INDIA BUSINESS WORLD - JUNE 2006
THE MONTH THAT WAS...

FMC CLAMPS DOWN ON PROPRIETARY TRADING

   UNRUFFLED by the fears of a global meltdown and roller-coaster stock market, commodity futures trading has surged. That's good news with several investors getting a window to make money. But a runaway market has also stoked the regulator's concern.

In a move aimed at making the market safer, the Forward Markets Commission (FMC) has clamped down on proprietary trading in commodity futures. FMC, which regulates the commodity market, has said that trades on proprietary account can take place only at one location and not from more than two specified terminals.

The regulator fears that several clients are routing their trades through the proprietary accounts of brokers to escape the margin money that has to be kept with the exchange. If the trades are booked as client trades, brokers would be required to recover the margin money from the investors and keep it with the exchange. However, if the trades are shown as part of the proprietary trades of brokers, then various long and short positions can be netted out to pay a lower margin on the net outstanding position.

As a result, a large volume of trade, FMC thinks, is happening without adequate margin. “The data obtained from exchanges and analysed by the commission indicates that a majority of the trading in the pro-account by the members is being done at terminals spread across the country. Interestingly, in a number of cases, members are trading in pro-account from more than 25 locations,” said FMC.

According to the regulator, this shows that client trades are being executed by the members in the pro-account. Spelling out its stand in a letter dated May 19 to all exchanges, FMC said, “The practice is not only in violation of various rules and bylaws but has the potential to put the exchange under systemic risk as the margin payable for client trade in such cases is avoided due to netting of the positions at members' end as all trade is being done in a single account (proprietary account only).”

The market feels the regulator has over-reacted by trying to curb such proprietary trades by restricting the location and numbers of trading terminals of brokers. “For instance in the capital market, even if proprietary trades are restricted to one location, there is no cap on the number of terminals,” said a broker.

In case a member requires the facility of using proprietary account through trading terminals from more than one location, such member shall be required to submit an undertaking to the exchange stating the reason for using the pro-account on multiple locations, and the exchange may, on a caseby-case basis, give a go ahead after due diligence. However, even in such a case, the number terminals cannot exceed five.