When there is excessive speculation, retail investors usually lose: Zerodha's Kamath

Updated : January 30, 2021 11:20 AM IST

"Once this rush is over, maybe retail investors will lose money on GameStop as well," he said.

Kamath said it was natural for retail investors to celebrate the victory of small traders over hedge funds which lost a fortune shorting GameStop

Something like the fantastic surge in shares of GameStop on Wall Street, following a short squeeze, is unlikely to happen in India, said Nithin Kamath, founder of India’s largest discount broking firm Zerodha, in an interview to CNBC-TV18.

"There is a cap on how much open interest is allowed in a stock in the futures and options (F&O) segment, and how much you can short sell using borrowed shares. Both caps are based on the free float (non-promoter holding) of the stock," Kamath said.

Elaborating on the F&O limit, Kamath said that if the free float of a company was 100 shares, only a maximum of 20 shares can be shorted. So even if there was a short squeeze, it would be only to the extent of a small portion of the free float.

Also read: Explained: Can GameStop-like scenario happen in Indian market?

“What we are seeing in the US is shorts being allowed more than the free float of the company...I don't know how...in the case of GameStop, the short positions were 140-150 percent of the free float. In such a scenario, the short squeeze can get exacerbated once the price starts to move up,” he said.

Then there were the intra-day circuit breakers as well.

"...so a stock can't just go up 300-400 percent...of course, if it is part of derivatives list, there are no circuit breakers, but for non-derivative stocks, the circuit breakers will slow down the momentum automatically,” he said.

Kamath said that there were no online trading communities in India as large as WallStreetBets, the Reddit sub-group which has over a million members.

In India, trading communities are mostly on Twitter, and here too, the groups are much smaller and spread out.

Also read: Class-action lawsuit filed against Robinhood over outrage on GameStop trading restriction

Kamath said that it was natural for retail investors to celebrate the victory of small traders over hedge funds which lost a fortune shorting GameStop, but warned that whenever there was excess speculation, it was usually the retail investors who ended up on the losing side.

"Once this rush is over, maybe retail investors will lose money on GameStop as well," he said.

"I think it is best to stay away when there is excessive speculation. I don't think retail investors can handle the kind of volatility seen in stocks like GameStop,” he said.

He said that retail investors should certainly not be taking concentrated bets.

Also read: A bunch of Reddit traders sent a gaming stock up 670%... because they could

"Don't bet more than you can afford to lose," he said, adding that investors should spread their bets such that they don't lose more than 1-2 percent of their portfolio on a single trade. Stocks with too much speculative activity were best avoided, but if a retail investor still felt like taking a punt, the amount risked should be very small, compared to the overall size of his or her portfolio.