Budget 2024: Steep STT increase to tame retail frenzy in derivatives market

In a bid to deter retail traders from risking household savings in derivatives trading, described as ‘gambling’ in the Economic Survey 2024, the Finance Minister on Tuesday has announced an increase in the securities transaction tax (STT) for the futures and options (F&O) segment in the Budget, reported The Economic Times.

“It is proposed to increase the rates of STT on the sale of an option in securities from 0.0625 per cent to 0.1 per cent of the option premium, and on the sale of futures in securities from 0.0125 per cent to 0.02 per cent of the price at which such futures are traded,” said the Finance Minister in her Budget speech.

 

These changes will take effect from October 1. Currently, STT on futures is levied at 0.0125 per cent on the sell side, while on the options side, STT of 0.125 per cent is charged on the intrinsic value of options that are bought and exercised. For options that are shorted, the STT is 0.0625 per cent.

STT hike may impact brokers and exchanges

Zerodha, a leading brokerage firm, collected around Rs 1,500 crore in STT last year. With the new rates, this figure might rise to about Rs 2,500 crore, provided trading volumes stay the same, according to Zerodha CEO Nithin Kamath.

While the hike in STT is seen as negative for brokers and exchanges, many market participants have been advocating for measures to curb the growing fascination of retail traders with derivatives trading, originally designed as a hedging tool for large institutional investors.

An increase in STT may reduce market volumes and depth, potentially impacting the revenues of exchanges and the Securities and Exchange Board of India (Sebi). Some market participants have also suggested that income from F&O trading should be classified as speculative income and taxed at a higher rate.

Derivatives trading likens to gambling

The Economic Survey 2024 equated derivatives trading with gambling and criticised market practices that mimic leveraged bets disguised as financial innovations from developed countries. It stated that such practices are inappropriate for a developing nation with a low per-capita income.

“A significant stock correction could result in substantial losses for retail investors participating in the derivatives market. Investors’ behavioural response would be to feel ‘cheated’ by larger, unseen forces, potentially leading to their prolonged absence from the capital markets, which would be detrimental to both them and the economy,” the Economic Survey 2024 noted.

The Survey also emphasised the need for careful consideration of the increasing participation of retail investors in the stock market, warning against overconfidence leading to speculation and unrealistic expectations of returns.

Household savings fuelling speculative activities

Sebi chairperson Madhabi Puri Buch recently raised concerns about household savings not contributing to capital formation but instead fuelling speculative activities. “The scale of this issue has now reached a point where the focus must shift from protecting individual investors to considering it a macro issue,” she said last week.

The turnover in index options, in terms of premiums, has surged to Rs 140 trillion this year, a dramatic increase from Rs 4.5 trillion in 2018. Similarly, the overall turnover in the derivatives market has exceeded Rs 500 trillion, compared to Rs 210 trillion in 2018.

Of the 108 billion options contracts traded globally in 2023, 78 per cent were on Indian exchanges, according to the Futures Industry Association. Earlier research by Sebi showed that retail traders lose money in nine out of ten trades in the F&O segment.