Legal Casino: Equity Derivatives A Losing Game For Retail Investors, Says Axis MF

In the race to increase business and market share, are India's stock exchange's turning into a casino-like structure and bleeding retail investors? A recent report by Axis Mutual Fund CIO Ashish Gupta says the "Gamification" of Indian equities is bleeding retail investors. This, the experts say, has been facilitated by the stock exchanges and the regulator.

"Changes to contract structure, leverage combined with the ease of onboarding and interface of the new generation trading apps has triggered gamification of the market with the number of active derivatives traders jumping 8 times to 4 million from less than 0.5 million in 2019. In comparison in the cash market, the number has grown 9by only) 3 times from 3 million in 2019 to 11 million," Gupta said in his report.

Gupta adds that in fantasy sports, players have a better chance of winning in comparison to Indian equity markets.

"In fantasy sports, the 'take' of the pot is 15 per cent. For every Rs 100, players can expect to get back at least Rs 85. But in the derivatives markets, most traders end up getting back only Rs 15 out of the Rs 100 they bet. As per a recent SEBI study in FY22, on average retail traders lost over 80 per cent of their bets ( Rs 45,000 cr was lost by 90 per cent of participants while only 10 per cent of the participants earned Rs 6,900 cr).

What does the report say?

Index options are the preferred choice, constituting 99 per cent of derivative volumes and within this, weekly contracts account for 95 per cent of the trades. The effective leverage on an index option during expiry day is 500 times, which is luring the retail traders. Retailer investors hold an 'option' for an average of just 30 minutes.

The total daily volume of derivatives has reached $4.3 trillion per day. The derivatives trading contributes to more than 99.6 per cent of daily volume boosted by the daily expiry of indices on different days. The benchmark index viz Bank Nifty, Nifty and Sensex expire on Wednesday, Thursday and Friday respectively.

"Originally the derivative tool was devised to hedge risk but the fantasy of huge profit has transformed into a risk-taking device. The leverage on the derivatives contract and ease of onboarding have allured the influx and greed of retail investors. The leverage difference between equity trading and derivative trading is huge with derivative traders getting leverage up to 500 times their invested capital," the report says.

The smooth interface of modern-day trading apps has also boosted the engagement of traders for derivatives trading. According to the report demography also plays a key role in the classification of derivative traders. The average age is 35 years, where the tier 3 and tier 2 cities, particularly from the northern and western part of India which is categorically reflected in the brokers' client base.

"The fancy jargon such as hero to zero trades seem to be synonyms with rags to rag to riches stories. Contracts which are closest to expiry or zero-day to expiry have leverage up to 500 times, hence contributing to 50 per cent of trading volume."

The outsized derivatives market though can itself be a source of additional macro and market risk, we have seen this in global cases with credit derivative spreads. Black swan events and resultant spike in volatility in particular can drive exaggerated moves in stock prices and result in market dislocation, says Gupta.