Zerodha co-founder Nithin Kamath has raised an alarm on the growth of Margin Trading Facility in the Indian markets amid a highly volatile sentiment.
"MTF seems like easy money for the brokers. But the Risk Management team at brokers has to make sure that on one bad day, you don't give it all back," Kamath said.
In an elaborate post on X, Kamath pointed out that MTF books are growing across brokers despite the broader markets going "nowhere". He compared the Indian market scenario with that of Korea and underlined how different they are.
"This isn't like the Korean markets, for example, where the markets are up 150% in the last year alone, and people are borrowing to ride that rally. Our situation is different," Kamath stated.
Breaking down why this was a problem, Kamath explained that the big risk with MTF is the risk of the stock becoming "illiquid" in case there's a sharp market fall.
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"If a stock moves more than the margin provided (say 20%), the bad debit is on the broker. The odds of recovering a loss from a customer aren't that great," the Zerodha co-founder elucidated.
He added that the risk becomes graver when the collateral is stocks as in the case of a customer pledging Stock A he might get 80% margin on it, and use that to take further positions worth 400% in the same stock.
"If that stock is a mid or small-cap stock, circuits kick in, and there's simply no exit if markets turn around. Nearly 50% of the entire industry MTF book is non-F&O stocks," Kamath emphasised.
While, he said, the collateral margin for buying MTF is still not allowed, competitive pressure would mean it will need to be allowed.
"There's significant risk on the customer, but also on the broker. While our MTF book has grown meaningfully over the last 16 months, it's still only about 25% of our networth. For some brokers, this number could be closer to 500% which is the maximum regulator allows," Kamath said.
According to Kamath, in case of a market crash, brokers could end up holding losses from MTF positions they can't exit and in turn putting the entire ecosystem at risk.
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