To protect investors and rein in speculative trading, India’s markets regulator took decisive measures targeting the derivatives segment (F&O), including reducing weekly option products that dominated trading volumes. This has led to a sharp decline in the total F&O turnover since November.
The ripple effects are visible in the cash market as well. After peaking in July, the daily average turnover has been falling, particularly in large-cap and mid-cap segments.
Adding to this narrative, a YES Securities report dated 17 December highlighted a sharp decline in the five-day average NSE total F&O turnover, from ₹413 trillion in January to ₹186 trillion in December.
A trend emerging from this data is a likely shift of trading volumes from index derivatives to the small-cap cash market, said Hitesh Jain, lead analyst at YES Securities. “We sense that investors are increasingly focusing on small-cap opportunities, given the broader price resilience in these stocks compared to their large- and mid-cap counterparts over the last three months.”
While some market participants said this could be a valid hypothesis, others cautioned against drawing a clear link between trading volumes in the derivatives and small-cap markets.
Over the past three months, the Nifty 50 has declined by 8.5% while the Nifty Smallcap 250 has dropped just 5%. The Nifty Midcap 100 has shed 6% in the same period.
No correlation
According to Chandan Taparia, head of derivatives wealth management at Motilal Oswal Financial Services Ltd, the decline in F&O volumes does not imply that these volumes have shifted to the small-cap cash market. “There is no correlation; it is merely a phenomenon,” he said.
He explained that while foreign institutional investors (FIIs) typically hold positions in index derivatives and heavyweights, domestic institutional investors (DIIs) tend to focus on small-cap and mid-cap companies due to their greater understanding of domestic businesses.
With FIIs selling in recent months, F&O volumes decreased, leading to declines in some heavyweight stocks and gains in select mid-cap and small-cap stocks.
FIIs, however, became net buyers in December after two consecutive months of selling in October and November, showed data from the National Securities Depository Ltd.
In October, FIIs recorded net sales of ₹91,933.64 crore, followed by a more subdued selling spree of ₹18,258 crore in November. However, by 23 December, FIIs turned net buyers, with purchases totaling ₹20,906.33 crore.
Meanwhile, DIIs have consistently been net buyers throughout 2024. They net purchased ₹105,253.33 crore in October, ₹44,483.86 crore in November, and ₹16,546.41 crore up to 23 in December.
Also read | Heavy FII selling, derivatives expiry torpedo relief rally
Buffett or Soros?
The investor profile varies significantly between F&O and cash markets, pointed out Kranthi Bathini, director of equity strategy at WealthMills Securities.
While F&O trading primarily caters to those seeking quick gains, the cash market, particularly in the small-cap segment, focuses on value and sometimes momentum investing to achieve higher returns, he explained.
The tools and strategies employed in derivative stocks differ entirely from those used in small-cap cash stocks, Bathini added, comparing the difference to that between George Soros and Warren Buffett.
Buffett is renowned for his value investing approach, focusing on companies with rock-solid fundamentals. Soros, in contrast, is known for his speculative strategies, capitalizing on short-term market fluctuations and highly leveraged trades.
Vinit Sambre, head of equities at DSP Mutual Fund, said small-cap and mid-cap stocks have become somewhat expensive and could underperform in the short term given the current uncertainty in the market. But when it comes to the long game, he believes both mid-cap and small-cap stocks are primed to build wealth.
The Nifty Smallcap 250, with a current price-to-equity (PE) ratio of 30.89 times, sits slightly above its five-year average of 29.11. Yet, there is room for growth as the index’s decline this year isn’t as pronounced as the blue-chip index, according to market participants. On the other hand, the Nifty Midcap 100 is trading at a steeper PE of 39.85 times, surpassing its five-year average of 37.65.
Also read | F&O action: Can new Sebi rules tame wild bulls of the derivatives market?
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