Transaction tax may halve comex volumes

BUDGET 2008-09: IMPACT

Proposed levy of 0.017% could take a toll on futures market.

The levy of commodities transaction tax in today's Budget is expected to take a heavy toll on Indian commodity futures market, industry analysts said.

Imposition of the tax will lead to a fall in volumes at exchanges and encourage traders to indulge in unofficial "dabba" trade and move business to global markets.

The finance minister has proposed a levy of 0.017 per cent CTT on seller of an option in goods or an option in commodity derivatives, and on commodity derivatives.

In case of exercise of any of the options above, the CTT will be 0.125 per cent to be paid by buyer. Commodity bourses have also been brought under the service tax net of 12 per cent.

"We think Indian commodity futures market will become inefficient and not serve its economic purpose and business will migrate to international markets or unofficial local market," said Jignesh Shah, managing director and chief executive officer of MCX, the country's top commodity exchange.

"Besides, the levies will sharply bring down volumes 50 per cent by throwing out a large chunk of participants from the markets," said an industry analyst, who did not wish to be quoted.

The government will have to roll back on this provision (of CTT) to keep the commodity markets alive in the country, analysts said.

"Introduction of commodities transaction tax will adversely affect the commodity futures market, especially at a time when options are to be introduced," said, B C Khatua, chairman, Forward Markets Commission.

The levy of service tax is unlikely to have severe impact on the commodity exchanges, according to P H Ravikumar, managing director and chief executive officer, NCDEX.

"However, commodity market is just four years old and is just one-fifth the size of the total securities market, and clearly the commodity market has simply no capacity to bear this tax," Ravikumar said.

High transaction cost
The finance minister has imposed CTT on the lines of the securities transaction tax applicable in the stock market but without the incentives prevalent in that market.

"The budget has added an incidence of 12 per cent service charge and Rs 17 per Rs 100,000 turnover in commodities trading, which will increase the cost by more than 800 per cent," Shah said.

However, the benefit of long-term capital gains and allowing trading gains or losses in equities to offset against business losses or gains was not extended to commodity markets, Shah said.

The brokerage rates in Indian commodities markets are wafer thin. When the equity delivery brokerage was 25-50 basis points when the STT was introduced, the commodity brokerage rates are just 3-4 basis points.

For institutional clients, the brokerage is even less than 2 bps, said C J George, managing director of Geojit Financial Services. At a current practice of around Rs 500 brokerage per Rs 10 lakh turnover, 0.017 per cent CTT or Rs 170 will lead to over 33 per cent rise in transaction cost for the investor.

Loss of participation
At present, over 50 per cent of the liquidity or volume in commodity derivatives is provided by jobbers and arbitrageurs, who trade very big volumes. However, their profit margins are way below CTT percentage of 0.017 per cent.

Jobbers and arbitrageurs are separate kind of speculators, who generate huge volumes on a marginal profit margin.

For example, presently they earn a profit of Rs 1,000-1,500 on turnover of Rs 10 lakh, but with the imposition of CTT they will be thrown out of the market, resulting in a loss of volume.

As per the initial public offer prospectus of MCX, the exchange gets 40 per cent of the turnover from top 10 brokers.

Since, these brokers are into jobbing too, MCX is likely to lose substantial volume post levy of CTT, a Delhi-based broker said. Similarly, bullion traders having large exposure in spot market, may have to face increase in transaction costs making it difficult for them to effectively hedge price risks in the futures market, according to Suresh Hundia, president, Bombay Bullion Association.

"The volumes for bullion could fall by as much as 50 per cent on the exchanges if the tax is imposed as we will be exposed to the vagaries of global fluctuations without an affordable chance to hedge our risks," Hundia said.