Risky rush

Much has been written about the entry of a large number of retail investors into the stock market since last March, as the pandemic-induced lockdown gave people the time to understand and begin trading in stocks. While the increase in the number of participants helps impart greater depth to the market, the regulator needs to ensure that the new investors are adequately aware of the risks they are taking. The number of active investor accounts increased by 21 per cent last year as the two depositories — CDSL and NSDL — added 1.05 crore new accounts. Of concern is the fact that most of these new entrants seem to have been lured into trading, as against investing for the long term. The share of individual retail investors in the NSE’s cash market turnover shot up from 39 per cent in FY20 to 45 per cent last fiscal year, indicating that many of these players were speculating in the cash segment of the exchanges.

The derivative segment is not far behind. The share of individual investors in equity derivatives premium turnover has increased nearly two percentage points over the last five years while their share of notional turnover has increased seven percentage points. Such large participation of individual investors in trading is not advisable since they do not have the capital to withstand market volatility. SEBI had raised concerns over this increase in retail participation in equity derivatives in a discussion paper in 2018 and tried to link the trading exposure of these investors with their annual incomes. But there was a public outcry against these rules and hence they were not implemented . It may be a better idea for the regulator to step up its investor education programmes to highlight the risks in trading and the benefits from long-term investing. SEBI also needs to increase its supervision of stock brokers who encourage individual investors to indulge in excessive trading in order to earn higher commission. The recent rules on collection of trading margins upfront and monitoring of peak margin are welcome in this context.

Another negative offshoot of this trading rush of retail investors is that they are reducing their investments in mutual funds. With the existing information asymmetry in the market and given the superior skills of fund managers in managing stock portfolios, mutual funds are a better vehicle for retail investors to invest in equity. But inflows into systematic investment plans has been recording a steady drop since March last year. Average monthly inflows into mutual funds through the SIP route declined to ₹7,900 crore in FY21 from ₹8,340 crore in FY20. This diversion of investor money away from mutual funds is also due to the stellar rally in stocks from the lows recorded last March. SEBI must do all it can to inculcate in investors the habit of disciplined investing and educate them against chasing quick returns.

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