The Securities and Exchange Board of India last week proposed regulatory changes requiring qualified stockbrokers to provide their clients with a unified payments interface (UPI) for blocking funds to trade in the secondary markets.Mint explains the concept of the UPI block mechanism, how it works, whom it will benefit, and what disadvantages it could throw up.
A UPI block mechanism enables investors to set aside funds in their bank accounts for stock trading, rather than transferring the funds to a trading member.
Introduced by Sebi in January 2019, this UPI block mechanism initially served as a payment method for retail investors participating in public share issues. Following its successful implementation, Sebi expanded its use to secondary markets in January this year.
A beta version of this mechanism was rolled out for individual investors and Hindu Undivided Families (HUFs), applicable only to the cash trading segment. Currently, the use of this mechanism is optional for trading members.
In a consultation paper issued on 28 August, Sebi has proposed making it mandatory for qualified stockbrokers to offer the UPI block mechanism to their clients. Comments on this proposal are invited by 12 September.
Sebi has highlighted that the UPI block mechanism offers enhanced security for investors. This includes the immediate and hassle-free return of funds or securities, and no impact on the pay-out in case of a default by a trading member. Clients opting to use the UPI block mechanism for secondary market trades will also benefit from earning interest on the funds held in their bank accounts, according to Sebi’s paper.
The UPI block mechanism for trading addresses several risks, including:
Sebi requires the collaboration of the National Payments Corporation of India (NPCI), sponsor banks, and customer banks to implement the UPI block mechanism effectively. For primary markets, Sebi introduced the Application Supported by Blocked Amounts (ASBA) facility, which has broadened public accessibility.
Sebi noted that NPCI’s UPI transaction processing capacity is about 15,000 transactions per second. Even with the addition of UPI block mechanism trades by individuals and Hindu Undivided Families in the secondary market, the existing infrastructure will remain adequate.
According to Sebi’s paper, there are currently an average of 3.121 million pay-in transactions, 467.9 million UPI transactions, and 20 million UPI transactions between 8.00 pm and 8:30 pm. It is estimated that this would result in fewer than a 1% increase in total UPI transactions and a 15.67% increase in transactions during the 8:00-8:30 pm window.
This facility is expected to generate significant savings for clients through interest accrual on cash balances and provide banks with a steady stream of low-cost current account, savings account (CASA) balances. Sebi also indicated that banks are free to determine their fee structures for providing the UPI block mechanism for secondary market trading.
As of 31 July, data from stock exchanges revealed that 54.2 million unique clients were trading in the cash segment through qualified stockbrokers, generating a gross trade value of ₹15,79,034 crore. Notably, 83% of these clients, accounting for about 68% of the gross trade value in the cash segment, utilised the services of qualified stockbrokers.
Given the significant scale of these operations, Sebi recognized the potential for qualified stockbrokers to lead in delivering technological advancements to their clients.
In addition, Sebi has proposed that stockbrokers offer 3-in-1 trading accounts for their clients, covering both the cash and derivatives segments, with an appropriate glide path for implementation.
Shripal Shah, managing director and chief executive of Kotak Securities, highlighted that Sebi’s proposal effectively integrates banking with capital markets by allowing funds to remain in client bank accounts while enabling trading and investing in the equity market via UPI ASBA or 3-in-1 trading accounts offered by bank-linked brokerages.
“This approach benefits investors by allowing them to earn interest on funds held in their bank accounts for equity trading. At the same time, banks benefit from improved short-term liquidity due to the movement of funds to and from the equity market, coupled with increased CASA balances,” Shah explained.
However, Shah noted that the proposed change could eliminate float income for the broking industry, which might prompt some brokerages to raise brokerage fees to offset this loss. “Despite this, investors stand to gain overall from the convenience of seamless trading, the added benefit of earning interest on idle funds, and enhanced protection of their funds,” he said.
Ajay Kejriwal, CEO of Choice Equity Broking Pvt. Ltd, said implementing the proposal first with qualified stockbrokers and then extending it to all brokers would ultimately benefit banks by increasing their CASA balances.
“Investors may earn a small amount of interest, but this benefit could be offset if brokers raise their fees, as they would lose the float income currently used to offer lower brokerage charges,” Kejriwal said.
He also mentioned that the proposal could complicate the execution process rather than simplify it for investors.
“If brokers choose not to increase their charges, it will impact them financially. The block fund mechanism, capped at ₹5 lakh, primarily benefits retail investors and only applies to the cash segment, which represents a small portion of the capital market,” Kejriwal explained.
“Moreover, there is no significant enhancement in safety, as brokers already transfer client funds to clearing corporations. The blocked amount would still be routed through brokers to the clearing corporations, demonstrating the existing trustworthiness of brokers.”
