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High CTT impact cost to hit trading volumes: Experts

2008-05-06 12:14:19 Source : Bazaar/CNBC-TV18
(Interview Transcript)

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There is a huge hue and cry about the Commodities Transaction Tax, which came in the Union Budget. Some believe it�s draconian and will substantially alter the possibilities of growth in the commodities market and exchanges.

Dharmesh Pandya of Motilal Oswal said that commodity volumes could go down impacting liquidity and also bid-ask rate. He added that the trader volume would go down as impact cost is high.He said that the impact cost would be at least Rs 5.

Chetan Barkhada of Anand Rathi Securities and Dharmesh Pandya of Motilal Oswal Securities spoke exclusively to CNBC-TV18 in an exclusive interview:

Q: What is your sense - if you could take us through how significant this additional tax burden would be for the exchanges and what kind of an impact it could have on the commodities market?

Barkhada: If you see, there are three types of traders in the commodities market. One is an investor, another is a trader and third is the corporate who hedges.

The trader impacted large because the transaction cost goes high, which is the highest in the world; after we have this Rs 17. If you take example of gold - gold in India, you can say you were in a position to trade at lower amount. But because of the transaction cost, it will be highest and the per kilo the cost will go up without brokerages, which is around Rs 600. So the volume may shift from this exchange to the international exchange, provided they have an exposure at both the places to take the position.

If you say on copper side or a metal side, the impact will be minimum because we will be competitive to LME (London Metal Exchange) market. But if you say agri commodity, then the impact to a hedger will be very large because they don�t have a choice but to hedge in this particular platform.

But for a trader this impact cost will be very high and that is the reason the trader volume will go down and in a trader also we can define two types of people - one who is an intra-day trader and another who is a short-term for doing a jobbing. The jobbing volume totally goes and that is the reason I feel volume in the exchanges will go down drastically.

Q: By what would trader margins be impacted with this kind of a tax regime if you can just elucidate with few examples?

Pandya: Just to support what Chetan Barkhada has suggested, in the current market, unlike stock markets, the participants are very limited. So a major chunk of the volumes whatever you get today in the exchanges are mainly from this intra-day players and you don�t have major participation from corporates or the big time hedges coming into the system. So jobbers are the guys who actually are the main responsible persons for providing you a good quality bid-ask plus the good quantity, which is required for any transaction to be more smoother or a hedger to be better. Just to add to the example of what Chetan Barkhada has given, the impact cost before the Commodities Transaction Tax (CTT) for a jobber would be - say if he is trading in gold, he will be moving out of the markets maybe within a Rs 1or Rs 2 a year.

But now the CTT coming into place, the impact cost will not be less than Rs 5. So if he wants to play, he has to wait for at least Rs 6 to breakeven. Then only he makes profit. So if that is the rating period which will actually reduce the market liquidity or reduce the churn, that might happen much faster at this point of time which is beneficial for the hedger or the corporate who wants to liquidate or hedge big positions. If that kind of a situation is going to happen, the volumes are going to go drastically down which is going to impact the liquidity plus the bid-ask also.

Q: Just one technical question. I believe the Finance Minister is to outline the complete modalities today - what is it that people have been asking for scale back or a scale down of CTT or complete removal of it. What do you expect to hear today basically?

Pandya: Ideally the market is expecting it to be a removal of it because the market is in a very nascent stage right now. The participants are very limited; maybe if we can have more participations from international markets - the FIIs or mutual funds or banks being allowed options trading being allowed, which actually creates more depth to the market. Then later on, maybe over a period of time once we see better stability, we can come out with this taxation that can actually help the market to grow. So I hope we should have a removal of it but whatever best is possible, I think the market should be looking forward for it.

Q: What is the global precedence to this - how does it work globally when you trade in commodities compared to this CTT that�s been imposed here if it does get imposed in full form?

Barkhada: Globally if you say in a Commex or London Bullion Market Association (LBMA), the transaction cost or to do a transaction, normally it is like in a Commex USD 0.10/oz (ten-cents) difference in gold in a triounce term, whereas in India it is Rs 1 a difference. So the impact cost in India before CTT used to be Rs 125 per kilo. But after CTT, it will be at Rs 319 or 320 per kilo; in a Commex it is Rs 104 per kilo. So what happens is globally anybody trading in gold will get impacted because of a high transaction cost.

If you say gold traded elsewhere, that means LBMA - there the transaction cost is zero. But the Spread is 30 cents, which amounts to Rs 350 per kilo for trading in gold. But if you take a new exchange like Dubai Gold Commodities Exchange where else it is being traded, there the spread is difference - there is no transaction cost or there is no CTT. But the spread difference is around 40 cents, which amounts to Rs 500. So what will become is after CTT will become one of expensive to trade in the commodity exchange.

But if you take example of say copper, the hedger volume will shift from India to other exchange - I personally feel it won�t be. The reason behind that is because when I take a position in an international exchange, I indirectly create a currency risk. If I am a net receiver of a forward premium, in that case I will go and hedge outside India. Otherwise even with the transaction cost or CTT I will be hedging in Indian exchange only.

Q: You got a sense of what percentage of daily commodities turnover is contributed by jobber or traders. Just to get a sense of how much volumes could dry up if Commodities Transaction Tax (CTT) is implemented and remains in its current form?

Pandya: Maybe around 60-70% or more than that also could be contributed by these players who are actually the major participants of the business today. The awareness level is pretty low; it�s still growing and absolutely at a nascent stage.

Q: What�s the alternative if indeed CTT remains in its current form - then is it a viable alternative for Indian domestic commodity brokers to trade in global exchanges or it�s a possibility on paper but not in reality?

Barkhada: If one sees on metal side, RBI has already allowed in �99 to hedge outside India if one has natural hedger. Current scenario; if one is not an importer or an exporter, one is allowed to hedge or RBI gives permission on international exchange as far as base metal exchange in concerned. If somebody has presence in gold in India as well as outside India and their balance sheet is getting combined at year-end they will hedge on international platform. But if one says agri commodity because the permission is not there they will have to hedge in the domestic exchange.

But I fully agree saying that the speculator or an intra-day trader, the volume will go down drastically which will impact a corporate also and reason behind that is as soon as a market maker or a jobber moves out of system because of high Commodity Transaction Tax, then spread goes up. So ultimately a total cost too for hedging will also go up. But because it is a need of a business, I feel the volume after some time, will come back. But in the immediate effect, the volume in the exchange will definitely go down because of a high transaction cost and will become expensive in the world after imposing a commodity tax.

Q: What do you think will be the slightly longer-term impact on volumes if this comes through? Will action be low for a while and then pickup again or do you think they might shift to � I don�t know how active the grey market but do you think it might shift there?

Pandya: The short-term trend is definitely a big downfall in exchange volumes. Over a period of time, people will start getting hang of it and if the government, suppose with new reforms or maybe new additions to this market participants, can actually support the liquidity as well as the debt, we should see a sustained growth over a period of time. But the short-term; it is definitely going down. Talking about the grey market, definitely since the impact cost is higher, the probability of volume shifting to that market is definitely going to be there.