Indian Stock Market

More bad news for stock broking firms. The lucrative margin financing activity done by many of them has seen a sharp drop in February, and most players expect it to worsen in March.

Broking fees of most firms have already plummeted in tandem with the shrinking turnover on the bourses in the past couple of months. With income from margin financing too drying up, the fourth quarter may take the shine off what otherwise has been a stellar year for most stock broking firms.

Client funding by brokers on the NSE, which includes margin trading and temporary financing, has fallen by 30% in February on an average from January and December. According to NSE data on client funding of 284 brokers, total amount funded to institutional and non-institutional clients in February was Rs 2,030 crore, as against Rs 2,865 crore in January and Rs 2,488 in December. Client funding is used to make up for delayed payments, especially by outstation clients. Several brokerages charge a fee on such funding.

Does the decline in margin trading activity point to a lack of liquidity in the system? Not really, if brokers are to be believed. The reckless enthusiasm seen a couple of months ago has been replaced by skepticism, and that means fewer investors want to trade on borrowed funds than before.

Also, the rash of uncovered debits in the wake of the January meltdown has made brokerages wary about whom they lend money to. The term uncovered debits is used to denote outstandings on which brokers do not have any collateral that they can seize or liquidate to recover the dues from clients.

But the data on client funding provided by stock exchanges may not represent the exact level of leveraged bets in the system, according to brokers . This is because brokers with non-banking financial companies’ (NBFC) arms do not need to disclose their client financing through these subsidiaries to the stock exchanges.

Brokers feel the total client funding data could be much higher, if the margin funding from NBFCs are added to the official data. Though official data may show that margin funding contributes roughly 8-10 % of revenues of some top brokerages, the unofficial figures may be much higher.

Prior to the crash, NBFC arms of these brokerages funded clients’ share purchases in a big way, with many resorting to ‘super-leveraging’ — an unofficial arrangement between the broker and the client involving further funding of margins. Such activities have been a major earnings driver for brokerages in the recent past, with earnings of some listed entities doubling on a sequential basis last year.

Under margin funding, clients need to pay only a portion of the total value of the shares (50% for shares and 10-20 % for equity derivatives), with the brokerage taking care of the rest. For such funding, clients need to pay an interest of roughly 15-20 % to the brokerage. So if a scrip moves in the reverse direction of the funded bet and the client is unable to pay for the margin shortage, the broker has the right to square up the position.

Prior to January, several retail investors had fallen to the temptation of taking positions through margin financing option of brokers, with the market moving one way — up. But the sharp fall in markets and its uncertain outlook has driven away investors, especially small retail and high net worth investors, who had mostly availed this financing option.

“It has been a self-feeding process, with falling volumes reducing funding activity and lower funding activity weighing on volumes. Unless the sentiment improves, margin funding is unlikely to pick up,” said Geojit Financial Services’ MD CJ George