Discount Brokers Hit Hardest by Derivative Regulations: Crisil

Mumbai, Oct 8 (PTI) Discount brokerages, such as Zerodha and Groww, will be impacted the most by the recent regulatory moves to curb investors' derivatives play, domestic rating agency Crisil said on Tuesday.

The agency's director Subha Sri Narayanan said up to 80 per cent of a discount broker's revenue comes from derivative trades, while for the full-service brokerages, the same is under a third of the revenues.

"With a relatively low proportion of other revenue streams currently and the more stringent eligibility criteria for retail customers now, discount brokers, who cater predominantly to the retail segment, could see the largest impact, with new customer acquisition also slowing," Narayanan said.

Its associate director Aesha Maru said competitive dynamics will constrain the discount brokers' ability to hike brokerage charges, which can otherwise be a mitigant in the face of troubles.

The agency said capital markets regulator Sebi's revised Equity Index Derivatives Framework announced on October 1 will hit transaction volumes in the futures and options segment of stock exchanges, ultimately impacting revenue and profitability of brokers.

The Sebi move has come on top of market infrastructure institutions (MIIs) like stock exchanges revising their transaction charges on September 27, it said, adding that this will also have an impact on profitability, especially of discount brokers.

It acknowledged that as a mitigation measure, brokers are revamping their revenue and cost models, following the introduction of the new norms.

"However, their ability to fully do so would be constrained by severe competition," the agency noted, expecting operational and compliance intensity to increase for the sector.

Sebi has adopted a three-pronged approach, including raising the entry barriers for transacting in derivatives, which will help it control retail participation in the segment, curbing market volatility due to speculative activity close to expiry dates by limiting weekly index derivatives offered by exchanges and building a cushion for risk by mandating intraday monitoring of position limits.

The revised transaction charge structure will hit the discount brokerages the most, the agency said, pointing out that a uniform transaction charge for each category of trade has replaced volume-based slab-wise charges from October 1.

The impact of the revised transaction charges will vary by entity, depending on factors like existing yield structures, nature of business and transaction volumes on exchanges, it added.

Discount brokers, who previously earned a substantial portion of their profit before tax (PBT) from the difference between the aggregated charges collected from ultimate clients and the charges paid to exchanges, will be the biggest hit, it said.

"This difference arose from the earlier slab-wise charge structure. Now, with brokers merely passing through transaction charges, the PBT of discount brokers could, ceteris paribus, fall by up to a quarter," it said.

The full-service brokers will have a lower impact because of the higher yields and diversified revenue streams, it noted.

"Brokers are also looking to expand and strengthen their other product offerings, such as margin trade financing and distribution. However, they may take some time to fully recoup the revenue loss from the recent regulatory changes," Maru said.