In what may be a first in India’s financial markets, a regulated entity has taken a regulator to court.National Commodity and Derivatives Exchange Ltd (NCDEX) has filed a writ petition against commodity markets regulator Forward Markets Commission (FMC) for issuing a stay order on its proposal to reduce transaction fees. NCDEX recently issued a circular stating that turnover fees would be slashed to 5 paise/lakh worth for trades done after 5pm, against the fee of Rs3/lakh for trades done in the morning session.NCDEX’s competitor,Multi Commodity Exchange of India Ltd (MCX), which has close to an 85% market share, witnesses high turnover in the late evening session, and the move seems to be targeted at capturing market share.
The first question that comes to mind is: Why is a regulator interfering in what is purely a business decision? The Forward Contracts Regulation Act leaves the decision on pricing in the hands of exchanges. If anything, the regulator may need to step in if an incumbent exchange is charging exorbitant fees. But lower fees benefit users of the market and result in higher volumes. They can’t conceivably be seen as something that may harm market participants, which is what regulators should be watching out for.
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FMC hasn’t said officially why it has put the stay order, except for stating that NCDEX should have first got its approval before reducing fees. A report by Commodityonline.com quotes an unnamed FMC official saying, “FMC will not permit such predatory pricing in the transaction charges that NCDEX wants to implement.” That suggestion is laughable. With a market share of about 10%, how can NCDEX be viewed as engaging in predatory pricing? Normally companies with a monopoly or high market share are known to engage in predatory pricing.
NCDEX’s move can be seen as an attempt to compete on price. The commodity futures market is already on its way to a monopolistic regime and if anything, the regulator should encourage competition. And competing on price is among the most commonly used strategies by new entrants and players with low market share.
A good example of this is the BATS Exchange, a relatively new entrant in the US securities market, which faced competition from giants such as the New York Stock Exchange (NYSE) and Nasdaq. It wooed Nasdaq and NYSE traders by paying them for redirecting orders of securities listed on the two incumbent exchanges. It had to spend millions of dollars to compensate traders, but the investment is now paying off—it now ranks as the third largest securities exchange in the world.
In India, currently both the National Stock Exchange of India Ltd and MCX Stock Exchange have waived transaction fees for currency futures trades. Similarly, in the GSM (global system for mobile communications) wireless market, the new entrant, Reliance Communications Ltd, is offering free minutes on its network to attract customers. If the regulators of these respective markets stepped in and demanded higher prices, customers of these services would suffer and it would be seen as an attempt to favour the incumbent.
Another flawed criticism that’s doing the rounds of the market is that NCDEX would not be able to sustain operations by charging such low fees, since operating costs are much higher. But it must be noted that the exchange is already incurring the operating expenditure required to keep itself running. By lowering fees, it is not adding to its expenses. However, from its current position of little or no turnover in the late evening session, it may garner volumes thanks to lower fees. In other words, it would be better off than it was before the rate cut. Of course, it may still be in losses, but then that’s a business decision for the exchange to take. It is answerable to its board and shareholders about its profitability, not the regulator.
So, why is FMC behaving the way it is with NCDEX?
Financial economist Ajay Shah has a recent blog entry titled: Regulatory Capture of the Forward Markets Commission, which lists press articles on this tussle. Shah seemingly is referring to rival MCX’s influence over the commodity markets regulator.
MCX would be the biggest loser because of the fee cut, and one of its spokesperson has been quoted saying that NCDEX’s move is irrational and that one shouldn’t indulge in “predatory pricing”.
By not giving a suitable explanation on why it wants a stay on NCDEX’s new pricing strategy, FMC has only allowed such rumours to fester. It needs to come clear on its concerns about an exchange charging lower fees.
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