Zerodha's Nithin Kamath sounds alarm on rising MTF exposure; explains why it is a hidden stock market risk

Zerodha Co-founder Nithin Kamath has cautioned that the rapid rise in margin trading facility (MTF) exposure across India’s brokerage industry could emerge as a serious threat to the broader stock market ecosystem if equities witness a sharp downturn.

In a detailed post on social media platform X, the Zerodha co-founder said MTF books have continued expanding aggressively despite Indian markets largely moving sideways over the past few months.

Kamath said the current Indian market setup is very different from markets such as South Korea, where investors borrowed heavily during a strong rally. "This isn't like the Korean markets, for example, where the markets are up 150% in the last year alone, and people are borrowing to ride that rally. Our situation is different," he said.

Margin trading facility allows investors to purchase shares using borrowed funds from brokers by pledging stocks or margins as collateral. The product has witnessed massive growth over the past two years as retail participation in equities increased sharply and traders increasingly turned to leverage to maximise returns, particularly in mid-cap and small-cap stocks.

Why it is a hidden risk in the stock market?

According to Kamath, one of the biggest concerns arises during sharp market corrections, when brokers may find it difficult to liquidate pledged shares quickly enough to recover outstanding dues. "The big risk with MTF is the risk of the stock becoming illiquid in case there's a sharp market fall," he said.

He explained that brokers become vulnerable if stock prices decline beyond the margins deposited by customers. "If a stock moves more than the margin provided, say 20%, the bad debit is on the broker," Kamath said, adding that recovering those losses from customers later can often become extremely challenging.

Kamath further warned that risks intensify when investors use pledged shares as collateral to build even larger leveraged positions in the same stock. "A customer pledges Stock A, gets 80% margin on it, and uses that to take further positions worth 400% in the same stock," he said.

He added that such structures can become especially dangerous in mid-cap and small-cap counters where liquidity is lower and circuit filters can prevent exits during periods of extreme volatility. "If that stock is a mid or small-cap stock, circuits kick in, and there's simply no exit if markets turn around," he said.

The Zerodha co-founder also revealed that nearly 50% of the industry’s total MTF exposure currently sits in non-futures-and-options stocks, which are generally considered less liquid compared with large-cap F&O counters.

Kamath said Zerodha still does not permit clients to use collateral margins for MTF purchases, although growing competitive pressure across the brokerage industry could eventually force the firm to reconsider its stance. "While we still don’t allow collateral margin for buying MTF, competitive pressure would mean we will have to," he said.

He added that Zerodha’s own MTF book has expanded significantly over the past 16 months, although it remains limited to around 25% of the company’s net worth. However, Kamath noted that for some brokers, MTF exposure may already be as high as 500% of net worth, which is currently the maximum threshold permitted by regulators.

His comments come at a time when India’s cash market trading volumes have moderated after last year’s strong rally, even as leveraged products such as derivatives and MTF continue to witness elevated activity across the market.

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