Herd Mentality in the Indian Markets

What Herd Mentality Actually Means for an Indian Trader

Herd mentality is the habit of doing what everyone else is doing in the market simply because they are doing it. When a stock or index is rocketing up, the fear of missing out pulls people in at the top. When it is crashing, the fear of further loss pushes the same people to sell at the bottom. The crowd feels safe, but the crowd is usually buying high and selling low. In the Indian context this matters because the National Stock Exchange and Bombay Stock Exchange are now dominated by tens of millions of new demat accounts opened since 2020, many run by first time traders who lean heavily on WhatsApp tips and Telegram channels.

The danger is not that following others is always wrong. Sometimes the trend really is your friend. The danger is following without a reason you can write down and without a plan for being wrong. A herd trade is one where, if asked why you are in it, your honest answer is some version of everyone is buying it. That answer gives you no exit, no stop loss, and no way to size the position, which is exactly how a small mistake turns into a large loss.

Herd behaviour shows up most violently in leveraged products. A cash equity buyer of Reliance or HDFC Bank who panics can hold and wait. A trader who bought weekly Nifty options because a tip said it would expire in the money has no such luxury. Options decay every day and expire worthless if wrong, so a herd that piles into out of the money options near expiry is the herd most likely to be wiped out.

The March 2020 Crash: A Herd Episode With Real Nifty Levels

The clearest recent example of herd panic on the NSE is the COVID crash of February and March 2020. The Nifty 50 closed near 12,362 on 14 February 2020, close to its then record high. Over the next five weeks, as global lockdown fear spread, selling fed on selling. The index closed around 11,633 on 28 February, around 9,955 on 12 March (a single day fall of roughly 8 percent that triggered a lower circuit and a 45 minute trading halt), and bottomed near 7,610 on 23 March 2020. That is a fall of about 38 percent in roughly five weeks.

Nothing about the long term earnings power of India Inc fell 38 percent in five weeks. What collapsed was confidence. As each lower close printed, more holders hit the sell button, and the falling price itself became the reason to sell. That is herd mentality in its purest form: the price action created the news, and the news justified more selling. The crowd that sold near 7,610 to 8,500 felt they were being prudent. In reality they were crystallising the worst possible outcome.

The other half of the lesson is the recovery. The Nifty 50 climbed back above 11,000 by November 2020 and crossed 14,000 in January 2021, less than ten months after the bottom. An investor who simply held a Nifty index fund through the panic was whole again within a year. The herd member who sold near the lows often stayed in cash out of fear, watched the rally on television, and re-entered much higher. The damage from herd selling was not the paper loss in March. It was the realised loss plus the missed recovery.

The 2021 to 2022 IPO and Paytm Frenzy

Herd mentality is just as dangerous on the upside. In 2021 India saw an enormous IPO and new investor boom. Retail applications poured into glamorous listings because everyone was applying and listing gains looked easy. The reality check came with One 97 Communications, the parent of Paytm. It listed on the NSE and BSE on 18 November 2021 at an issue price of Rs 2,150 per share, then one of the largest IPOs in Indian history at over Rs 18,000 crore. The stock opened below its issue price and fell sharply on debut, closing the first day around Rs 1,560, a loss of roughly 27 percent for day one allottees, and drifted far lower over the following months.

Many retail buyers had no view on the company economics. They applied because the IPO was the talk of every group chat, and they assumed a listing pop was guaranteed. The herd had priced in success that the fundamentals did not support. The same FOMO that worked in earlier 2021 listings turned into a trap when sentiment shifted. This is the upside mirror image of March 2020: in a crash the crowd sells the bottom, and in a mania the crowd buys the top.

The 2023 to 2024 Small-Cap and SME Stampede

A more recent and well documented herd episode is the small-cap and SME rush of 2023 into early 2024. The Nifty Smallcap 250 index more than doubled over 2023 and into early 2024 as retail money chased the smallest, least liquid names. SME IPOs were being oversubscribed dozens or even hundreds of times, with several quoting absurd valuations on tiny businesses. The crowd logic was simple: small caps are flying, so buy small caps.

By February and March 2024 the regulators acted on exactly this herd risk. The Securities and Exchange Board of India asked mutual funds to run stress tests on their mid-cap and small-cap schemes and disclose how many days it would take to liquidate a portion of the portfolio in a selloff, a clear signal that crowding had made these stocks dangerous to exit. The Nifty Smallcap 250 then fell sharply in March 2024, with many individual small caps dropping 20 to 40 percent from their highs in a matter of weeks. Investors who had piled in at the top because the herd was winning discovered that small caps fall far faster than they rise once the crowd reverses.

A Worked F&O Example: How a Herd Trade Loses Real Rupees

Numbers make the cost concrete. The following is illustrative and not a recommendation or a promise of any return. Suppose the Nifty 50 is at 22,000 a few days before a weekly expiry, and a popular tip channel says it will rocket to 22,500, so the herd buys the 22,500 weekly call. The Nifty lot size is 65. Assume the 22,500 call costs a premium of Rs 60 per unit.

• Cost to buy one lot: 65 units multiplied by Rs 60 equals Rs 3,900 of premium at risk.
• Many tip followers buy more than one lot. Buying 4 lots means 260 units, so Rs 15,600 at risk in a single weekly bet.
• This is an out of the money call, meaning Nifty must rise above 22,500 plus the Rs 60 paid, that is above 22,560, just to break even before costs.
• Time decay works against the buyer every single day, and most weekly out of the money options expire worthless.

Now the herd is wrong, which is the common case. Nifty drifts sideways and closes expiry at 22,150, still below 22,500. The 22,500 call expires worthless. The 4 lot buyer loses the entire Rs 18,000 of premium. On top of that comes STT on the expiry of in the money options and brokerage and exchange charges on the entry, plus 18 percent GST on those charges. For a worthless expiry the premium itself is the main loss, but a trader who exits a winning option pays STT of 0.1 percent on the sell premium value under current rules, so costs are never zero.

Compare this with the rare win the tip promised. Say Nifty surges and the call rises to Rs 110. The 4 lot holder gains (110 minus 60) multiplied by 300 units, that is Rs 15,000 gross, before brokerage, exchange transaction charges, STT and GST. The crowd remembers the screenshots of the wins and forgets the dozens of zeroes. Over a year of chasing such tips the math is brutal, which is exactly what the SEBI study found.

How Taxes and Costs Punish Herd Trading in India

Herd traders rarely count costs, but in India the costs are structural. Profit from futures and options is treated as business income, not capital gains, so it is taxed at your normal income tax slab rate, which can reach 30 percent plus surcharge and cess for higher earners. There is no special low rate for F&O gains. Frequent churning driven by tips therefore hands a large slice of any profit to the tax department while every loss is fully borne by the trader.

For cash equity, short term capital gains on listed shares held up to one year are taxed at 20 percent, and long term capital gains above Rs 1.25 lakh in a year are taxed at 12.5 percent, under the rules effective from the 2024 budget. A herd that buys and flips quickly almost always lands in the higher short term bucket. Add Securities Transaction Tax on every trade, brokerage, exchange charges, GST on those charges, and stamp duty, and the round trip cost of constant herd-driven activity is far higher than most beginners assume.

Why Our Brains Default to the Herd

Herd behaviour is not stupidity, it is wiring. Humans evolved to treat the crowd as a safety signal, because for most of history being alone was dangerous. In markets this instinct misfires. Two emotions dominate: fear, which drives the panic selling seen in March 2020, and greed mixed with fear of missing out, which drives manias like the 2021 IPO rush and the 2023 small-cap chase. A third force is social proof: if thousands of people on a Telegram channel are buying the same call, it feels validated even when no one in the group has done any analysis.

There is also recency bias, the habit of assuming the recent trend will continue. After small caps doubled in 2023, the herd assumed they would keep doubling, which is precisely when the risk was highest. Understanding that these are predictable mental traps, not personal failings, is the first step to building rules that protect you from them when the screen is flashing and the group chat is screaming.

Spotting When You Are Inside the Herd

You usually cannot feel the herd from inside it, so you need external checks. Watch for these warning signs in your own behaviour. Each one is a flag that you may be trading the crowd rather than a plan.

• You bought because a tip, a reel, or a group chat said to, and you cannot state your own thesis in one sentence.
• You have no predefined stop loss or exit, because the entry reason was social rather than analytical.
• You are sizing up after a stock has already run hard, instead of when it was cheap and ignored.
• You feel an urgent need to act right now or you will miss out, which is FOMO talking.
• You are buying weekly out of the money options on a tip, the single most common way Indian retail loses on the NSE.
• Your only evidence the trade is good is that the price is going up and many people agree with you.

How SEBI Tries to Cool the Herd

The Securities and Exchange Board of India has taken concrete steps aimed at exactly this behaviour. It mandated the now familiar disclosure that a large majority of individual F&O traders lose money, forced registered advisers and finfluencers to follow stricter rules, ran the 2024 mid and small-cap mutual fund stress tests to flag crowding risk, and in late 2024 tightened index derivatives rules by reducing the number of weekly expiries and raising contract sizes to make casual lottery-ticket option buying harder. These measures do not remove the temptation, but they add friction and information so that the crowd is at least warned.

Regulation can only do so much. SEBI can publish that 9 in 10 derivatives traders lose, but it cannot make an individual read it or act on it. The defence against herd mentality is ultimately personal discipline, supported by a written process and an honest trading journal that records why you entered and whether the reason was your own or borrowed from the crowd.

A Practical Anti-Herd Checklist

You cannot delete the instinct, but you can build a process that overrides it in the moment. Use a simple routine before any trade that the crowd is excited about.

• Write the thesis before you click buy. One sentence on why the price is justified, not why it is popular.
• Set the stop loss and position size first. Decide the maximum rupee loss you accept, then size the lot to fit it.
• Cap any single tip-driven idea to a tiny slice of capital, so being wrong is survivable.
• Wait one trading session before acting on anything that arrives with urgency. Real opportunities rarely vanish in a day; FOMO traps do.
• Cross check the claim against the actual numbers, the business, the index earnings, or the option payoff, not just the chart.
• Log every trade in a journal, noting whether the entry reason was your own analysis or the crowd. Review monthly to see which kind makes money.

Sources and Further Reading

For authoritative data and further reading, refer to SEBI Investor Education, SEBI (Securities and Exchange Board of India), NSE India, Zerodha Varsity and Investopedia. Index levels and dates here are historical and illustrative. Always confirm current rules, tax rates and contract specifications on the official source before you trade, and note that past market behaviour never guarantees future results.

Sources and Further Reading

For authoritative data and further reading on this topic, refer to SEBI Investor Education, SEBI (Securities and Exchange Board of India), Zerodha Varsity and Investopedia. Always confirm current rules, rates and contract specifications on the official source before you trade.