Derivative delusion

Last year, in a (hopefully) famous research report, markets regulator SEBI showed that futures and options (F&O) trading was overwhelmingly a loss-making proposition for investors. The report showed that 89 per cent of investors lost money in these activities, and just 11 per cent made profits. Separately from an interview with Zerodha CEO Nithin Kamath some time ago, one learns that in the whole of India, there are no more than about 5,00,000 individuals who are derivatives traders. Since Zerodha is the largest broker by some distance, Kamath's statement should be trusted.

Putting the above two facts together, one comes to the rather sad conclusion that no more than 55,000 (11 per cent of 5,00,000) individual traders made money from trading in derivatives! This is at least true of FY2022, the period on which the study is based.

Imagine that! All the vast activity of 'effendo' trading you see adds to the enormous amount of noise generated on business TV, YouTube, WhatsApp and other social media, and just around 55,000 people make money out of it. If you go into the details of the SEBI report, you will see that about half of those who make money also have trivial profits of a few thousand rupees in a year. They would have earned more even in a bank fixed deposit.

The craziest part of this story is that in all this, no one in the industry will mention one simple fact - unlike buying actual equity, where the open-end growth of the economy is backing it all, F&O is a zero-sum game. Whenever someone earns a profit, it comes out of another trader's pocket. The thought that a vast majority, over 90 per cent, of the derivative trading activity on Indian exchanges doesn't generate collective wealth is quite striking. If one party is prospering, it's because another party is facing a loss. So, if all the losses are someone else's profits, who is pocketing all that money that ordinary investors are losing? Take a guess.

You must have read recently that the National Stock Exchange wants to extend derivatives trading hours by adding a second trading session in the evening. According to reports, the markets will close at the normal hour (3:30 pm) but then reopen again from 6 pm to 9 pm. The news reports also say that at a later stage', the exchange might extend the evening session to 11:30 pm. It's crystal clear that brokers, exchanges, and those lending stocks profit from this activity, which seems to be the primary objective. If investors trade round the clock, then they can lose money round the clock, which is good for everyone else.

As a reader of this publication, you are almost certainly an individual investor who is interested in making money from investments. However, you should understand that this activity is not designed for you to make money. Instead, it is designed and managed and run to take your money away - it's as simple as that. All the talk of derivatives being beneficial for one reason or another is just propaganda. Observing the operations of the trading industry and its ability to shape its narrative, all this will not change. The growth of derivatives trading and the consequent financial challenges individual traders face will likely continue. Avoiding this potentially harmful activity might be best for individuals, as it seldom brings any benefits.

The facts speak for themselves: with a vast majority of individual traders reaping minimal, if any, benefits from F&O trading, one must ask, "is it worth the gamble?" It's not enough to be lured by the glitzy allure of potential profits or swayed by the pervasive industry rhetoric. Wisdom lies in taking a step back, analysing the facts, and making informed decisions, safeguarding your financial future. As the saying goes, "It's not about how much money you make, but how much you keep."

Also read: A black hole for your money