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The Rediff Business Special/R Vaidyanathan

A million Abhimanyus in the Indian share bazaar

Small investors are now the cynosure of all eyes. Tomes have been written on how to woo them back into the share market. The Bombay Stock Exchange has offered suggestions to the Union finance ministry. The Federation of Indian Chambers of Commerce and Industry has produced papers on how bourses can win back the small investors. Not to be outdone, the Confederation of Indian Industry, not to mention assorted other industry groups, have also offered a plethora of ideas on how the stock exchanges can attract the small investors once again.

The so-called small investors are the children of the Controller of Capital Issues raj. In the early 'nineties the CCI used to fix share prices and allow FERA companies to offer stock in the market at those artificially-fixed, low prices. Investors used to apply for these shares under different names, only to offload them in the market at exorbitant prices after listing. In the process, several fly-by-night operators also floated companies and took advantage of the boom of the early '90s.

The Harshad Mehta affair was only a part of that story. An important feature of the period was that the stock exchanges reckoned only the listing fees while listing companies, and not the other fundamentals. Later, of course, SEBI formulated guidelines governing the listing of new and existing companies in terms of their track record and other parameters.

These investors who entered the market during those halcyon days are unfortunately not in a position to exit now, even at a loss. They can be compared to the well-known character in Hindu mythology, Abhimanyu, who knew how to enter the Padma Vyuka (not Chakra Vyuka, as it is popularly believed) but not come out of it. Unfortunately, he died in the battlefield due to that fatal inability. For the benefit of the MTV generation, Abhimanyu, the son of Arjun in Mahabharat, learnt the art of entering the Vyuka when he was in his mother's womb. But before he could be taught the exit technique he was born. He could not double-click on a mouse then!

The plight of these investors is due to a four-fold problem in our markets. The stock markets are very illiquid. This means that there are no takers for most shares at any price. Though over 9,000 shares are listed in our exchanges, more than half were not quoted or traded last year. Another 25 per cent were quoted only a couple of times during the last year. The shares of only five to 10 companies commanded more than 40 pc of the trade turnover.

Contrast this with the New York Stock Exchange, where no single scrip normally enjoys more than one per cent of the turnover. Though market players and exchanges blow their bugle about India having the largest number of scrips listed [like having the largest cattle population in the world], only around a hundred scrips are active. If you hold the wrong scrip you can only use it as cattle feed!

In well-organised markets there is a system of market makers who offer two-way quotes on any scrip so that continuous liquidity is provided to all scrips. We do not have this facility. Our merchant bankers and brokers are significantly under capitalised to perform this role. A company should not get listed unless market making is assured for its share. Lack of this facility is the noose around the neck of our small investors.

Several expert groups from SEBI, Bombay Stock Exchange, Institute of Company Secretaries, Department of Company Affairs etc are now searching companies which are not traceable. Photographs of dsirectors of these companies may be put up in railway stations and other public places! But these directors are also directors of so many other companies that are thriving! These gentlemen are very much part of the dining and whining circuit in Bombay and Delhi. Taking investors for a ride is the national pastime of India Inc!

The daily turnover of our major stock exchanges (Bombay and NSE) has touched over Rs 30 billion in the last few years. On occasion it even climbs up to Rs 40 billion! But this is not related to normal buying and selling of any assets as commonly understood. More than 80 pc of this is for squaring purposes. That means, if you initiate a trade in BSE on a Monday, before the end of Friday you have the possibility to close it (ie, sell order to match an earlier buy order or vice versa). The bulk of trade is for this purpose. In other words, in more than 80 pc of transactions, the scrips do not change hands. This means a high level of speculative activity in the market. Even the remaining portion of the delivery is mainly by Institutional Investors since they have to take delivery or make payments. Another part is, due to arbitrage brokers shift from one exchange to another (say buy in BSE and deliver at NSE).

Small investors do not figure in all this. Exchanges should publish detailed and separate statistics about trade done by brokers on their own accounts and trading on behalf of clients. This will be very revealing. It will lay bare the fact that most of the trading is being done only on their own accounts by the brokers.

Above all, small investors do not have timely protection against non-payment or non-delivery of shares by brokers. If a broker defaults, then the matter has to go through a process of being heard by an investors' grievance committee, then an arbitration committee, a default committee, and finally leads to the auction of the defaulting broker's membership card. This rigmarole can take two to three years if the investor is lucky. Justice hurried is justice buried all right. But the harried investor gets buried much earlier.

There are other twists to the tale. If the broker has shown the amount received from a client as a loan and not as an advance for buying certain shares, then the stock exchanges will not even hear the investor's grievance under the pretext that it is outside their purview. Contract enforcement is cumbersome and time-consuming in our context.

Why do we enthusiastically lure small investors to such a speculative, illiquid, unprotected and opaque den? Why encourage small investors and give them false hopes? Of course, the goat is always well-fed and treated with care before it is sacrificed. It is also not afforded the luxury of free expression of its opinion on the matter!

As a matter of fact, the debate should be refocused on devising ways to dissuade small investors from our share markets. They can participate in the fixed deposits of banks, small savings of the postal system, or in selected mutual funds. Germany does not have millions of stockholders. Only 700 companies are listed in the stock exchange there. Investors therefore use banks or mutual funds. Assuming there is still some life left in the Abhimanyus of our share market, they should be actively encouraged to move to safer investments.

Of course, the stock exchanges and merchant bankers, not to mention India Inc, may not undertake this task purely out of self-interest. The financial press can endeavour to do this. Their track record, however, does not inspire confidence in their ability to live up to this historic role. In this situation, SEBI can and must play an important role in dissuading the small investors from the share bazaar, and re-directing them to other avenues. Otherwise the small investors will have to learn hard lessons at a huge cost, time and again.

R Vaidyanathan is Professor of Finance, the Indian Institute of Management, Bangalore.

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