The meteoric rise of Jignesh Shah, his success with the commodity exchange, MCX, the battle with the National Stock Exchange over predatory pricing in currency futures and with the Securities and Exchange Board of India to acquire the permission to start the equity platform, form a very racy phase of recent stock market history.

We are being made to flip back the pages and re-visit these events after the Central Bureau of Investigation (CBI) filed a Preliminary Enquiry (PE) questioning the grant of stock exchange licence to the MCX-SX by the former SEBI Chairman CB Bhave and its former whole-time member KM Abraham.

There is absolutely no doubt about the integrity of Bhave and Abraham. Their vehement opposition to giving MCX-SX permission to start equity trading platform in 2010 and the legal battle that followed is sufficient proof of that.

To spread a culture

The reasoning for initially allowing MCX-SX to start a stock exchange was to bring in a strong competitor to the National Stock Exchange. This was expected to help spread the equity culture within the country and bring down transaction costs.

But MCX-SX was unable to replicate its success in currency futures in the equity segment. The exchange has been struggling to attract investors over the last year. This struggle to make inroads in to Indian capital market throws up the question — does India need more than one stock exchange?

A look at the stock trading eco-system in other countries reveals that most countries — especially in emerging markets — have only one stock exchange for trading in equity and equity derivative products.

Product differentiation

India is among the rare few countries that sports an embarrassingly long list of exchanges, many of which are non-functional regional exchanges.

In countries with multiple stock exchanges, the products offered by the secondary exchanges differ significantly.

For instance, the Philippines has the Philippine Dealing and Exchange Corporation (PDEx), besides the Philippines Stock Exchange.

The former deals with fixed-income securities and foreign exchange while Philippines Stock Exchange deals with equity and equity-related products.

Similarly, the Toronto Stock Exchange is the principal equity exchange in Canada while TSX Venture Exchange is established for trading in emerging companies.

Absence of such product differentiation is leading to troubles for exchanges such as the Bombay Stock Exchange and the MCX-SX. Traders and investors appear to prefer exchanges where the volumes are higher so that the spreads are lower and price discovery better.

This has led to shrinking market share of the BSE in the cash market, and MCX-SX too has found that it is not easy to increase volumes.

The equity debacle

Before 2010, there were two main exchanges for equity in India, the Bombay Stock Exchange and the National Stock Exchange. The NSE had almost 80 per cent market share and the BSE had been panting to keep up with the larger exchange.

The credit for the formation of the MCX-SX goes to the Finance Minister, P Chidambaram. It was to fulfil his promise in the 2008 Budget to set up a platform for exchange-traded currency futures that the RBI and the SEBI decided to allow new exchanges to be set up to offer this product.

Since SEBI’s regulations provided for setting up a stock exchange alone, MCX-SX was allowed to set up a stock exchange that began with offering a platform for currency derivatives.

There was excitement in the Indian capital markets as MCX-SX launched its equity platform. It was expected that brokers and investors would flock to the new exchange.

But none of this happened. While over 700 brokers had registered with the exchange, most of the large brokerages did not offer trading on the MCX-SX through their online platforms.

One year after its launch, daily turnover in the cash segment is around ₹30 crore while the derivative segment clocks turnover of around ₹50 crore.

This is well behind the leader National Stock Exchange’s ₹1,00,000 crore of daily turnover in derivatives and around ₹10,000 crore in cash segment.

The newly launched interest rate future that records few hundreds of crores and the currency derivative segment with around ₹5,000 crore do show some traction. But it is clear that the equity platform is a non-starter.

The distribution of trading is also a little bizarre. According to the regulator, 46 per cent of cash turnover of MCX-SX comes from Delhi. This is in contrast to the BSE and the NSE where more than half of the cash turnover is generated byMumbai brokers.

Not the end of the road yet

MCX-SX’ problems are not yet at an end. On July 10, 2012, SEBI had given the promoters of MCX-SX 18 months to bring down their share in the company to 5 per cent as prescribed by the regulation. The exchange needs to find a way to bring down its promoters’ share fast, else face the regulator’s ire.

The exchange is bleeding and not making enough revenue to meet its expenses. Turnover is being bolstered by way of incentives through the liquidity enhancement scheme.

A Rights issue of ₹544 crore is being planned, but it is not yet clear if this issue will sail through and the existing shareholders will be willing to put in more money.

According to persons associated with the exchange, it needs funds infusion to be able to continue operations.

If MCX-SX is able to find its way through this quagmire, it will need to concentrate on other assets — such as currency futures, interest rate futures or debt — to sustain operations.

The experience so far suggests that there might not be any room for another exchange for equities in our country.

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