Winning Over Obstacles Where The Markets Go

Stay bullish on Indian equity markets considering regulatory consent

Indian equity markets after bottoming out towards the end of February, witnessed positive movements in the last month. There are various factors which are responsible for a relief rally after a year-long wait. Further from here, the changing macro-economic environment will decide the course of action of the capital markets. We take global landscape view into the positives steering of the markets towards the current highs and will they continue to spring bonuses for the investors.

Global Factors Impacting Indian Equity Markets

The global environment that we see has investors searching for growth pockets when most heavyweight economies are sagging with decelerating growth rates.

The US which was expected to return to growth trajectory is again falling in the decelerating trap. US Federal Reserve Chairperson Janet Yellen declared that there would not be any rate hikes for coming time. She also cleared that air that there might be hike once in year. The dovish comment came after US Fed hiked interest rate by 25 basis points in month of December 2015.

The pause in US interest rate hike may pour investors’ money towards the emerging markets. The positive movement will cheer investors and rally in near term. As compared to peer emerging markets, the Indian equity market is hoping to get more global investors in near term. Meanwhile, India is facing downward interest rate cycle which will boost investment in equity market.

The news from Japanese economy is also not encouraging. The Japanese economy is heading towards deflation mood. Many more research houses are downgrading Japanese benchmark index. The earnings and PMI fell sharply. The Tankan manufacturing index came in at 6, which was the lowest in nearly three years and well below the forecast of 12. Meanwhile the Bank of Japan (BOJ) is targeting 2 per cent inflation rate by the end of 2021.

The global commodity prices are hampering BOJ’s (bank of Japans) efforts to ease deflation in moving forward. As Japan is an importer of commodities and decline in prices is making imports cheaper leading to lower inflation. Meanwhile, BOJ is meeting at end of this month to decide ways to tackle deflation. The outlook for the Japanese economy remains gloomy.

Brexit is another scenario which is worrying global equity markets. The cloud over the Brexit will not fade away till June. There will be poll for Brexit on June 23. If the poll comes out for exit from European Union, then there will be considerable panic across the world. There are various businesses which are linked to the UK therefore leaving European Union will create uncertainty. This will adversely impact investment in the UK.

The Chinese economy is bleeding and stock markets there also witnessed tremendous pressure. The Shanghai dropped about 41 per cent year to date which is giving sense that the Chinese economy is in trouble. There are various factors responsible for slowdown of economy such as commodity crash, the central bank’s devaluation of Yuan, considerable amount of increment in debt. According to a Fitch report, Chinese economy has seen incremental leverage since the 2008 global financial crisis. The stock of aggregate financing, excluding equity raising, rose to 198 per cent of gross domestic product (GDP) at the end of last year, from 115 per cent in 2008.

With the markets across growth seeing contraction in earning, India looks like a promising destination supported by fundamental recovery and thanks to the effective positioning by government as the most sought after emerging market. Many research houses are forecasting that Indian equity markets have bottomed out and will swing upward in future term as the economy has fundamental backing and the policies from the government are hitting the ground.

Institutional investors mood in capital market

The FII inflows buttresses our belief in the continued action in the stock markets. The global lack of opportunities to invest is driving the FII inflows in India. The trending investments from FIIs is likely because various reasons, India a favorite emerging market to invest, slow down of Chinese economy, lowered global crude oil prices and commodity prices.
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FIIs bought net equity of Rs 21143 crore in March 2016. If we take look a quite past for one year, the foreign investors had a selling trend for FY16 till month of March. Meanwhile, only in the months of July and October they bought net equity of Rs 5459 crore and Rs 6650 crore respectively. FIIs net equity outflow remained at Rs 14031 crore as on FY16.

The union budget for financial year 2016-2017 made a trigger point for foreign investors for re-entry into the equity markets in India. The capital market of the country has bottomed out on February 29. BSE Sensex and Nifty 50 bottomed out on budget announcement day at 22494.61 and 6825.80 respectively.

Considering domestic institutional investors (DIIs) front, money outflow of Rs 15740 crore from Indian equity market in March, 2016. Meanwhile, the reversal trend is being witnessed by the markets in the last month of the financial year came after strong buying of Rs 80416 crore for FY16. On the same time, benchmark indices fell about 10 per cent in FY16.

Mutual funds (MFs) wise, the net equity inflow was reported at Rs 65514 crore in FY16. In the month of March, mutual funds sold net equity of about Rs 10195 crore. Mutual funds’ selling trend may have happened because of redemption of various schemes. According to data with the Association of Mutual Funds in India (AMFI), equity and equity-linked saving schemes saw a net withdrawal of funds of Rs 1370 crore. This was the first outflow since March 2014, when equity mutual funds had witnessed a pull out of Rs 1935 crore.

FDI money flow in Indian economy

India is showing great signs of being in the high growth economies. With the GDP growth expected to be at 7%, it calls the belief of foreign investors to invest in growth.

India is witnessing FDI money flow from across the globe amounting to USD 40823 for 9MFY16. Being a prominent and inventors’ favourite destination to lock money in different projects in the country.

FDI trend in India is quite positive from about last 15 years. Considering last 10 years’ trend, FDI inflow has increased from USD 6051 in FY05 to USD 40823 till 9MFY16. Meanwhile, during the years FY10 and FY13 FDI inflow has been trimmed.

During the last 9 months, sectoral front FDI inflow was 13 per cent from computer hardware and software industry, 10.43 per cent from services sector, 6.66 per cent from trading industry ,4.36 per cent from automobile sector, 2.93 per cent from chemicals, 2.63 per cent from telecommunication sector and 52.97 per cent in remaining sectors in 9MFY16.

The Department of Industrial Policy and Promotion (DIPP) data showed that 367 Industrial Entrepreneurs Memoranda(IEMs) were filed worth about proposed investment of Rs 44818 crore in first two months of 2016. There was about 14 Direct Indirect Licenses (DILs) invested amount worth Rs 2594 crore till February 2016. The service sector has witnessed most around 17.33 per cent of total FDI investment as of December 2015.  Since the inception of IEM scheme in 1991 till the end of February 2016, a total of 11480 IEMs with an investment of Rs 684558 crore have reported implementation.

However, the last few months have seen spectacular growth. During the month of February 2016, 193 IEMs had been filed with proposed investment of Rs 17635 crore as against 141 IEMs with Rs 54605 crore during February 2015. Out of these, proposed investment of Rs 4882 crore from Gujarat, Rs 2899 crore from Telangana and Rs 2242 crore from Maharashtra during the month.

Make in India Investments   

The positive trend of increasing FDI investments in India will also place the country in a stronger position to face contingent external shocks. The Make in India initiatives are also picking up FDI investments in the country. In future term, the incremental pattern of investment in India will strengthen its balance sheet. With commodities’ prices being low and more investments getting parked in India via FDI route, the CAD (current account deficit) may not be a major concern for India and this may predict well for Indian rupee as it may see some strength from here.

According to the global major rating agency, Moody - India will be self-sufficient in terms of financial needs and supporting country’s independent credit profile. The incremental FDI inflow will continue to taper India’s external financing needs and mitigate the risk of potential widening current account deficit. Therefore, it will be credit positive for Indian economy. India’s current account deficit (CAD) narrowed to 1.3 per cent of the gross domestic product (GDP) in Q3FY16 from 1.5 per cent as compared to same period in previous fiscal year. The rating agency is also viewing commodity prices will remain low in current financial year.

The government has introduced measures towards more liberalised foreign investment limits in various sectors. The lower energy imports bill and policy measures to contain gold imports are helping keep the trade deficit at moderate levels.

RBI Influence

On the internal front, government is aiding the growth by providing the right investment environment. There has been easing liquidity through monetary policy by Reserve Bank of India (RBI). The central bank has cut repo rate by 25 basis points to 6.5 per cent in first bi-monthly monetary policy for the current fiscal year. A reduced rate will ultimately bring down the cost of borrowing for banks, which would help them pass on the benefit to end consumers. The entire process will kick start the investment cycle and boost consumption.

The easing of liquidity will improve economy and banks condition in future term. Now, the banking sector especially public sector banks are witnessing trauma of bad loans. The situation will improve for banking sector during current financial year as RBI also has a goal to clear non-performing assets of the banking sector to zero by FY17.

RBI guidance is focused on passing interest rate cut to the end customers. Till date, it has cut rate by 150 basis points but banks reduced by 50 to 60 basis points. Hence, RBI is seeking full transmission of interest rates going forward.

 RBI is confident of higher GDP growth of the country in 2016-17 assuming there will be normal monsoon. After two consecutive years of deficient monsoon, a normal monsoon would work as a favourable supply shock, strengthening rural demand and enhancing the supply of farm products that also impact inflation. Therefore, there will be boost of consumption demand from the implementation of the Seventh Pay Commission recommendations and One Rank One Pension (OROP).

Union Budget acts a trigger

The union budget for financial year 2017 remained pro rural and pro farmer. The government has focused on various farmers’ schemes from soil health cards to doubling the income of farmers by 2022. The cabinet also focused on the sectors of infrastructure, investment, banking, insurance. As much as Rs 218000 crore will be allocated for capital expenditure of roads and railways during the financial year 2017. Hundred per cent FDI through FIPB route will be permitted for marketing of food products, produced and manufactured in India. The government has fiscal deficit target for the fiscal year as 3.5 per cent of GDP.

The NDA government is focusing on implementation of projects which were announced after spending of two years. The ease of doing business, the Make in India initiative, funds allocation to smart cities are driving further growth of the country.

Annual outlook 2017

The companies across sector witnessed shrinking margins and lower revenue growth rate in the last nine months. The financial year 2016 remained very cautious according to the all stakeholders of the equity market. However, we are seeing green shoots in the management commentary over the last quarter and some traction is expected in the coming months.

After almost five consecutive quarters of declining trend in headline aggregate net profit of Sensex companies, the trend is expected to improve in coming last quarter of financial year 2016 in spite of the continued stress in the core sectors like, metals, capital goods, oil & gas. There will be effect of regulatory directive to clean-up of balance sheets for earnings of banks. The annual results across Indian industry will decide further path of equity markets.

We see that market has recovered from the lows seen in Feb-16. We believe the market is still undervalued currently trading at P/E of 18.97 and P/B of 2.76 and with positive earning hitting the ground, post August era of the year will see a bounce back in investor sentiment. The skies will be much clear and the Sensex flight should be smooth. We believe it’s the right time to board the flight!
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Capital markets, watchdog SEBI, and investors’ protection go hand in hand

Stock markets in India have a very important role to play in the country’s economic growth. Thanks to the capital markets watchdog, Securities and Exchange Board of India (SEBI) and leading stock exchanges such as the Bombay Stock Exchange (BSE) and National Stock Exchange (NSE), the Indian capital markets have truly experienced a significant structural transformation, over the last few years. It now compares well with other developed markets. While investor awareness has been the key focus for the regulator, sadly there have also been instances where a section of investors who have put in their hard-earned money in the company stocks, have landed up in a financial mess, losing it all. Industry experts opine that while our market regulator has done a commendable job in protecting investors’ interest, over the years, something more needs to be done in this regard. Mahalakshmi Hariharan speaks to market players to find out more.

Stock markets in India have a very important role to play in the country’s economic growth. Truly markets regulator, SEBI and stock exchanges like BSE and NSE have helped in the overall transformation of the markets, in the last few years.
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Flashback

Looking back, the role of SEBI got more powerful, following the Harshad Mehta scam that shook the markets back in 1992. The multi-million scam where hundreds of crores were swindled by artificially pumping up stock prices had created havoc in stock markets then. To take one back into history, Harshad Mehta had lured investors into investments, who in turn, suffered heavy losses. Truly, the exposure of the scam left the regulator, SEBI, with a lot of ground to cover. At that point in time, the mood was to empower the regulator. It was time to repair this financial injury and help investors out.

Investor protection is one of the most important features for a booming securities market. SEBI made investor protection its key focus so that the latter is fully informed about the purchases, transactions, affairs of the company that they invest in. This move was essential as the economy was gradually opening up and there was a dire need of transparency in the stock market.

Steps taken

In the last 25 years, SEBI, along with the BSE and NSE has indeed taken a number of steps so as to bring about transparency in the operations in the stock market. The regulator issued guidelines to companies, to bring about transparency in their operations and also to see to it that investors are not exploited. A close watch is kept on all intermediaries to check that the guidelines are well followed. Suitable actions are also taken if the guidelines are not adhered to.

Markets regulator, SEBI, also issues advertisements to enlighten investors regarding various instruments, cautioning them on the precautions they should take before going ahead with an investment. That apart, investors also approach SEBI and the stock exchanges in case of problems relating to their investment in securities and financial assets. Complaints pertaining to non-receipt of refund orders, allotment letters, delays in the transfer of shares and debentures, non-receipt of dividend or interest are some of them. (Refer table for more details)

SEBI has been undertaking various activities for the protection of interest of investors by conducting various regional seminars and investor awareness programmes. The regulator conducts various investor education and financial awareness programmes across the country, covering all states and Union Territories. The motto is to reach out to maximum investors and potential investors in the country. According to media reports, SEBI conducted nearly 6,300 programmes between April-December 2015-16 and had initiated 8,443 investor education activities in the past financial year.

What markets participants have to say about the regulator’s role…?

Says Arjun Narsipur, Director, QuantArt Market Solutions Pvt Ltd, a niche financial markets consulting firm specialising in value added forex and interest rate risk management advisory offerings to corporates and institutions, “The regulator's role is ever evolving along with the challenges in our securities market. I would say the institution is doing a very good job. This is evidenced by the fact that the Indian markets have largely been cushioned from operational risks (like that in the US), tech risks and frauds.”

Abhimanyu Sofat, Co-founder Advisesure.com, a financial advisory firm, too, believes that the regulator is doing a commendable job in protecting the interest of the investors. “As a listed entity, it is important for a company to have the best corporate governance practices. So if some of these companies are not able to comply, the action of the regulator is warranted. It serves as a good warning to other corporates to take regulations seriously.”
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Quoting a recent example where BSE has suspended more than 31 companies from trading, Rishabh Parakh, Chartered accountant and Chief Gardener of Money Plant Consultancy, leading Tax & Investment Advisory firm says, “Of late we have seen certain companies not adhering to the standard guidelines, rules and regulations as per the listing agreement and eventually turning into errant companies. In a very recent case, BSE has suspended more than 31 companies from trading due to surveillance issues. Some of them include Patidar Buildcon, CMI, Autopal, Cupid Limited, Lykis Limited, Sphere Global, which are suspended from trading from 31 March 2016 onwards. The exchange found substantial increase in manipulation in the prices of securities. Moreover, these companies had issued preferential shares to promoters or through a preferential issue, and, have not followed the regulations.”

While this is a good step taken by the exchange, what happens to investors who have invested in these companies?

Parakh notes, “If we delve further, it seems that Cupid limited, Lykis limited, Sphere Global are victims of automated surveillance measure. In this recent suspension, just after the notice was out, almost all these companies have hit the lower circuit and innocent investors have lost crores of money as all these stocks fell by almost 10-20 percent.”

Sadly, due to some past preferential allotment by the promoters, investors are suffering losses. For investors, there is no way out, as this issue is not going to be resolved anytime soon. This issue could result in non-listing for a few months where shares will not be traded.

Here, Parakh suggests, “It would be a good idea to freeze promoters’ holdings in case the company is found guilty. This in a way can save investors, or else there can be a financial penalty on errant management rather than on errant companies as it will be then paid by the management individually and not by the company.”

Dr Apoorv Ranjan Sharma, Co-Founder and President of Venture Catalysts is of the view that some of the problems faced by individual while investing in the capital market is the lack of knowledge and interpretation. “Most people don’t look into the company accounts throughout the fiscal, but only do so during the annual meeting. Sometimes majority of them are retail investors (investing small amounts) whose fate is being driven by the HNIs (high net worth individuals).”

He adds, “Some of the general problems faced by investors in the stock market are poor liquidity, delay in delivery, existence of grey market, insider trading and lack of transparency in some areas.”

Are the measures taken by the regulator unbiased? Does it protect the interest of investors?

 “Yes, the actions of the regulators are completely unbiased. In fact the regulator should force corporates to enhance the level of disclosures in their quarterly statements as well,” notes Abhimanyu Sofat.

SEBI had announced a series of amendments to rules relating to the stock market, to provide ease for investors and motivate more and more retail investors to invest in the market, like an overhaul in the foreign investment rules, allowing start-ups and small and medium enterprises (SMEs) to get listed in Institutional Trading Platform (ITP) without making an Initial Public Offering (IPO), but restricting the minimum investment value to Rs10 lakh and tightening rules for buyback of shares.

Dr Sharma believes that the steps taken by SEBI have had a different impact on the Indian currency, investor group and economy as a whole. “For instance, with start-ups and small companies listing without an IPO, small investors cannot really invest in these companies. Many rich individuals and angel investors have invested in privately-held small companies. Such companies also have found raising money difficult as investors do not have public information on these companies. With the new rule, small companies can find investors easily. Investors too can find alternate buyers via the stock exchange trading platform. This is expected to make foreign and domestic investment into SMEs easy.”

SEBI’s measure of tightening norms for buyback of shares is to safeguard the interest of small shareholders. With this ruling, companies will have to buyback a larger number of shares as compared to earlier and also complete the program in a shorter period of time. “These measures will avert companies from making non-serious offers with a view to wrongly influence share prices,” he says.

In the last few years, SEBI has also raised its guard against price manipulation in the shares of small companies. According to Sanjay Israni, Senior Partner and Prachi Doshi, Head, Domestic Capital Markets at Rajani Associates, “The market regulator has increased surveillance measures to keep a close watch on any kind of fraudulent practice in the stock market. This comes at a time when interest in equity is growing due to falling interest rates and increasing interest of a cross section of investors in equity. Several small companies, with limited track records, have seen their share prices increase manifold, often belying fundamentals. Also, heightened activity is being seen in several so-called ‘penny stocks’. After carrying out surveillance on speculative stocks across sectors, SEBI found that penny stocks were being used to manipulate the market.”

Adds Prachi Doshi, Head, Domestic Capital Markets at Rajani Associates, “In most of the cases, SEBI has observed that the operators, company and its promoter entities devise a scheme to conduct manipulative transactions in securities and misuse the securities market. Apart from the securities fraud, there are also high possibilities of money laundering or tax evasion through such manipulative practices. Apart from the various market measures which the SEBI comes up with from time to time, there are various regulations and bylaws which provide for effective surveillance and monitoring mechanism for the purpose of initiating timely and proactive measures to facilitate checking and detecting suspected or alleged market manipulation, price rigging or insider trading to ensure the market integrity and fairness in trading.”

She is of the view that the market regulators have been taking various measures to curb the malpractices in the securities markets which directly or indirectly affect the innocent investor, being the public at large. “Sadly, the innocent investor is lured into markets by the greed of quick returns on investments which the market manipulators exploit for their own vested benefits, thereby leaving the small investors in the middle of nowhere.”

What more needs to be done to safeguard the interest of investors?

While investor awareness has been the key focus for the regulator, sadly there have also been instances where a section of investors who have put in their hard-earned money in the stocks of companies, have landed up in a financial mess, losing it all. While our regulator has done a commendable job in protecting investors’ interest, till date, more needs to be done.

Arjun Narsipur is of the view that a lot more can be done to protect or safeguard the interest of investors. “For instance, while the regulator has made it compulsory for ‘experts’ to take prior permission before speaking on individual stocks, on television, anyone is still free to go on air and promote his views on the direction of the market. Most of the retail investors are taken in by the conviction and stories. One possible solution is to make it compulsory for anyone commenting on markets to display their audited track record for the last say one year which will instantly place the expert.”

He adds, “I have seen many instances of small and micro-cap stocks running up only to be followed by a major news flow. The regulator must form teams to suo-motu track any such weekly surge in stock prices by 20 percent plus and look at the reasons behind the same.”

Also, one of the biggest risks for investors is the credit risk they face with brokerage houses. “Ideally it takes anywhere between 2-5 days for pay-in and credit of stocks in the depository participant (DP) account. Even more so, most brokerage houses have unilateral access to a client's DP account via offline trading. Most of these clauses are hidden in clumsy 38-40 page account opening forms. A broker starved for cash can access a client's DP account, sell stocks and realise cash. Here, it is very important that the system needs to come up with a long term solution for the same.”

Israni and Doshi are of the view that market surveillance on the basis of objective parameters such as price, volume and entities could happen on a real time basis or a deferred real time basis. “This will enable effective dissemination of timely alerts and notifications that can be used by trading members to discourage and warn investors from trading in suspicious stocks so that they are protected from losing their hard earned monies because of such market manipulations,” they note.

“SEBI has been essentially formed to protect the interests of investors and ensure orderly and healthy development of the securities markets. There may be instances where there may be a genuine trading or interest in a particularly scrip for various economic, financial or commercial reasons, leading to increased volume/price of the scrip. In such circumstances, the regulators have to apply their unbiased and balanced subjective mind to discriminate between manipulators and genuine usage of the stock market framework and take immediate measures to ensure the protection of investors,” says Israni.

Sofat is of the view that the notes to accounts of the corporate should carry all the pending compliance related issues so that investor can better judge the corporate governance practices of a company.

Retail participation

Talking about retail participation, in India, Dr Sharma believes that very few Indians actually stand to benefit from the boom. “The proportion of retail investors in India’s equities markets is very low. Less than 1.5 percent of the population invests in securities, compared with almost 10 percent in China and 18 percent in the US. Just two percent of India’s household savings are exposed to equities. Considering the percentages, the country desperately needs to channel more household savings into equities which is a vital source of corporate finance instead of unproductive investments into gold and real estate. India also needs more local funds if it has to sustain the strength in its equities market while avoiding macroeconomic imbalances.”

In the last few months, FIIs have pulled out money from stock markets and indices have fallen sharply. Swarn Saklecha, Stock Market Broker & Analyst, says, “Although stock markets have fallen sharply from its lifetime high last year, it has still not made investors wary from getting into the market. If we look at the number of new accounts opened, it is clearly an indication towards the same. “

According to data from NSDL, more than 1.8 lakh demat accounts have been opened in the first two months of the calendar year. Swarn believes that the number will further go up as new investors will surely look forward to take advantage of the current valuations which has become more reasonable looking from a long-term perspective.

Deafening silence of SEBI on Dark Fibre raises questions

An apparently innocent letter written by a whistle-blower to market watchdog, SEBI almost 15 months back may have opened a pandora’s box. The letter followed up by at least two more during 2015, now have brought country’s largest stock exchange NSE under the lens of Ministry of Finance and SEBI. Allegations have been levelled against NSE for indulging into something called Dark Fibre advantages—through which it has been alleged, certain entities engaged into broking activities have been extended undue advantages by the stock exchange. While Ministry of Finance in the last year asked SEBI to probe the alleged irregularities following which the market watchdog engaged a sub-committee to look into the matter and submit report before it, sources in the Ministry told Dalal Street Investment Journal (DSIJ), the Ministry is yet to receive a final compilation of reports from SEBI in spite of reminders sent to them.

Alleging that the manipulations happened at the exchange’s co-location centre during the three years between 2011 and 2014, the whistle-blower also urged SEBI to initiate probe and actions thereafter. It has been learnt following receipt of the letter, SEBI at once tightened regulations on co-location servers.

But then nothing much happened till the whistle-blower started bombing the market watchdog with letter bombs. It has been learnt reliably that some of the letters also landed in the Ministry of Finance and SEBI was ‘ordered’ to conduct a thorough probe. BSE came into picture only after the whistle-blower, believed to be based in Singapore, alleged of a Dark Fibre link between the NSE and the BSE. The letter alleged such link exists at the time of writing the letter between the NSE and the BSE which had put ordinary investors as well as large institutional investors at a serious disadvantage.

While SEBI officials preferred not to talk on the issue which has raised questions on common investors being deprived at the cost of the privileged some, BSE clarified its stance on the whole issue. “BSE will cooperate fully with regulatory authorities in this regard,” said an official spokesperson while adding, “current allegations of preferential treatment for getting faster data being given to specific people or faster execution facilities within an exchange facilities or ability to place orders only to few members with high speed is clearly not acceptable as they are against principles of fairness, efficiency and transparency.” The spokesperson also said, “BSE has also not followed practice of providing any approval or stopping any approval to any member trading from BSE and sending orders to any other exchange in India since 1994 when the competition was set up (see box for more).” A NSE source said, the Exchange ensures interests of all the investors are protected and everyone is treated at par.

Involvement of a Kolkata-based broking firm OPG Securities run by one O P Gupta also has been alleged and in spite of repeated attempts made by DSIJ to reach Gupta for his take on the entire issue, no word was spoken till the time of the edition going to print. Primary probe also revealed alleged involvement of AlphaGrep, a securities firm and they could not be reached for their comments on the issue. AlphaGrep allegedly had been the main benefactor of the entire Dark Fibre episode as it hiked its market share from mere 5 per cent to 15 percent during four to five months’ period in 2015.

Life may take unusual turns and twists and turns do happen in stock markets too. We all tend to press the panic button the moment we hear certain securities have been suspended from trading in the bourses, some even have been delisted. We tend to gather our anger against the respective stock exchanges for such sudden actions—but then, hold on, they are perhaps doing their best to protect your hard-earned money. Mayuresh Deshmukh explains the mechanism.

On March 29 Bombay Stock Exchange (BSE) informed about suspension from trading of 31 securities from March 31 onward. The move by the Exchange once again created some kind of panic among investors. But the action was much-needed looking at protection of investors’ interests in the long-term. Here is our take on this bold move taken out by BSE and its effect on the participants in market. 

Time to time stock exchanges suspend some of the securities from trading on Exchanges. The suspension of securities is stoppage in the trading of the securities for the extended period of time that normally occurs when there is some lack in material financial information on the security.

After the suspension, shares of that security cannot be traded on the markets until the suspension is lifted. The exact amount of time for the suspension get decided on case-by-case basis.

The revocation of suspension is subject to the companies further complying with the procedure and all extant norms prescribed for revocation of suspension. Otherwise, the suspension will continue till the time the company complies including payment of fines, if any.

In India, capital markets regulator SEBI (Securities and Exchange Board of India) asked the stock exchanges in 2013 to put in place standard operating procedure (SOP) for suspension and revocation of equity shares of listed entities for non-compliance of certain clauses of the listing agreement.

Accordingly, the Exchange issues show-cause notice to companies that have not complied with any one or more of the critical clauses of the Listing Agreement like

Clause 16 - Closure of transfer books once in a year

Clause 31 - Submission of Annual Reports

Clause 35 - Submission of Shareholding Pattern

Clause 41 – Submission of Financial Results

Clause 49 – Submission of Corporate Governance Report etc.

The details of the response given by such companies to whom the show-cause notices were issued are placed before the Independent Oversight Committee (IOC) of the Governing Board for listing function. The decision of IOC may include suspension of the securities of the company, which is then implemented by the Exchanges. The Exchange issues letter of suspension of trading to the company.

The Exchange informs the market participants about the suspension of the securities of the company through a circular and press release. The exchange gives adequate notice to the market participants about the proposed suspension.

Days after suspension has been effected, trading in the shares of non-compliant companies would be allowed on restricted basis or in “Trade for Trade basis in Z group” only on the first trading day of every week for six months.

Further in case of suspended companies, as and when the companies respond satisfactorily to the show-cause notice, non-compliance letters and is subsequently compliant with the critical provisions of the listing agreement on continuance basis, then the matter shall be put up to the IOC. The decision of committee which may include revocation of the securities of the company is then implemented by the Exchange.

In recent times, markets regulator SEBI as well as the Exchanges have been taking strict actions against entities indulging in manipulative practices in the capital markets. While the Exchanges, from time to time, have taken requisite steps to detect and contain such instances, it is felt necessary that further pre-emptive measures should be adopted to curtail misuse of the exchange’s system. These steps include various enhanced surveillance measures like reduction in price band and suspension in the trading of securities.

On March 4, the BSE had cautioned about substantial increase in manipulation/abrupt movement in the prices of securities wherein common modus operandi was found to be through preferential allotment route.

In the same month, continuing its efforts to curb manipulative activities on its platform, the BSE decided to suspend trading in shares of as many as 31 companies from March 31 onwards.

Among the firms faced suspensions include Autopal Industries, Diligent Industries, Frontline Business Solutions, Global Infratech & Finance, Hindustan Wires, Ram Minerals and Chemicals, Unno Industries and Zyden Gentec.

The suspension is till the time the company submits the auditors’ certificate confirming compliance with regards to the preferential issue(s) made by the companies. The companies have to provide answers related to:

i)                    Amount raised under each of the preferential issue.

ii)                   What was the object of raising the fund?

iii)                 How the preferential issue benefitted the company?

iv)                 There is no mis-utilisation of funds raised under preferential basis. To be duly supported by bank statement of the company.

v)                  Money raised as above has not been transferred back to the preferential allottees/ promoters/ directors directly or indirectly.

Further, in order to smoothen the process of verifying the completeness of documents, the certificate issued by the Auditor should contain adequate reasons backed by supporting documents with proper cross-reference in order to adhere to the spirit of aforesaid Exchange notices.

The companies which got suspended are as follows:

When the shares of company got suspended from trading in the stock exchange, it become impossible for investors to trade in these shares through the stock exchanges. The investors will be able to encash the value of shares only if they are able to find a willing buyer for the suspended shares. Means it is almost impossible for the investors who is invested in these securities to leave as everyone in market will know about the suspension of securities and no one wants to invest in non-traded securities.

This is the reason which creates panic among investors after the announcement of suspension by stock exchanges. Many investors think that the stock exchanges and regulators don’t care for the money of the investors. Because of these types of scenarios investors start to lose the confidence in the market. Taking it to the extreme many retail investors even sold out their entire portfolio in the past just because one of their securities got suspended from the stock exchanges. But the investors have to consider here that these small moves make the big impact in the long run.

In short run money of the investors will vanish but if these companies remain in the market then there is a possibility that it can make a big hole in the system. There are many reasons for this to happen but one of the main reasons which can help this to happen is that these companies were not only in non-compliance but also low in corporate governance and week in fundamental financials. These are the points which will anyhow deteriorate the wealth of investors in long run so it is better to take action today on these rather than tomorrow.

For companies to follow corporate governance is really important as it is the system of principles, policies, procedures and clearly defined responsibilities and accountabilities used by stakeholders to overcome conflict of interest inherent in the corporate form. The lack of an effective corporate governance system could threaten the existence of a corporation and weaken the trust and confidence that is essential for effective financial markets.

The news of suspension of stock of company changes the perception of shareholders towards management. The suspension creates suspicion in the mind of shareholders towards the company that it is not following the rules governed by regulators or doing something wrong on ground basis. This scenario effects the goodwill of company which can create a problem for them in future while raising money. So overall the suspension of securities will not only effect the shareholders wealth but also deteriorate credibility of company. But unlike shareholders companies has a chance here to improve their credibility by complying with the rules governed by the regulators and improve financials which in turn force regulators to remove the suspension. The removal of suspension will provide liquidity to shareholders in turn.

The moves like suspension from stock exchanges by indexes and regulator will force companies to follow strong corporate governance practice. This in long run will help all, as the studies has shown that a good corporate governance increases profitability and return to shareholders because of which measures like security suspension from regulators will reduce in number which will in turn secure investors’ money.

The suspension of securities from exchanges is a hard move which will affect all; shareholders, company, industry. This is the situation where share-holders’ wealth get stuck as the moves to follow after suspension are in hands of company. But this is a good move to follow as in long run it will help all.

Remember, acting ethically is not simple or easy, but it is a good practice.