SEBI's New F&O Rules: Impact on Stock Brokers

SEBI, the market regulator has announced that starting 1 October 2024, all stock exchanges, depositories and clearing corporations (collectively called market infrastructure institutions or MIIs) must charge brokers uniform transaction fees. Previously, these fees varied based on the broker's trading volume, meaning brokers with higher trading activity paid lower fees.

This change affects stock exchanges like BSE and NSE which currently charge brokers like FYERS, Zerodha, Groww and Upstox, etc based on their trading turnover. Brokers with higher turnover enjoyed lower transaction fees. The new uniform fee structure means brokers will now face higher costs.

Brokers earn a part of their revenue from the difference between what they charge customers and what they pay to exchanges known as a rebate. Nithin Kamath, head of Zerodha mentioned that rebates account for about 10% of their revenue up from 3% four years ago due to a surge in options trading. This new rule will impact their earnings from these rebates.

As a result, stocks of many brokerage firms dropped significantly. Angel One's stock fell by 8.72%, Geojit Financial Services by 6.68% and Motilal Oswal Financial Services by 4.19%.

Options Trading: Risks, Intense Trading and Addiction

Options trading in India is like a turbulent sea with many investors trying to navigate its unpredictable and challenging waters. In 2023, Indian investors traded around 85 billion options contracts more than any other country.

However, options trading is tough for beginners. According to SEBI in 2022, only 1 out of 10 traders in futures and options (F&O) made profits and the average loss was a hefty ₹1.1 lakh. Despite this brokers enjoyed high profits from the increased trading volumes after Covid, making this new situation troubling for many.

Tejas Khoday, co founder and CEO of FYERS explained that this change could seriously hurt discount brokerages. For larger brokers, 15-30% of their revenue comes from these rebates and for deep discount brokerages, it can be over 50%. Without this income brokers might need to start charging brokerage fees to stay in business.

In the short term, traders might see lower costs but eventually, brokers will likely increase fees to make up for lost revenue. While retail customers pay the standard fee, brokers get a discount due to high trading volumes. For example, the base fee for options is ₹5,000 per crore but a broker with high turnover might only pay ₹4,000 per crore keeping the ₹1,000 per crore difference as income. This income is now at risk.

Nithin Kamath of Zerodha hinted in his blog that they might have to introduce fees for equity delivery trades, which have been free for the past nine years, or increase F&O brokerage to cope with these changes.

Opportunities for small brokerages to shine

Trivesh D, COO of Tradejini, says this is a big change for small and mid sized brokers. For a long time these brokers had trouble competing with bigger ones who got big discounts on transaction fees, especially in Futures & Options trading. Now, these smaller brokers will have a fair chance because everyone will have to pay the same fees. This change will impact brokers who used to get big discounts because now the fees will be fairer for all making the market more transparent and equal.

On the other hand, Nilesh Sharma, President & Executive Director of SAMCO Securities, thinks this change is bad. He believes it will discourage brokers from trying to achieve high turnover, which is important for market activity. Sharma estimates that the broking industry’s revenue and profits will drop by around ₹2,000 crores. As a result, brokerage firms will have to raise their rates because they can't afford such a big loss in profits. This could lead to less trading and worse price discovery in the market.

How does the customer benefit?

SEBI, the market regulator has instructed market infrastructure institutions (MIIs) to make sure the fees charged to end clients are exactly what MIIs charge, without any extra additions by brokers. Currently, brokers charge clients daily but pay MIIs monthly based on their trading volume which can lead to confusion or overcharging for clients.

Tradejini's COO says this change will benefit customers because a standardized fee structure will ensure that any savings from transaction charges are passed on to clients instead of being kept by large brokers. This should lower transaction costs for investors, making trading cheaper and more accessible. It will also encourage brokers to compete based on service quality and pricing rather than just volume discounts.

Deepak Shenoy, CEO of Capital Mind, points out that while this new rule might slightly impact futures and options traders, it will affect brokers more. Brokers who operate on thin margins will benefit and SEBI's rule ensures that fees labeled as NSE fees are exactly what the NSE charges without any broker markups.