Derivatives trading is a crime scene

Some two years ago, markets regulator SEBI published a research report on Derivatives Trading that began with the sentence, "89 per cent of the individual traders (i.e. 9 out of 10 individual traders) in the equity F&O segment incurred losses, with an average loss of Rs. 1.1 lakh during FY22..."

While some people were surprised by this, no one who closely observed the equity markets found this to be unexpected. It is a known fact that almost all individual traders make heavy losses in F&O, but it's important that the SEBI study has put a number to it. In fact, at that time, I observed that if the traders had been tracked for a longer period, the aggregate number would have been higher.

Suggested read: A black hole for your money

Now, SEBI has released a follow-up report based on data from three financial years: FY22, FY23, and FY24. The headline conclusion continues to be unsurprising. Some 91 per cent of traders lost money in FY24, too. However, this updated report is quite interesting in many other ways. Its analysis has a level of detail that does throw up patterns that, if not surprising, are quite interesting. Some of these also point to the direction that regulatory changes should take.

I've collected some of these here, which I would like my readers to pay special attention to simply because they will help them build a mental picture of what is going on.

Individuals made losses in F&O, and the FPIs and Proprietary traders earned profits. Proprietary traders earned about ₹33,000 crore of gross profits in the F&O segment in FY24, followed by FPIs, who earned about ₹28,000 crore in gross profits. Individuals and others incurred a loss of over ₹61,000 crore in FY24. Algorithmic trading outfits made the most profits for FPIs and Proprietary traders. Ninety-seven per cent of profits of FPIs and 96 per cent of profits of Proprietary traders came from such entities in FY24.

The percentage of Individuals making losses in Futures is consistently lower than that in Options. In FY24, about 60 per cent of traders made net losses in Futures, compared to 91.5 per cent in Options. In Futures, individuals made an average net profit of about ₹60,000 per person in FY24, compared to a loss of ₹1,28,000 per person in FY23.

The proportion of young traders (those under 30 years old) trading in F&O has increased significantly from 31 per cent in FY23 to 43 per cent in FY24. Nearly 93 per cent of these young traders incurred losses in F&O in FY24, higher than the average loss maker of 91.1 per cent in FY24. Over 75 per cent of individual F&O traders in FY24 declared annual incomes of less than ₹5 lakh.

Almost half of all the F&O traders in FY24 (42 lakh traders) were "New Traders" (i.e. traders who traded for the first time in three years in the equity F&O segment). 92 per cent of these "New Traders" experienced losses and, on average, experienced a net loss of about ₹46,000 per person in FY24.

From FY22 to FY24, individuals incurred more than ₹50,000 crores in transaction costs for trading in F&O. On average, individual traders spent ₹26,000 per person on F&O transaction costs in FY24. Nearly 71 per cent of transaction costs were in the form of Brokerage (51 per cent of transaction costs) and Exchange Fees (20 per cent); the rest were taxes.

Suggested read: Retail investors and the derivatives trap

So this is the story: there's a continuous huge increase in the number of people who trade F&O. A large number have low income. Individuals lose money while the big operators make money. Remember, derivatives are a zero-sum game; all profit comes from someone else's loss. On top of that, there are massive brokerage and exchange fees.

The net conclusion is inescapable. You've heard many (including me in the past) say that this is gambling. Actually, this data shows that it is not - it's robbery. Exchanges, brokers and the big algo traders are taking money from small investors' pockets.

The question is, what is the regulator going to do about it?

Also read: Derivative delusion