Badla ban: Trading can be as usual

`SEBI bans badla variants from July 2'. This is the headline of a business daily on May 15. At the moment this is a shocking decision for many stock market participants with a vast experience in benefiting from the badla market. Does that mean investors and traders who are participating in the carry forward trading have to stop their activities and leave the market for some other market? The answer is no. The alternative market for selling and buying risk, the derivative market, is getting started finally. Derivatives are globally accepted trading medium for risk. It may take some time for the market participants to understand the mechanics of trading derivative instruments. Worldover these markets have more volumes and less transaction and impact costs. The positive side of the ban on carry forward trading is that Indian investors can look forward to more transparent risk management instruments now. The derivative markets can provide all the benefits that badla trading provided to investors.

What are the uses of badla trading? Mr. M. R. Mayya identified the following uses of badla trading. The badla facility can be used for hedging the stocks held by an investor against any likely fall in prices. This is often resorted to when shares are sent to the company for transfer or subdivision into trading lots. In this instance the sell trade is carried forward till the share certificates are received. Then they are delivered to the market. Similarly holders of convertible debentures can sell shares and carry forward their sell position till they receive shares from the company on conversion. Those anticipating the flow of funds can buy the shares they want at attractive prices and carry forward the long position till they receive the funds. During this time they pay badla charges. Thus, in all these three cases an investor is using badla trading to support his genuine investment operations. Badla trading also facilitated investors to get finance for short period using their share holdings. They can sell their shares in one settlement period, deliver the shares and get the sale proceeds. In the next settlement period they can buy the same shares and carry forward their long position till they do not want the funds. Then they pay the money and get their shares.

Investors can do all the above activities in an option market for individual shares. Only the mechanism is going to be different. The investor can by an option which allows him to sell his shares at a specified price at a specified future date. Thus any delivery problem can be tackled by buying options. In the case of convertible debentures also this same mechanism can be used. Those anticipating future fund flows can buy options that allow them to buy the shares at a specified price at a specified future date. Instead of paying badla charges, in this case they pay a premium at the time of purchasing the option. There is an additional benefit of buying options. If the prices decrease in the mean time, the buyer will be benefited because he can buy the shares from the market at lower prices. To get temporary finance also investors can use the option market. They can sell their shares in the cash market and simultaneously by an option to buy back the same shares after his funds requirement period.

Thus we can see, investors who use the badla market for locking in attractive prices can make use of the option market. Investors need not despair. They have to learn the mechanics of derivative trading fast. In many countries where the derivatives market was started, volumes picked up quickly. In India also let us hope that we can educate ourselves fast and use derivatives for improving our investment operations.

Wherever and whenever an investor wants to exchange risk for certain outcomes, savvy speculators will be there to do the other side of the transaction. Hence, the seasoned speculators and traders of the stock market need not worry about the continuance of their activities. Investors and derivative markets provide you ample opportunity for display of you speculative skills and it will reward you for successful trading. The good news is that technical analysis that you use in the stock market is valid in futures and options markets also. You need not learn things from scratch. You have to add a few more items of data and rules related to them to put you on to your chosen area of trading.

Narayana Rao

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