[Kevin Davis is a final year student at the West Bengal National University of Juridical Sciences]
On 1 July 2024, the Securities and Exchange Board of India (SEBI) issued a circular, appropriately titled “True to Label”, which will alter the revenue structure and potentially dampen the rise of zero brokerage intermediaries in India. In brief, the impact of this circular is two-fold: first, it mandates market infrastructure institutions (stock exchanges, depositories, and clearing corporations) to disclose the exact charges imposed on stockbrokers and pass on the exact amount to customers without the levy of any additional fees, i.e., only the true to label charges must be recovered from the end clients. Secondly, SEBI has prohibited the practice of a volume-based slab-wise structure for brokers and has introduced a flat charge structure that applies uniformly across the board. This move aims to benefit end clients by promoting transparency, increasing accountability, and fostering greater retail investor participation in the securities trade. The circular is to come into effect from 1 October 2024.
In recent years, the Indian stock market has witnessed the meteoric rise of zero brokerage intermediaries, commonly referred to as discount brokers. These brokers, such as Groww, Zerodha, and Upstox, have revolutionized the trading landscape by offering minimal or zero brokerage fees and leveraging advanced technology platforms to attract retail investors. The pandemic further accelerated this trend as a wave of new market participants flocked to these tech-first platforms, seeking to capitalize on market volatility and the especially lucrative opportunities in the futures and options (F&O) segment. The F&O segment, known for its speculative nature, has become a significant revenue driver for discount brokers. However, this speculation has also raised concerns about market stability and investor protection.
In response to such concerns, SEBI recently constituted a Working Group to enhance investor protection and risk management in exchange-traded derivatives. SEBI’s latest circular seeks to address the immediate concerns by introducing measures to regulate brokerage charges, enhance transparency, and protect retail investors from excessive speculation and hidden fees. The Working Group plans to address seven proposals with the intention of an immediate and short-term mitigation of the risks associated with excessive F&O speculation. Coupled with the recent directive for a consultation paper on curbing the F&O frenzy, SEBI’s latest move hints at the regulator’s willingness to take active steps towards a broader and specific regulatory system.
The immediate impact of SEBI’s circular on the brokerage industry is expected to be substantial. Analysts estimate that brokers could see a 15-30% hit to their top-line revenues as a result of the new charge structure. Nithin Kamath, CEO of Zerodha, one of India’s largest discount brokers, has acknowledged that these changes could impact up to 10% of their revenue. The full extent of the financial impact remains yet to be identified, but it is clear that brokers will need to adapt quickly to the new regulatory environment.
Starting 1 October 2024, brokers will be required to charge customers a defined transaction fee set by the exchanges for each segment. This new fee structure replaces the previous slab-wise system, where brokers charged clients based on the highest slab executed on their platform. Under the earlier system, brokers earned significant revenue from rebates—the difference between the transaction fee imposed by the stock exchanges and the fee charged to the end consumer. Stock exchanges imposed a transaction fee based on the broker’s overall monthly turnover, with higher turnover resulting in lower fees. This disproportionate system often led to discrepancies and higher charges for retail investors due to a lack of clear guidelines.
The legislative vacuum in this regard has also led to market consolidation and raised barriers for new entrants, who would face the highest fees due to their lower trade volumes. The new flat fee structure aims to eliminate these discrepancies, ensuring that all market participants, regardless of size, have equal and fair access to trading services, as mandated by regulation 39 (3) of Securities Contracts (Regulations) (Stock Exchange and Clearing Corporations) Regulations, 2018 and regulation 82 of the SEBI (Depositories and Participants) Regulations, 2018, thereby promoting transparency and fairness in the market.
The introduction of SEBI’s circular is rooted in a broader effort to enhance market transparency and protect retail investors. The Secondary Market Advisory Committee (SMAC) recently deliberated extensively on the existing slab-wise charge structure, identifying several key issues. One primary concern was the lack of transparency, which made it difficult for investors to understand the actual cost of their trades. Additionally, the slab-wise system created disparities between brokers of different sizes, potentially hindering fair competition and equal access to market infrastructure. By implementing a uniform fee structure, SEBI aims to eliminate these disparities and promote a more transparent and competitive trading environment. The ultimate goal is to build investor confidence, encourage broader participation in the securities market, and ensure that retail investors are not disadvantaged by opaque fee structures and hidden costs.
The regulatory changes introduced by SEBI are likely to trigger significant shifts in the brokerage industry. One potential outcome is the consolidation of brokers through mergers and acquisitions. Smaller brokers, who may struggle to sustain their operations under the new fee structure, could seek to merge with larger firms to achieve economies of scale and maintain profitability. This consolidation could lead to a more concentrated brokerage market, with a few dominant players controlling a significant market share. Moreover, brokers will need to innovate and diversify their revenue streams to mitigate the impact of reduced transaction fees. This could involve expanding into new product offerings, such as investment advisory services, portfolio management, and wealth management solutions.
From the perspective of retail investors, SEBI’s circular is likely to have a mixed impact. On the one hand, the new fee structure is expected to enhance transparency and reduce hidden costs, making it easier for investors to understand the actual cost of their trades. This could encourage greater participation in the securities market as investors feel more confident about the fairness and clarity of brokerage charges. However, the impact will be most pronounced in the F&O segment, where speculation is highest. Retail investors who engage heavily in F&O trading may see their trading costs increase as brokers pass on the fixed transaction fees mandated by the exchanges. For example, Zerodha has hinted at introducing a brokerage fee for equity delivery instruments and increasing the F&O brokerage.
SEBI’s latest circular represents a significant step towards enhancing transparency, accountability, and investor protection in the Indian stock market. By mandating the disclosure of exact charges and eliminating slab-wise rates, SEBI aims to create a level playing field for all market participants and foster greater trust among retail investors. While the immediate impact on brokers’ revenues could be substantial, the long-term benefits of a more transparent and competitive market are expected to outweigh the challenges. As the brokerage industry adapts to these changes, we can expect to see a shift towards more diversified business models, greater consolidation, and a renewed focus on delivering value-added services to clients. For retail investors, the new regulations promise a clearer, fairer, and more transparent trading experience, ultimately contributing to the growth and stability of the Indian securities market.
– Kevin Davis