India's gambling industry

Late in 2022, in a now famous research report, markets regulator SEBI showed that derivatives trading was overwhelmingly a loss-making proposition for investors. The study showed that 89 per cent of investors lost money in these activities, and just 11 per cent made profits. Warren Buffett famously said: "Derivatives are financial weapons of mass destruction." Of course, he was talking about the economy as a whole, but his statement is just as true for individuals, and this was proven by this study. At the time when the report came out, I wrote about it and ended my article by essentially saying, "Well, what next?"

My point was that after such a devastating expose of what derivatives did to individual traders, the regulator could hardly wash its hands off the matter. Logically, the report couldn't but be a precursor to some regulatory action. The findings of this study raised serious questions about the accessibility and risks associated with derivatives trading for retail investors. It highlighted the need for better education, stricter regulations, and perhaps even limitations on who can participate in these complex financial instruments. The report also sparked a broader debate about the role of financial literacy in protecting individual investors from potentially ruinous losses in complex segments of the equity markets.

However, these are all hand-wavy ideas that are unlikely to have any demonstrable and measurable effect. Meanwhile, the participation of retail investors in the derivative markets continues to rise. There are a lot of people who are making good money out of this activity, namely, brokers and the stock exchanges. Luring people into this trade is good business. Recently, we have some new rules that might (might) put a break on some parts of this business. SEBI is going to bring in what it calls 'true to label' rules for the money that is charged by the stock exchanges from the brokers and is, in turn, recovered from traders by brokers.

The 'true to label' rule will reduce the amount of money that brokers make and likely make derivatives trading more expensive for traders. Whether it will make it expensive enough to seriously reduce participation, I don't know. For all we know at this stage, it may not have any measurable impact.

The SEBI chief has also publicly expressed the board's intent to curb the level of gambling-like trading that's raging in the derivatives market. From her statements, it seems that the regulator is prepared to go as far as needed. At a press meet, she was asked if they would be prepared to ban derivative products to accomplish this goal. Her reply was that yes, that would be on the table if 'the data and the logic pointed' in that direction. It's for the country to decide whether this activity serves any purpose.

That sounds encouraging because one thing is certain—this is an addiction. When one hears accounts of people borrowing huge amounts to trade and then losing it all, it's clear that this has to be treated the same way as gambling. Derivative trading serves no useful economic or business purpose. The money does not get deployed into the economy; it's literally just legal gambling.

Normally, I would end a column like this by exhorting my readers to stay clear of such activity. I would say that wisdom lies in taking a step back, analysing the facts, and making informed decisions, safeguarding your financial future and investing for the long-term. As the saying goes, "It's not about how much money you make, but how much you keep."

However, saying those kinds of things is actually of no use. This is a psychological issue. People who are addicted to gambling can't help themselves. This has to be tackled at another level and I just hope that happens soon enough.

Also read: The tragedy in the markets