KOLKATA - The Indian
government, its finance minister, and regulating
authorities like the Reserve Bank of India (RBI) -
the country's central bank - and stock market
watchdog Securities and Exchange Board of India
(SEBI) may all have swung into a major
damage-control drive to soothe the nerves of the
frightened bulls, but the events of the past week
have demonstrated that despite the assurances from
the authorities, fears still loom large in the
minds of the country's investors about the current
stock boom.
After rising relentlessly for
the past almost 24 months, India's stock markets
reached dizzy heights last Tuesday when the
Sensex, the benchmark index of the Bombay Stock
Exchange, breached the psychologically significant
mark of 8,500 points, only to crash by over 500
points over the next two days. There
was only one reason for
the crash: panic. But unlike what happens in a
typical stock market crash where the markets tank
on investor panic, the Indian markets tanked
solely because the meteoric rise was too hot to
handle for the government and the regulating
authorities. In their bid to ensure that they are
not caught napping should it come to light that
the markets were rising due to financial
irregularities, or scams, that have dogged the
Indian bourses for decades, the authorities went
on an overdrive warning investors about the
possibilities of various irregularities.
The SEBI was the first to blow the
whistle, warning that it was not comfortable with
the trading patterns of a few shares - primarily
penny stocks (the highly speculative cheap shares)
- and added that it feared some of the shares were
manipulated by unscrupulous operators. Soon after,
the RBI said it was inquiring into the exposure
and non-banking finance companies, and most
importantly, the role of banks in this bull run.
Along with intelligence agencies, it said, it was
also trying to ascertain the nature of foreign
investments supposedly fueling the bull run. The
revenue department, too, launched a raid on the
offices of a few brokers while the media
contributed its bit by circulating unconfirmed
reports that the prime minister's office had
smelled a rat and had sent a high-level team to
Mumbai, the country's financial capital, to
monitor the stock markets.
All these were
beginning to tell on the stocks by Wednesday and
Thursday, and even as FIIs (Foreign Institutional
Investors) and local mutual funds continued
pumping in money, the bears that were inactive all
through the bull run, mounted their first attack,
causing a fall that wiped out about US$30 billion
of investors' wealth in those two days. The choppy
Sensex forced an immediate rethink among the
alarmist government institutions and from Thursday
evening, each one of them started singing a
different tune.
While the official
spokesperson of the prime minister's office
vehemently denied reports about sending a team to
Mumbai, Finance Minister P Chidambaram said from
New York - where he was attending an investor
conference - that "the market is well regulated
and the price earning ratio of all shares are
still in the comfort zone. One should not get
unduly worried about the market rise in a few
trading sessions or an unusual drop in one trading
session." SEBI chief M Damodaran too echoed
simultaneously that although there could be one or
two adventurous operators, "there is no evidence
of a scam or financial irregularities".
But even as experts admit that the last
week's fall, or "over correction of the markets",
as they prefer to term it, were caused by
"hysterical reports about crackdowns by
investigative agencies", there is a sneaking
suspicion among Indian investors about the
apparently rosy scenario. According to Debashish
Basu, a stock market expert and author of a book
called Scam, which dwells on the Indian
stock market fiascos, "although there are no hard
evidences just yet, there are enough anecdotal
evidence" about the fact that some money may be
doing a round-tripping and coming back through the
FII route. The FIIs are believed to be the main
driver of the latest bull run, and the way FII
money has gushed into the country's stock markets
this year is causing many a fair amount of
discomfort. So far this year, FIIs have already
pumped in over $8.6 billion compared to $8.5
billion that came in the whole of 2004.
In
fact the biggest source of worry for skeptics has
been the source of funds in this boom. They fear
that public money from commercial or cooperative
banks or even from non-banking financial companies
is being diverted to be pumped into the markets,
just like it happened during the infamous 1992
Indian stock scam that was triggered by the now
dead rogue trader Harshad Mehta. The other equally
strong fear is that a large proportion of FII
investments is actually coming through
participatory notes (PN) instead of direct
investments. Indian rules do not allow a foreign
investor to invest in the market directly unless
such an investor is registered with the SEBI.
Foreign individuals or companies that wish to
invest in the Indian markets without being
identified use participatory notes (PN), which are
derivative contracts, issued by the FIIs to invest
here.
By its very nature, FII money
through participatory notes is hot and is not
favored by local investors or authorities in any
country. "Going by the type of investments and
churning that some of the FIIs have been indulging
in lately, one can't help but suspect that
participatory notes are active in Indian stock
markets," said S P Tulsian, an investment advisor
and a stock market expert. Some estimates suggest
that about 40% of the FII money this year may have
come through PNs.
Yet another big concern,
says Tulsian, "is the nexus between promoter
(founders of a company) and operator. The
promoter-operator-broker nexus, particularly in
the penny stocks segment (which plagued the market
in 1992 and 2000 scams) are back". According to
Tulsian, there are instances of at least 50 stocks
where promoters of dud companies have manipulated
their share prices through circular trading and
have brought their stake in the companies "to
practically zero".
Yet there's an upside
to the chaos Indian stock market experienced last
week. One, it brought in the much-needed
correction that experts say has brought in a
semblance of rationality in the markets. And two,
the regulatory authorities are now moving in to
address the aberrations. SEBI is looking at
reviving the stock lending and borrowing mechanism
that was banned a few years back (because it was
believed to be the main instrument of the bear
operators to initiate a crash) and bringing
institutional players, including FIIs, under the
margin system.
SEBI believes that the
margin system, by forcing brokers and other
investors to pay margins (a percentage of the
money upfront), act as a deterrent to hot money
like hedge funds or PN investors. Similarly, many
FIIs complain that one of the reasons behind that
relentless rise of the markets is the absence of
short selling - selling stocks without owning them
- which is why FIIs are left with no options but
to just buy. Experts are hoping that the
introduction of stock lending and borrowing -
where a bearish investor can borrow stocks at a
fee and sell them in the markets to cover up as
prices fall - could act as a dampener to
overheated markets.
And to discourage the
penny stock operators, or the
promoter-operator-broker nexus, SEBI is also
trying to hasten the process of getting a large
number of penny stocks de-listed from the Bombay
Stock Exchange. Meanwhile the markets seem to have
shed some of the fears. Defying expectations of a
further fall this week, the markets closed Monday
- the first day of the trading week - with a smart
recovery.
Indrajit Basu is a
Kolkata-based equity-analyst-turned-journalist
with more than 12 years of experience in
business/finance and technology journalism.
Besides writing for Asia Times Online, he also
writes for US-based publications, as well as IT
companies.
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