Nithin Kamath Warns of Rising MTF Risks as Leveraged Bets Surge in Flat Markets
Zerodha co-founder Nithin Kamath has raised a red flag about the growing use of Margin Trading Facility (MTF) in Indian stock markets. He warned that aggressive leveraged bets, especially in illiquid mid-cap and small-cap stocks, are creating a major systemic risk. Even though the broader market has been flat, many investors are borrowing heavily to trade. Kamath fears that a sharp market correction could leave brokers unable to sell off collateral, leading to significant bad debt.
MTF allows traders to buy stocks by paying only a part of the total value. The broker lends the rest. This leverage can amplify gains when markets rise. But it also magnifies losses when prices fall. Kamath pointed out that the current surge in MTF exposure is particularly dangerous because it is concentrated in stocks that are not easy to sell quickly. These are often smaller companies with low trading volumes.
Why Illiquid Stocks Are a Problem
When a stock is illiquid, it means there are few buyers and sellers in the market. If many traders are using borrowed money to hold such stocks, a sudden price drop can trigger a chain reaction. Brokers may try to sell the collateral to recover their loans. But if there are no buyers, the broker cannot exit the position. This leaves the broker with a loss, which becomes bad debt. Kamath explained that this scenario is not just a risk for individual traders but for the entire financial system.
For example, imagine a trader buys shares of a small company worth Rs 1 lakh using only Rs 20,000 of their own money. The broker lends the remaining Rs 80,000. If the stock price falls by 30%, the trader’s entire capital is wiped out. The broker is now stuck with shares worth only Rs 70,000 against a loan of Rs 80,000. If the stock cannot be sold, the broker loses Rs 10,000. Multiply this by thousands of traders, and the losses can become huge.
Flat Markets Mask Growing Danger
Kamath noted that the current market environment is deceptive. Major indices like the Nifty 50 have not moved much recently. But beneath the surface, many mid-cap and small-cap stocks have seen wild swings. This has encouraged traders to take bigger risks using borrowed money. They hope to make quick profits in volatile stocks. However, the lack of liquidity means that when the trend reverses, there may be no way out.
Data from the exchanges shows that MTF outstanding has been rising steadily. In the past year, it has crossed record levels. Kamath warned that this trend is unsustainable. He said that if the market corrects sharply, brokers could face a liquidity crisis. They may not have enough cash to cover the losses from forced selling. This could lead to a domino effect, where one broker’s failure impacts others.
What Investors Should Do
Kamath advised retail investors to avoid using excessive leverage, especially in stocks that are not part of the main indices. He suggested that traders should only use MTF for large, liquid stocks where selling is easy. Even then, they should keep a margin of safety. He also urged brokers to tighten their risk management practices. Some brokers have already started reducing the loan-to-value ratio for smaller stocks.
For general investors, the key takeaway is simple. Leverage can boost returns, but it also increases risk. In a flat market, many traders become overconfident. They forget that a sudden downturn can happen at any time. Kamath’s warning is a reminder that the stock market is not a one-way street. Borrowing to trade in illiquid stocks is like playing with fire. It may work for a while, but the consequences of a mistake can be severe.
Regulatory Attention Needed
Kamath also called for regulatory attention. He said that the Securities and Exchange Board of India (SEBI) should monitor MTF exposure more closely. He suggested that there should be limits on how much leverage can be used for small-cap stocks. This would protect both traders and brokers from systemic shocks. In the meantime, investors should stay cautious and avoid following the crowd into risky leveraged bets.
The bottom line is that the market may look calm, but the risks are building. Nithin Kamath’s alarm is not just for brokers. It is a warning for every investor who is tempted to use borrowed money to chase quick gains. A disciplined approach, with proper risk management, is the only way to survive in the long run.
