SEBI’s new regulation on illiquid stocks will have an adverse impact on equity markets in India and could alienate current and future investors
Illiquidity in many micro- and small-cap stocks has always been of a serious concern to the small Indian investor and is one of the reasons why manipulation is so rampant. The Bombay Stock Exchange (BSE) houses a lot of such companies but both SEBI (Securities and Exchange Board of India) and BSE do nearly nothing about it. SEBI has finally come up with a harebrained idea to combat manipulation by taking action on illiquid stocks which will take effect from 1 April 2013.
SEBI, India’s securities market watchdog, may have shot itself in the foot yet again, when it plans to regulate illiquid stocks. Its earnest effort to curb manipulation, while laudable, may have damaging effects on the long term future of Indian equities market. Vide the circular CIR/MRD/DP/6/2013, issued on 14 February 2013, it plans to introduce trading through periodic call auction for illiquid scrips.
SEBI’s has taken the term illiquidity to a whole new level. According to the watchdog, an illiquid stock is a stock that satisfied one or more of the following criteria:
1. The average daily trading volume of a scrip in a quarter is less than 10,000;
2. The average daily number of trades is less than 50 in a quarter;
3. The scrip is classified at illiquid at all exchanges where it is traded.
Let us assume that a stock XYZ is quoting at Rs500. So, in order for it to be a ‘liquid’ stock, it ought to have an average trading value of Rs50 lakh (Rs500 x 10,000; assuming share price does not move). However, on the other hand, if the share price of another stock, say PQR, is valued 50 paise, then the average value is Rs5,000 (0.50 x 10,000). It must be noted that majority of the manipulation happens in the micro-cap segment (and are often called “penny stocks”). This means a stock valued at 50 paise has a higher probability of being rigged than a stock valued at Rs500. After all, a promoter or market player needs just Rs5,000 to influence the price in the normal market and make it ‘liquid’. Remember, sometimes even great and well-run companies can be illiquid. So, if well-run companies are put into a separate trading bracket, there will be a stigma or label attached to them.
For a long time, Moneylife has been covering stocks on manipulation, especially those stocks which tend to be ‘illiquid’ under SEBI’s current criteria. You can check out the Unquoted section in our Moneylife magazine every fortnight. You can also check it on our website over here. We even carried an exclusive cover story last year devoted to stock price manipulation and how ineffectual our market regulators have been. We had found out that regulators and exchanges had not even taken action on errant companies, even those who have committed blunders in the past. Sometimes, all it requires is basic monitoring skills to nab such companies. SEBI has, instead of tackling the problem on manipulation head-on and investigating each situation on a case-by-case basis by using its expensive (funded by taxpayers’ money) so called IMSS surveillance system, targeted ‘illiquid’ stocks.
More pertinently is what could possibly happen during the call auction. According to the circular, it states: “The call auction duration shall be one hour, of which 45 minutes shall be allowed for order entry, order modification and order cancellation, eight minutes shall be for order matching and trade confirmation and remaining seven minutes shall be a buffer period for closing the current session and facilitating the transition to next session. The session shall close randomly during the last one minute of the order entry between the 44th and 45th minute. Such random closure shall be system driven.”
What happens during the eight minutes is crucial. There is bound to be frenetic trading coupled with quick order modification and such. It is very difficult to skillfully place an order within a short frame of time let alone modify it. Some brokers may even refuse to trade in such scrips fearing that market regulators will be onto them for rigging. Some may even decline their customers’ orders on similar grounds. A combination of all this will exacerbate the liquidity scenario. This is also antithesis of free market capitalism where brokers and customers are free to place an order at their time of liking instead of the stipulated eight minute window.
According to the circular, it was SEBI’s Secondary Market Advisory Committee (SMAC) who came upon the call auction idea. The circular states: “SMAC also made recommendation on the introduction of trading through periodic call auction mechanism for illiquid scrips in the equity market.” Once this regulation is put into force, the most affected party will be BSE where majority of the thinly traded stock takes place.
Ashishkumar Chauhan, managing director and chief executive officer of BSE, sits on the SMAC committee. According to SEBI website, the SMAC committee consists of the following ‘experts’ who advocated this scheme:
• Ms Maninder Cheema, deputy general manager, Market Regulation Department, Division of Policy, SEBI
Inside story of the National Stock Exchange’s amazing success, leading to hubris, regulatory capture and algo scam
Fiercely independent and pro-consumer information on personal finance.
1-year online access to the magazine articles published during the subscription period.
Access is given for all articles published during the week (starting Monday) your subscription starts. For example, if you subscribe on Wednesday, you will have access to articles uploaded from Monday of that week.
This means access to other articles (outside the subscription period) are not included.
Articles outside the subscription period can be bought separately for a small price per article.
Fiercely independent and pro-consumer information on personal finance.
30-day online access to the magazine articles published during the subscription period.
Access is given for all articles published during the week (starting Monday) your subscription starts. For example, if you subscribe on Wednesday, you will have access to articles uploaded from Monday of that week.
This means access to other articles (outside the subscription period) are not included.
Articles outside the subscription period can be bought separately for a small price per article.
Fiercely independent and pro-consumer information on personal finance.
Complete access to Moneylife archives since inception ( till the date of your subscription )
The contact info for SEBI officials can be found here: http://www.sebi.gov.in/OrgChart.html
The contact info for SEBI officials can be found here: http://www.sebi.gov.in/OrgChart.html
This is like the police suddenly one find day coming up with the rule that to curb crime in India, we should allow people to exit their homes and walk on the streets for only 15mins every hour! Even if one assumes that this will actually decrease the crime rate, look at the damage it will do in the process!!!
ABSOLUTE MADNESS as and excuse for policy making SEBI.
I rang the Customer Care number of HDFC Securities & the representative informed me that such scrips can no longer be traded through on-line trading, they have to be traded via tele-broking (call-n-trade) !!
Whether this is a permanent situation, or temporary, the representative could not say. So i have written to the customer care email id asking this question, and for resolution to this problem. Got an automated reply that they will get back within 1 business day.
Anyway, looking at the trading in these iliquid scrips today, it does seem like even the existing liquidity has been curtailed. Whether this will improve after people get used to the new system is to be seen. In 3-6 months we will know for sure.
2050 companies have made it to the "periodic call auction" / illiquid list (more than 1/3rd of listed universe)!!
In the current context, we can change the idiom to "Throw out the Investor along with the Manipulator" .
I am tempted to say "Quintessentially SEBI". But that may be unfair, as of late they HAVE done some good things too - like in the Sahara case (just my opinion).
At any point of time, there are find few dozen scrips which have risen 5X-10X-20X or more in previous months, with NO change in funda's - ie. they are doing either negligible business (negligible revenues/profits), or even if they are doing some business, there is NO significant change in revenues / profits , or no material news in investor domain to justify the rise in scrip prices. THESE are the obviously manipulated scrips. THESE are the scrips that should be put in "periodic call auction" category, though they may not be "illiquid" precisely because of the manipulation.
Whether to save themselves the bother of identifying the manipulated scrips, or otherwise, SEBI seems to have come out with this "short cut" method , without thinking it through, or asking for public comment. And crores of investors invested in small-caps will face the brunt.
PS : If one reads MoneyLife magazine, in every issue they highlight couple of such scrips. THESE should be the scrips put into this new mechanism.
Now we have made all that content premium. We cannot afford to run an organisation where the product is free. People can subscribe to Moneylife. There are 2 options. A regular subscription, with Net access for all content. Or a monthly pass for Rs99 .
ONLY the Magazine stories are open to subscribers alone. The rest is free for all.
Thank you for running a fine magazine & website. I would urge you to take some action this matter (http://www.moneylife.in/article/curbing-... for the benefit of small investors. Your views carry a lot of weight and SEBI will also realize the legetimate nature of the problem investors are facing because of this harebrained decision.
Thanks,
Abhay Munot