own losses, but include a possible decline in the liquidity and the efficiency of options market as a whole as they respond to the losses by scaling back their activities.

Concentrated buying and selling by a group of foreign institutional investors (FIIs) can easily influence the index. "The FIIs are backed by large foreign banks, so money is not a problem. They can easily write off their losses as development costs," he said.