Capital market regulator Sebi is planning to replace the mandatory 20% upfront margin requirement for cash market trades with a lower risk-based requirement linked to clearing corporation margins, easing fund requirements for investors in highly liquid stocks. The plan is to introduce a risk-based margin trading framework that can lower margin requirements in highly liquid stocks.
Sebi is learnt to have started a broader consultation process with all stakeholders and is expected to come up with a consultation paper shortly.
Margin trading is a facility that allows an investor to bring only a portion of the fund required to execute a trade. The facility varies as low as 20% of the stock value from own funds or as high as 80% of the same being funded by your brokerage. While the 20 Sensex and the 50 Nifty stocks are most liquid and thus offering this 80:20 MTF (margin trading facility) while other stocks have higher margin requirements, depending on their secondary market liquidity.
At present, brokers are mandated by clearing corporations to collect a minimum upfront margin of 20% from clients to avoid short collection penalties, even though the minimum margin levied by clearing corporations for many large-cap liquid stocks is around 12.5%, comprising 9% VaR (value at risk plus extreme loss margin) and 3.5% in ELM (extreme loss margin), forcing an investor to lock more funds than actually required by the clearing corporations.
The current criteria for classification of stocks for margin trading were introduced way back in 2005, even though the number of group I stocks has expanded over time due to growth in the size of the market. This means that there are highly liquid stocks outside the Nity 50/Sensex 30 as the indices represent only the most valuable 50/30 stocks.
The proposal may require brokers to collect the lower percentage of the applicable clearing corporation margin (value at risk plus extreme loss margin) or 20% of the transaction value from the investor before executing a trade. The move will help align the margin collected from investors with the actual risk assessed by clearing corporations and reduce unnecessary capital blockage, a source told TNIE Thursday.
The Sebi preliminary analysis, based on data from the top 10 brokers, pegs that lowering the margin from 20% can reduce the upfront margin requirements in the range of 10-15% for clients trading in highly liquid stocks without materially increasing risks, the source added.
The proposed measures are aimed at deepening liquidity in the cash market as it seeks to boost trading volumes. Other proposals under discussion include providing margin relief for buy-side trades through the early pay-in facility, expanding the list of stocks eligible for short-selling, and further strengthening the stock lending and borrowing mechanism, the source informed.