NSE IPO’s real risk is hiding behind its monopoly

India's National Stock Exchange (NSE) is set to list later this month, but investors should be cautious of the potential risks. The NSE handles a staggering 93% of India's cash equity turnover and 99.79% of equity futures, making it the world's largest derivatives exchange by contract volume. However, it is crucial to note that the prospectus focuses on the exchange's monopoly margins, structural growth, and India's rise.

The IPO pricing of the NSE presents a dilemma for investors. The exchange, which is a monopoly, generates significant revenue and profit through its toll booth and referee functions. As a toll booth, NSE collects a fee from every trade, while as a referee, it writes listing rules, runs surveillance, and disciplines members. This dual role creates a unique cost structure for the exchange, which is evident in its operating EBITDA margin of 66.85% to 76.23%.

The demutualization of exchanges, a process where they transition from being owned by their members to being publicly listed, has been a trend since the Stockholm Stock Exchange in 1993. The shift has been driven by the need for capital and the benefits of listed paper. However, the transition has had mixed results. While it has unlocked capital and provided exchanges with listed paper to invest in, it has also created new conflicts and reduced monitoring of listed firms, especially in countries with weak regulatory regimes.

The NSE's IPO is unique in that it is a 100% offer for sale (OFS), meaning the exchange receives no funding from the IPO. This arrangement allows motivated sellers to concede price to institutions, while retail applicants are price-takers. The exchange has also paid a hefty sum for co-location and dark-fibre settlement, further highlighting its dominant position in the market.

Regulatory concerns are also at the forefront of this IPO. Equity options alone account for 60.22% of NSE's operating revenue in FY26, with transaction charges making up 78.65%. Sebi's regulatory actions, such as capping weekly expiries and raising lot sizes, are aimed at curbing potential risks. The exchange's dominance, however, is putting pressure on Sebi to maintain its regulatory functions and independence, once the exchange starts answering to public shareholders with a growth mandate.