Mint Explainer: Can commercial papers rescue brokers from RBI’s latest leverage squeeze?

Subscribe to enjoy similar stories. India’s market regulator, the government and now the central bank have all tightened the screws on what they see as excessive speculation in the country’s booming derivatives market. The latest amendment by the Reserve Bank of India to bank lending norms hits a critical cog: cheap leverage.

The RBI has barred banks from deploying depositor money to fund proprietary trading and has mandated stricter collateral rules for capital market intermediaries (CMIs), including brokers and exchanges. This comes on top of the government’s upcoming hike in securities transaction tax (STT) — 2.5x on futures and 1.5x on options — which is anyway likely to raise trading costs. Whether these measures will materially curb retail speculation will be evident only from the next financial year when the new measures kick in.

But, experts are clear on one near-term effect: liquidity could tighten for institutions that offer and facilitate derivatives trading. Market players predict derivative volumes will shrink with one pegging the contraction at 15-20%. Brokers, proprietary desks, and exchanges are most exposed to the hit.

Still, some experts believe that markets will adapt. This time, the escape valve may lie in the commercial paper (CP) market. Mint explains.

From 1 April, banks can extend credit to CMIs only on a fully secured basis. In practice, this redraws several long-standing funding arrangements in capital markets. Until now, brokers could negotiate funding flexibility.