Sebi Proposes Modifications To Margin Trading Facility Rules

The Securities and Exchange Board of India (Sebi) has proposed several changes to the rules governing the margin trading facility (MTF) in a bid to enhance operational efficiency, increase the ease of doing business for stockbrokers, and strengthen risk management within the MTF segment to protect investors.

Sebi's Proposed Rules For MTF

In a consultation paper, Sebi has proposed the amendment of existing rules and has also proposed some new rules to regulate the MTF segment. Here’s a look at some of the key proposals. 

Rebalancing Period for Security Grouping Changes

Sebi has proposed the introduction of a rebalancing period when a funded or collateral security undergoes a classification change. Sebi has proposed that if a security moves out of the eligible Group I category, shifts into the Trade-for-Trade category, or faces suspension from normal trading, stockbrokers will now be granted a 30-day rebalancing period to ensure compliance with regulatory standards.

For investors who use MTF for trading, this period can provide a buffer, curbing immediate, automated liquidations. On the other hand, it also gives traders time to adjust their portfolios or fulfill updated margin expectations amid classification changes.

Rules To Curb Passive Breaches of Client Exposure Limits

Sebi has also proposed a new rule to curb passive breaches of the single-client exposure limit. Notably, the single exposure limit protects investors by restricting a broker’s exposure to any single client to 10 per cent of its maximum allowable exposure.

Under the new proposal, if a client exceeds this 10 per cent cap because the stockbroker’s overall MTF exposure has shrunk, the situation will be treated as a passive breach rather than a regulatory violation.

The stockbroker must ensure the client reduces their position to comply with the limit within 30 days. Also, no additional MTF exposure can be provided to the client during this period. This protects MTF investors from abrupt penalties or forced closures stemming from adjustments on the brokerage’s end.

Forms of Collateral and Uniformity

At present, the initial margin for MTF can only be accepted in the form of cash, cash equivalents, or specific equity shares with appropriate haircuts. Haircuts refer to the percentage reduction applied to the market value of an asset when it is pledged as collateral.

Sebi has proposed to modify this rule mandating that eligible collaterals can only be made completely uniform for both standard cash market and MTF transactions. The regulator has also proposed that investors can also use ‘early pay-‘in (EPI) sell credits as collateral for fresh MTF positions after recovering outstanding loan amounts. Notably, EPI refers to the process of transferring or blocking shares from one’s demat account for a sell order before the official settlement.

MTF investors can potentially benefit from the modification of this rule as it will allow them to reinvest their gains from share sales without waiting for the completion of settlement cycles.

Sources of Funds for MTF

At present, stockbrokers can fund MTF operations through their own funds, commercial papers, bank borrowings, loans from non-banking financial companies (NBFC), or unsecured long-term loans from directors and promoters. However, Sebi has proposed to change this by allowing stockbrokers to use non-convertible debentures (NCDs) or any other debt instruments issued by the broker to fund MTF operations.

Though this will mostly affect brokers, it can also benefit MTF investors by broadening the capital sources available for brokers.

Maximum Allowable Broker Exposure

The existing rules cap broker’s maximum exposure towards MTF at borrowed funds plus 50 per cent of their net worth. Sebi has proposed to shift this to an overall leverage cap of 5.50 times the broker’s net worth. However, brokers must ring-fence funds equal to the lower of twice their required operational net worth or 50 per cent of their total net worth according to the consultation paper. The change in MTF exposure cap is expected to protect investors by ensuring that brokerages maintain a strict capital buffer, thereby reducing systemic counterparty risks

New Rules for Account Settlement

Sebi’s existing MTF regulations require brokers to maintain separate client ledgers for funds and securities across normal and MTF accounts. While the new rule maintains separate ledgers, it introduces full fungibility for unencumbered funds or securities between a client’s normal ledger and MTF ledger, alongside subjecting excess cash collateral to periodic running account settlements. This change is expected to allow investors to seamlessly transfer excess margins or trading profits between accounts.

Rights and Obligations Document

At present, individual stock exchanges frame their own Rights and Obligations documents for margin trading. The new proposed change requires all stock exchanges to jointly draft a single, uniform document within 30 days of the guidelines. This guarantees total clarity for investors, ensuring that the explicit conditions under which a broker can liquidate their securities are identical across the entire industry.

Disclosure Timelines

According to Sebi’s MTF framework, brokers need to report daily MTF details to exchanges by 6 PM on T+1 day. However, Sebi has proposed for this reporting to be completed on T+1 day prior to the clearing corporation pay-in timelines.

The usage of MTF has rapidly expanded as retail and institutional traders seek leverage in the Indian capital markets. The expanding cohort of MTF users is expected to benefit from the new rules which seek to increase operational flexibility, provide clear liquidation guidelines, and better protection against sudden broker-level exposure shocks.