Safe and sound

The response to recent IPOs indicates that optimism about the future overwhelms the affirmative steps by the regulator

By Mohan Sule

The importance of foreign investors in the capital markets has been drilled into Indian investors’ collective conscience. Their presence in a stock is taken as a stamp of confidence in the corporate governance practices and outlook. They are known to prefer companies with liquidity on the trading floor. However, there is a downside, too. Just as they enter a stock with a big bang, their exit can play havoc with the valuations. Their departure is not necessarily linked to domestic issues and is often influenced by global events over which the local government and companies have no sway. Many of the foreign investors in India are pension funds or insurance companies, which can take exposure only to counters that meet the parameters laid out in their investment objectives. Most of them buy only index constituents. Many select scrips that are available in the derivatives segment so as to hedge their cash market positions. As a result, the price earnings ratios of quality stocks spurt so as to go beyond the reach of the ordinary investor. Deserving mid caps capable of delivering stupendous capital gains are ignored either due to the modest outstanding shares or because of the inability of these investors to breach their mandates. To ensure that the inflows of foreign funds are spread out across the board, it is necessary that companies expand their capital. An economic climate that holds the promise of increase in consumption can embolden enterprises to undertake fund-raising. It is at a delicate juncture when the economy is at the crossroads of bottoming out and bouncing back that the vacuum of retail investors is realized.


As small investors take small bites, the advance in prices might not be as sharp but then volatility is also low. Many of them hold their investments for several years and are happy with regular dividend payment, allowing companies the flexibility to plan for the long term without being bogged down by quarterly targets. Also, decisions are based on domestic considerations and company-specific events rather than second guessing the actions of the central banks around the world. Despite the global financial turmoil post 2008 liquidity crunch, China’s equity market did not panic like other emerging markets with large foreign institutional presence as retail investors constitute a majority of the investing community. It is not that our policy makers are not aware of the positive impact of the small investors on the equity market. Market regulator Securities and Exchange Board of India keeps on tinkering with guidelines to address the problems faced by the marginalized investors. These have included recalibrating the proportionate allotment of shares, increasing retail quotas, discount on the offer price, shorter listing period, debiting of subscription only on allotment, ban on withdrawal of bids by institutional investors, buyback of new shares by promoters and increasing the investment limit. There is also a move to direct companies to declare their dividend policies. Yet the revisions in various regulations were not followed by a spurt in retail participation.

There is a point up to which a safety net can work. Investors want transparency from companies and swift and visible penal action against errant promoters from Sebi. At the same time, it is wrong to create an environment that encourages small investors to believe that there are no risks and only gains. Mutual funds, unfortunately, unleashed this sort of hype and eventually became victims of investor disillusionment. There are already murmurs about the poor returns generated by equity schemes over the past year. Debt funds, too, have betrayed the trust by investing in low-quality, high-yielding paper to prop up NAVs. The response to two recent IPOs from the services sector indicates that investors know a value proposition. Both were richly priced. One flopped on listing as the scope for a high-end outlet was seen limited despite the rapid urbanization. At the same time, the premise that there is an untapped market waiting to be connected cost-effectively saw demand outstripping supply on the debut of the second stock. The conclusion is that, apart from a secure atmosphere being a basic requirement, optimism about the direction of the company going ahead is more important. If retail investors do not come into the market in droves, the fault is not because Sebi is lacking the will to enforce discipline. Confidence in the economy at large and the role of the issuer in the scheme of things are the pivots. The market is willing to pay a premium to companies that have survived and prospered even in tough times. That explains why some stocks fly high and some get grounded.