Even though NSE's transaction fee change is nominal, there will be some benefit for members.
MCX Stock Exchange (MCX-SX) has given glimpses of its pricing strategy for the equity cash and derivatives segments in the past two weeks. It has settled for membership deposits that are a fraction of those prescribed by the National Stock Exchange (NSE) and has set transaction fees at roughly half those charged by NSE. It’s still not clear if it will incentivize trading members to act as market makers, like BSE Ltd is currently doing for its equity derivatives segment.
NSE, too, announced a slight tinkering of its transaction fee structure last week. A number of news reports have referred to these moves as a beginning of a price war in the exchange space. But clearly, that’s an overstatement. NSE has allowed its trading members to offset their annual subscription charges of 1 lakh against transaction fees payable to the exchange. It said in a release that its 1,400 trading members will benefit from this move. Assuming each member saves the entire 1 lakh as a result of this move, the total hit for NSE will be 14 crore, which is less than 1% of its total revenue and just 2% of its annual profit.
NSE’s first response, at least, has been quite restrained. Around three years ago, the exchange had cut transaction charges marginally, a few months after BSE hired a new team headed by Madhu Kannan. Since then, it hasn’t altered its fee structure, even after BSE started reporting large volumes on its derivatives segment since it began its market making incentive schemes. The reason being that even though BSE volumes have risen, this hasn’t impacted NSE’s own volumes. There’s no institutional presence yet on BSE’s derivatives segment, and most of its volumes come from trading members who have enrolled as market makers.
On a similar vein, MCX-SX’s relatively lower entry barrier in the form of a lower net worth requirement and lower deposit may attract trading members who either trade very often themselves or have clientele who are day traders. But it will do little to attract institutional investors.
MCX-SX will have to work hard at building an institutional investor base. Investors from this segment are not permitted to trade on its parent company’s commodities exchange, MCX and even in its own currency futures segment, institutional participation is low and is largely made up of banks, who are not active participants in the equities market. Institutional presence is important for any market as it adds depth and protects the market from getting homogeneous orders. This is not to say that MCX-SX will not succeed in attracting institutional participation, but that the progress on this front may be gradual.
Active institutional investors and even a large number of domestic firms will also look for advanced trading technology, which can handle enormous amounts of data at quick speed, especially given the increased adoption of algorithmic trading in the equities segment. MCX-SX’s success in the equities segment will depend to a large extent on finding favour with technology-savvy market participants.
And as far as the reduction in transaction fee goes, it won’t be a game-changer unless the government abolishes securities transaction tax (STT). Apart from the options segment, where STT charges are relatively low, exchange fees form only a small portion of a trader’s total costs. From an institutional investors’ perspective, these charges are even less relevant in light of the relatively high custodial charges and other costs they incur.
Given these challenges, a large broker says that the new exchange can be expected to have a slow start. The key, he adds, is to launch innovative and differentiated products and attract market participants to its platform. Needless to say, the market overall can be expected to benefit from the increased competition. Even though NSE’s transaction fee change is nominal, there will be some benefit for members. The threat of better product innovation by a rival will also spur each exchange to invest in research and technology, which will again work to the benefit of the market. In the midst of all this, however, the regulator needs to get even more vigilant and ensure that the race for market share doesn’t lead to a race to the bottom in terms of risk controls and regulatory compliance.
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