I know am supposed to not ask Zerodha specific questions here. But I want to know why was intraday margins/leverage reduced on friday after the Brexit event? Doesn’t it make sense for a broker to provide leverage on a day like this, more leverage = more number of trades = more broking revenue?
Also for a trader like me, it is hugely inconvenient if an action like this is taken.
During volatile environment, there is greater chance of Zerodha Client making a huge loss. This can put the entire brokerage under great risk. So, it is perfectly correct action taken by Zerodha. to de-leverage.
Also, Zerodha is a Discount broker. The main reason why traders choose Zerodha is for very low brokerge. Now, why should Zerodha take unnecessary risk for the sake brokerage, when Zerodha charges only Rs.20. per trade. For Zerodha to take higher risk, it should be getting 2-5K per option trade like Sharekhan.
Ideally any broker worth his salt should have reduced leverage or margin on a day like this. Let me explain why.
When a brokerage gives additional leverage, he is doing it from his working capital. Assume a brokerage allows you to buy Nifty future at 20k margin whereas exchange asks for 50k, he is essentially providing this 30k from his money. Such leverage is typically provided only for intraday trading.
Now let me explain with an example, assume Nifty is at 8000 and a client has taken a long position with 20k in the account. If nifty falls 300 points, the loss made is 22500, but the client has only 20000. Where does this extra Rs 2500 come from? The exchange will take money from the broker immediately, what if the broker is not able to recover this Rs 2500 loss from the client. What if Nifty falls down 500 points? That is a loss of 17500 more than what the client has in his account. Assume 500 clients lost Rs 17500 each more than the money actually in the account, or a loss of Rs 87.5lks together, what if the broker doesn’t have this much of his own money?
If he doesn’t, he is taking a systemic risk for all his other clients who have money. The risk is significantly higher with smaller brokers whose own capital/networth is much less ( Rs 1 crore to Rs10 crores kinds) and give high leverages immaterial of the current or expected volatility in the markets.
It is similar to a bad bank which gives loan to businesses without analysing economic conditions, or gives loan to earn revenue without worrying about the risk. If such loans turn into NPA’s, all depositors money is at risk. In case of banks, govt jumps into help, but not for brokerage firms.
Exchange margin requirements is meant to ensure such things don’t happen. It is meant to ensure that if a client loses money, he can lose only to the extent of money in his trading account in a day. The SPAN+Exposure covers for the highest fall that has happened on the exchanges for a while. But exchange margin goes up only after volatility happens on the exchange. It is not smart enough to go up before the event. So in the case of Brexit, coming into the event, there was hardly any volatility, so exchange margin requirements had more or less remained steady.
Nifty falling 500 points in a few minutes, is not really a daily affair, typically happens once or twice in 5 to 7 years. That is why most brokerages give that additional intraday leverage over and above what F&O already gives. But I guess everyone understands, that the day Brexit happened, it could have been one of those days. As a brokerage, it is important to be safe than sorry. It is important that a few people don’t put systemic risk on everyone else. So yes, we could have earned more brokerage revenue by giving that additional leverage, but we haven’t built this business by compromising on risk.
Like I said earlier, almost every brokerage worth his salt around the world reduced trading leverages on this day after the Brexit news.
Yes, it definitely makes sense for a broker to provide leverage and encourage trades on a volatile market. As a business decision, it was a pathetic one by Zerodha. Not to mention all the cribbing and bad press they got for it. I’ve personally seen a lot of name calling on the internet.
But here’s the thing. Zerodha is not your everyday broker here to make money. Zerodha is a profitable enterprise, there is no denying that, but they have their clients’ best interests at heart, and so think consider it better that their clients don’t trade rather than make losses. Now people are cribbing because they had excellent strategies that would have minted them money. But consider this - what if your strategy didn’t work? You’d have noone to blame but yourself, Zerodha would have made a lot of money and you’d be left with a loss. Instead, Zerodha decided that the seas were too choppy and riding out the storm would make more sense.
Ofcourse, there is also the fact that the broker cannot randomly deny his client from trading, so they just stopped leveraging trades. Also, you must note that Zerodha prides itself on being a debt free enterprise. I remember the RM telling me this when I was opening my account. So, to remain debt free, they make cautious decisions and risking money in such volatile markets would be foolhardy if not downright stupid as their risk to reward ratio is uncomfortably high in this scenario.
Any sensible broker will make sure his client doesn’t get emotional and make permanent loss of his capital by over trading and using leverage to make back the loss in a gap down. Despite the fact that its brokers money (leverage) at risk its fair not to allow any margin on such events because those moments are devastating for a trader who thinks he is a trader but is gambling on emotions in markets.
Any pro. trader will have a defined plan for his entry and exits and in case even of such big falls in gap downs they will exit, sit out, evaluate and come back in.
dont let a trade or day to make or break your account. Over trading kills and mostly its a practice done by many brokers which make there client over trade to generate revenue. zerodha been a discount broker does not have any greed factor because a client trade 1 lot per order or 1000 lots per order the revenue for brokerage remains same.
I think zerodha acted very mature and made sure clients who are unable to put self control of discipline in such days do not act rash and lose there entire trading capital.
Hi,
The below will happen 9 out of ten times.
more leverage = more number of trades = more broking revenue
But for the below will happen the remaining one time.
more leverage = more number of trades = more broking revenue and zerodha will go for bankruptcy due to negaive margins in the client account.
Its part of the risk management system adopted by all the brokers to ensure the interest of the counter party of the trades are protected.
Hi Nithin,
But I did have full cash in my account for the small volume I was trading still my order didn’t went through. I mentioned the specifics to support along with other question they just guided me here. Not to mention the Kite charts not loading during first minutes, errors on kite, are they also worth the salt?
Brexit was supposed to be a non-event. The unexpected results came out just before market open. The first few minutes of trading had 3x volumes both at the exchanges and at our end. This generally clogged up the infra. AMO orders are allowed and yes you can trade in CNC for intraday as well. It moved only 3%, but easily could have been a 10% day.
But why is MIS being blocked, 0 margin orders should be allowed?
We wanted to see if there is no volatility, we could have introduced MIS with margins. MIS was allowed after a little while.