Reforming India's futures market

Posted by: Manjeet Krpalani on January 31, 2008

The Securities & Exchange Board of India, the country’s securities regulator, has gotten a lot of flack from investors and market participants for its passive stance during last week’s market meltdown - which still continues.

There’s talk about the equity futures market in India, which is overly liquid, and which made fortunes but which also lost fortunes over the past two weeks. Much money was lost because margins were raised in a falling market - the only such in the world. Typically, at least in the US, margins stay stationery in a falling market. Here, it went up by 100% on some futures, and up to 300% on others.

Now that may be urban legend, but over 100% is sure. Sometimes, that led to the future being more expensive than the underlying stock.
What everyone is asking is: why, oh why, isn’t the regulator doing something about reforming that market? Futures create liquidity for sure, but they also creating extreme damage. 80% of all trading in the Indian stock markets is futures trading. “Everybody loves futures,” an market-watcher and investor told me last week.

So what to do about it?

For starters, say economists, get rid of the rule that allows margins to be raised by 300% in a falling market, and get in line with interantional practice.

Secondly, create a debt market so every Indian promotor with just a dream and a plan, doesn't have to go to the equity markets for every paisa they may want to raise.

There are stacks of IPOs coming up in India, and they're all in the equity markets (though they need'nt be). Promotors are looking at projects that are five times the size of what they had done just three years ago. They may not be able to deliver - their intentions may be noble, but do they have the execution skills? If they don't deliver, those equity investors will be furious. The markets could then tank again.

It may be better to learn to beg for reform from the banks, rather than incur the wrath of shareholders.

Reader Comments

unfguy

February 4, 2008 5:18 AM

Having lost Two Million INR in 4 days precisely due to 'Raised Margins' by my broker, I fully agree with the author about reforming the futures market.

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Bloomberg Businessweek’s team of Asia reporters brings you the latest insights on business, politics, technology and culture from some of the world’s biggest and fastest-growing economies.

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