Explained — Margin funding related selling that may have caused Monday's meltdown

Monday's steep market sell-off led to ₹7.5 lakh crore worth of investor wealth being wiped out. The pain was significant in the broader markets, with the Midcap index declining over 1,200 points.

Conversations with brokers and market participants alluded to margin funding related selling by retail investors, that triggered the collapse. Vikas Khemani of Carnelian Capital also told CNBC-TV18 on Tuesday that he heard of margin funding-related selling on Monday.

But what is this margin trading based selling?

Margin trading facility is a financial tool allowing investors to buy stocks by paying only a portion of the total amount, with the broker funding the rest of the cost.

The leveraged positions are helpful in a bull market as they can boost returns, but are equally risky in volatile markets.

MTF-based selling occurs in case the value of the stock drops significantly, leading to a margin shortfall, leading to the broker automatically squaring off the positions to recover the funds, if additional margin is not provided.

Extended holding of potential positions could increase interest on the borrowed sum, thereby impacting any profits that could occur.

CNBC-TV18 had reported in September that leveraged bets had increased significantly over the last five years in the Indian markets, nearly nearly ₹1 lakh crore, compared to ₹7,500 crore at the end of 2020.

Stocks like HAL, Jio Financial, RIL, TCS, Mazagon Dock, featured among the stocks with the highest MTF positions.

The Nifty 50 index is currently trading 200 points lower on Tuesday, breaking below the 25,800 mark. Carnelian's Khemani added that the excesses are currently being cleared out in the market, and eventually this correction would be healthy.