Why india is a derivatives obsessed nation?

First of all we have to understand what is derivatives ?

So a derivatives is a instrument who derive there value from other instrument For example; stocks, bonds, commodities, or currencies.

There are 3 different ways to use a derivatives

1) speculation

2) Hedging

3) Speculation

Figures:

• As of 2023, the NSE had an average daily turnover of over ₹25,000 crore (~$3 billion) in equity derivatives alone.

• The BSE has seen increasing volumes in derivatives markets, with options and futures trading reaching several billion dollars a day.

1)  Investor Behavior and Speculation

• Leverage and Risk Management: Derivatives allow traders and investors to gain exposure to a variety of asset classes without having to buy the underlying asset. They also provide opportunities for speculation and leverage. The Indian investor community, particularly those with a higher risk appetite, has increasingly turned to derivatives for these purposes.

• Figures:

  • The average daily turnover in equity derivatives on the NSE reached ₹ 25,000 crore (around $3 billion) in 2023, showing the extent of participation in these markets.

  • A significant portion of retail investors in India also participates in derivatives through Options and Futures, a trend that has steadily grown since the early 2000s

    
    

  

 Hedging and Risk Management

• Hedging Against Volatility: Indian businesses, especially those involved in exporting/importing goods, use derivatives as a tool to hedge against currency, interest rate, and commodity price fluctuations. The rising need for risk management solutions has led to the proliferation of derivatives in the Indian market. hedging aims to save individuals from market volatility.

• Figures:

  • The Indian currency futures market saw tremendous growth after its introduction in 2008. In 2023, NSE and MCX-SX (now part of NSE) were recording substantial volumes in currency futures and options contracts.

  • The commodity derivatives market in India, managed by exchanges like Multi Commodity Exchange (MCX) and National Commodity and Derivatives Exchange (NCDEX), has also grown considerably. The MCX's market size for commodities exceeded ₹ 10 trillion annually in recent years.

4. Regulatory Support and Financial Innovation

• Regulatory Framework: India's Securities and Exchange Board of India (SEBI) has developed a robust regulatory environment that has encouraged the growth of derivatives markets. The introduction of more sophisticated products, better market surveillance, and transparency in trading has helped build investor confidence.

• Derivatives in Equity Markets: The launch of equity futures and options in 2000, and the subsequent expansion of instruments like index futures and options, has been a key factor in driving India’s obsession with derivatives.

• Figures:

  • According to SEBI, the total market turnover for equity derivatives in India (as of FY 2023-2024) reached ₹ 4.6 lakh crore (~$58 billion) annually, with a significant portion coming from retail and institutional investors alike.

5. Democratization of Trading

• Retail Participation: With the rise of online trading platforms and mobile apps, retail investors in India can easily access derivatives markets. The growth of platforms like Zerodha, Upstox, and Groww has made it easier for individuals to participate in derivatives trading.

• Figures:

  • Retail participation in equity derivatives has been growing at a rapid pace. Retail traders in India now account for nearly 45% of total trading volumes in equity derivatives, with millennials and Gen Z driving much of this activity.

6. The Role of Algorithmic and High-Frequency Trading

• Algorithmic and High-Frequency Trading: As Indian markets have become more efficient and sophisticated, high-frequency trading (HFT) and algorithmic trading (AT) have grown. These trading strategies, which often rely on derivatives, are increasingly popular among institutional investors and hedge funds.

• Figures:

  • As of 2023, algorithmic trading accounts for approximately 50% of the total equity trading volume on Indian exchanges, much of it involving derivatives products like futures and options.

7. Globalization of India’s Economy

• Increased Global Linkages: India’s integration into the global economy and the increasing presence of foreign institutional investors (FIIs) has brought global trading practices, including the widespread use of derivatives, into the country. FIIs use derivatives for portfolio hedging, arbitrage, and speculative trading, which has further popularized their use in India.

• Figures:

  • Foreign Institutional Investors (FIIs) are significant players in India’s derivatives market. As of 2023, they account for nearly 30% of total trading volumes on the NSE, with a large portion of this trading focused on derivatives.

8. Commodities and Agricultural Derivatives

• Commodity Hedging: India has a large agricultural sector, and agricultural derivatives like futures and options on commodities such as wheat, soybean, and crude oil are increasingly being used to hedge price risks. The introduction of weather derivatives and more innovative financial products has allowed Indian businesses to hedge against commodity price fluctuations more effectively.

• Figures:

  • The MCX (Multi Commodity Exchange) saw a volume of around ₹ 100,000 crore (~$12 billion) in commodity derivatives in recent years.

  • The National Commodity and Derivatives Exchange (NCDEX) has been pivotal in expanding agricultural commodity futures trading, with turnover reaching ₹ 2 trillion annually.

Conclusion

India's obsession with derivatives is driven by a combination of factors: the rapid growth and sophistication of financial markets, the increasing need for risk management solutions, speculation, and the globalization of Indian financial markets. The introduction of new products, the increasing retail participation, and regulatory support have all played a role in making derivatives an integral part of India’s financial ecosystem.

• Market Size and Participation: The Indian derivatives market is now one of the largest in the world, with annual turnover in equity derivatives alone reaching several lakh crore rupees (~$50-60 billion).

• Retail Involvement: Retail traders now account for a substantial portion of derivatives trading, with younger, tech-savvy investors driving much of this trend. in current scenerio 97% of the retail traders are loosing money in derivatives market and they are getting addicted to this.

India’s strong reliance on derivatives will likely continue to grow as financial literacy improves, more financial products are introduced, and global trends continue to influence the Indian economy.