- 16 Aug 2024
3 mins read- By: BlinkX Research Team
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Trading in Trade-to-Trade (T2T) stocks is a unique aspect of the Indian stock market. Unlike regular stocks, T2T stocks are subject to strict trading regulations that do not allow for same-day transactions. This rule is aimed at discouraging speculative trading practices by requiring investors to wait for the shares to be credited to their accounts after purchase, a process that usually takes several days. These measures are in place to shift the focus from pursuing quick profits to promoting a more thoughtful and deliberate approach to investment strategies. In this blog, we will discuss what T2T stock means, how to identify them, and what are the pros and cons of these stocks.
What is T2T Stock?
Trade-to-trade securities are financial instruments that must be exchanged under mandatory conditions within the trade-to-trade sector. This sector is recognized for its strict trading rules designed to guarantee equitable trading activities and safeguard the interests of investors.
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Table of Contents
- What is T2T Stock?
- What is an Example of Trade to Trade?
- How to Identify T2T Stocks?
- Rules to Trade in T2T Stock
- What are the Criteria to Shift Shares in the T2T?
- Pros and Cons of T2T Stocks
What is an Example of Trade to Trade?
Assume that, in a regular market, a trader purchases 4,000 shares of XYZ Bank for Rs. 21 per share. The shares are then sold by the trader for Rs. 23 apiece on the same day. The trader gains Rs. 8,000 in profit from intraday trading because of the price differential.
To accept delivery of the shares, the trader would have to pay a broker Rs 84,000 if XYZ Bank shares were in the T2T segment. These shares are not available for sale by the trader until they are transferred to their Demat account. Because of this limitation, the trader is unable to turn a profit during the day.
How to Identify T2T Stocks?
Identifying T2T stocks requires an understanding of how exchanges classify and manage various types of securities. Exchanges, like NSE and BSE, categorise scrips into different series based on their type and settlement criteria. T2T stocks fall under a unique classification with specific rules and regulations. To find T2T stocks, regularly visit the NSE and BSE websites, where updated lists are published.
The criteria considered before transferring a stock to the Trade-to-Trade (T2T) segment include:
Price-to-Earnings Ratio (P/E Ratio)
A critical factor in the classification of T2T stocks is the Price-to-Earnings (P/E) ratio. The P/E ratio evaluates a company's current share price relative to its earnings per share (EPS). If a stock's P/E ratio significantly exceeds the market's average, it might be moved to the T2T segment. For example, if the Nifty's average P/E ratio is between 10-15 and a particular stock's P/E is 25, this discrepancy indicates overvaluation, making the stock a candidate for T2T. This measure helps control excessive speculation and ensures more stable trading practices.
Market Capitalisation
Another essential criterion is market capitalisation, which is the total market value of a company's outstanding shares. Stocks with a market cap below INR 500 crores are more prone to manipulation and speculative trading. To protect investors and maintain market integrity, exchanges often transfer such stocks to the T2T segment. This precaution helps minimise the risk of artificial price inflation or deflation caused by market manipulators.
Other Factors
In addition to the P/E ratio and market capitalisation, other factors such as trading volume, volatility, and recent corporate actions (like mergers, acquisitions, or significant regulatory changes) can also influence a stock's transfer to the T2T segment. Exchanges continuously monitor these metrics to ensure that stocks in the T2T segment maintain a level of trading that is both fair and transparent.
Rules to Trade in T2T Stock
Following are the rules to trade in T2T stocks:
| Rule | Explanation |
| No Intraday Trading | Intraday trading, which involves buying and selling stocks on the same day, is not allowed with T2T stocks. |
| Compulsory Delivery | The actual delivery of stocks is a requirement for each trade in T2T stocks. As a result, you are unable to sell the stock the same day you purchase it. |
| Settlement Period | The settlement of T2T stocks usually takes T+2 days, meaning the transaction is completed two business days after the trade date. |
| No Short Selling | Short selling, where you sell stocks you don't own and buy them back later, is not permitted with T2T stocks. |
| Penalty for Non-Delivery | If you fail to deliver the stocks after selling or fail to accept delivery after buying, you may face penalties. |
| Limited Liquidity | T2T stocks typically have lower liquidity, meaning there are fewer buyers and sellers at any given time. |
| Higher Volatility | These stocks may experience significant price fluctuations within short periods. |
What are the Criteria to Shift Shares in the T2T?
Understanding the criteria for shifting shares to the Trade-to-Trade (T2T) segment is essential for investors. Regulatory bodies like NSE and BSE impose specific conditions to ensure market stability and protect investors from excessive speculation and market manipulation. Here are the key criteria considered for moving shares to the T2T segment:
1. Price-to-Earnings (P/E) Ratio
A key component of the analysis is the Price-to-Earnings (P/E) ratio. The current share price of a company is compared to its earnings per share (EPS) using the P/E ratio. A stock is overvalued if its P/E ratio is noticeably higher than the average of the market. For example, a stock may be moved to the T2T sector if the average P/E ratio of the Nifty index is between 10 and 15 while the stock in question has a P/E ratio of 25. As extremely expensive equities are traded more cautiously, this technique serves to reduce speculative trading.
2. Market Capitalisation
Another important consideration is market capitalisation, which is the total market value of a company's outstanding shares. Price manipulation is more likely to occur in stocks with a market capitalisation of less than INR 500 crores. Exchanges frequently shift these lesser market cap equities to the T2T section in an attempt to reduce this risk. This guarantees that smaller companies are traded under strict rules, which could leave them more volatile and open to manipulation by market participants.
3. Trading Volume
Low trading volume can indicate a lack of liquidity and higher price volatility. Stocks with consistently low trading volumes might be moved to the T2T segment to prevent excessive price manipulation. By doing so, exchanges aim to maintain market integrity and protect investors from sharp, unexplained price movements that can occur in thinly traded stocks.
4. Volatility
High volatility is another criterion for transferring stocks to the T2T segment. Stocks that exhibit extreme price fluctuations over a short period may be moved to T2T to reduce speculative trading and ensure more stable price movements. This helps maintain a fair trading environment by minimising the impact of sudden and erratic price changes.
Pros and Cons of T2T Stocks
Following are the Pros and Cons of T2T Stocks
Pros | Cons |
| Stability: These stocks promote stability as there is lower volatility and abrupt price swings. | Higher Transaction Costs: The transaction costs are higher because of mandatory delivery. |
| Reduced Speculation: Limits speculative trading by requiring delivery-based transactions. | Limited Liquidity: The liquidity of T2T stocks is low, making it difficult to buy or sell fast. |
| Focus on Fundamentals: Shifts focus on the fundamental value of stocks rather than speculative gains. | Delayed Profits: The potential profits are delayed as investors need to wait for the settlement period. |
| Enhanced Transparency: Encourages transparent trading practices and discourages pump-and-dump schemes. | Potential Opportunity Cost: As the funds are locked in for a longer period, leading to missing other opportunities. |
| Better Valuation: Helps in maintaining fair and realistic stock valuations. | Flexibility is limited: Due to strict rules, trading strategies and flexibility are limited. |
Conclusion
Trading in Trade-to-Trade (T2T) stocks presents a unique set of dynamics in comparison to regular stock trading. The stringent regulations governing T2T stocks, such as mandatory delivery and the prohibition of intraday trading, are designed to discourage speculative practices and promote market stability. These regulations incentivize investors to embrace a more fundamental and long-term approach to their investments. Investors need to have a thorough understanding of the criteria and rules associated with T2T stocks to effectively navigate this segment and make well-informed investment decisions. In the end, success in this restricted trading environment ultimately depends on reservations, particularly when using an online trading app.
