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India’s Financial Regulators to Launch Committee Addressing Derivatives Market Surge and Systemic Risks

February 24, 2025
Smart Money

India’s Financial Regulators to Establish Committee to Address Derivatives Market Risks

India’s leading financial regulators are poised to form a committee aimed at evaluating the stability risks associated with the recent surge in derivatives markets, according to two sources familiar with the matter. This initiative follows a significant increase in options trading, particularly among retail investors, and is expected to lead to policy recommendations as necessary.

Surge in Options Trading

The landscape of options trading in India has seen remarkable growth over the past five years, primarily driven by retail investor participation. Data from the National Stock Exchange (NSE) indicates that the notional value of index options traded in the fiscal year 2023-24 skyrocketed to approximately $907.09 trillion, a staggering increase from $447.69 trillion the previous year.

Formation of the Committee

The committee will be established under the purview of the Financial Stability Development Council (FSDC), which is composed of key financial decision-makers, including the finance minister, the governor of the Reserve Bank of India (RBI), and the head of the Securities and Exchange Board of India (SEBI). As reported, the specific membership of the committee, along with its reporting timeline, will be determined in the coming months.

The confirmation of this committee is particularly noteworthy as it has not been previously disclosed in media reports.

Evaluating Systemic Risks

According to the sources, the committee’s primary focus will be to assess the potential systemic risks that arise from the burgeoning derivatives trading environment. It will also examine the necessity for enhanced investor protection measures alongside increased regulatory oversight.

One of the essential areas of review will be the correlation between the rise of small unsecured loans and options trading activity. As one of the sources explained, the committee will conduct checks on the end-use of funds lent by non-banking financial companies (NBFCs) that engage in brokerage activities, particularly investigating whether these funds are contributing to capital market exposure.

Growth of Personal Loans

Central bank data reveals that the growth rate of personal loans, which are often not strictly monitored by banks regarding their use, has surpassed 20% annually. This rapid expansion raises concerns about the implications for the financial ecosystem, especially regarding the relationship between borrowing behavior and trading activities in derivatives markets.

Unprecedented Trading Ratios

A report released by Axis Mutual Fund in October 2023 highlighted that the ratio of the notional value of derivatives traded in India to traditional cash trading is an astonishing 422 times, marking it as the highest in the world. In comparison, derivative volumes in most other global markets typically range from five to fifteen times that of cash market volumes.

In terms of premium turnover—being the market value at which contracts are bought or sold—India also stands out as an outlier, surpassing most other economies globally. Ashish Gupta, the chief investment officer at Axis Mutual Fund, noted that this indicative ratio reflects the unique position of India’s derivative market.

Conclusion

As India’s financial regulators focus on the growth and implications of the derivatives market, the forthcoming committee represents a proactive step towards ensuring financial stability and protecting investors. With the rapid evolution of trading practices, understanding potential risks and regulatory needs will be critical in maintaining a robust financial environment in India. The finance ministry, RBI, and SEBI have yet to provide immediate responses regarding this newly-formed initiative.