Domestic prop trading firms face higher funding costs under RBI’s new rules

Mumbai: Domestic proprietary trading firms may be less favourably placed than well-capitalised foreign peers, such as HRT, Jane Street, Citadel and Millennium, as the central bank’s new lending rules for capital market intermediaries have raised funding costs for the local players, industry officials said.

As a category, proprietary traders lead daily turnover volumes on Indian stock exchanges.

As overseas trading majors can tap cheaper funding pools abroad or harness the balance sheets of their Wall Street parents, these firms might be insulated from RBI’s tighter norms, helping them capture a bigger share of the domestic market activity.

100% Collateral RequirementAt the heart of the issue is RBI’s new framework, effective July 1, that requires bank guarantees to capital market intermediaries to be backed by 100% collateral.Proprietary desks – companies that trade in equities, derivatives, currency and commodities with their own capital – are among the ones most impacted as they use a bank guarantee to put them as collateral with clearing corporations for margins.

This allows them to meet part of that collateral requirement without parking the equivalent amount of cash with the clearing corporation.Before July, several proprietary firms could get a bank guarantee by putting up only about half the amount as collateral. For instance, a firm could get a Rs 100 crore bank guarantee by pledging about Rs 50 crore of collateral. Now, firms must bring in collateral equal to the entire amount of the bank guarantee.The central bank’s decision is aimed at reducing banks’ loan exposure to the stock market.

“Our primary concern is that, despite a two-decade track record of near-zero NPAs, domestic proprietary traders are being placed at a disadvantage compared with foreign players,” said Ketan Marwadi, managing director, Marwadi Shares and Finance. “A potential consequence is the migration of trading activity and profitability from domestic intermediaries to foreign proprietary trading firms.”

This could result in foreign proprietary traders capturing a larger volume share, Marwadi said.

Volume leadersAs a category, proprietary traders contribute the most to trading volumes on Indian stock exchanges. These entities account for 34% of cash market turnover and 28% and 49% of futures and options volumes, respectively, on the National Stock Exchange (NSE), as of May 30.

Foreign trading firms are at an advantage because they do not tap Indian sources for funds.

Industry officials said these firms mostly tap their parents’ balance sheet or overseas bank credit lines for collateral funding, helping them access capital easily at a lower cost compared to domestic counterparts.