Sucheta Dalal :Encouraging investorsR17; participation (22 Sep 2003)
Sucheta Dalal

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Encouraging investors’ participation (22 Sep 2003)  

The latest sustained bull run in the capital market has seen the Securities and Exchange Board of India (Sebi) do a commendable job of warning investors against excessive speculation, especially in what are dubbed penny stocks. It has also kept a hawk like eye on the activities of large speculators and market participants such as mutual funds, and warned them repeatedly about consequences of front-running and price manipulation in connivance with industrialists or brokers.

Sometimes, Sebi has even gone overboard in its enthusiasm. For instance, a leading business paper wrote that it has asked steel companies to first report ever tariff hike to Sebi. Although the regulator has never denied this report, a senior Sebi executive says that it had indeed sent a denial to that paper. Its action of transferring 200 low price-low volume scrips to the trade-for-trade segment that requires buyers and sellers to settle trades directly with each other is another example. Although Sebi’s action had the laudable objective of killing price manipulation in these stocks, it threw the market into a panic for a couple of days.

The question is, have these actions led to greater investor confidence? Maybe it has, but that is not yet the perception. Sebi needs tackle a couple of specific problems before its effort at confidence building begins to show clear results. A major positive, from the investors’ perspective is that Sebi, under Chairman G.N. Bajpai is clearly on their side and not inclined to favour or protect market intermediaries and brokers. But that in itself is not enough to make dormant investors active again. Nor will it increase India’s stagnant investor population from the 2 crore level. Restoring investor confidence would require more sensitivity to investors’ concerns; a clear understanding of their grievances and sustained action to resolve their problems. One of the biggest impediments to investor growth in India is the high depository charges levied on investors. Far from meeting the objective of forcing investors to dematerialise their shares, compulsory demat trading has only shut a big chunk of investors out of the market.

Everywhere that one goes ‘whether it is an investment-savvy Ahmedabad or a not-so-active Belgaum, investors complain about high dematerialisation costs. But despite setting up a committee to address the issue, nothing has changed for retail investors. A couple of months ago, I quoted from a study by Dr L.C. Gupta (former independent director on the Sebi board) and his colleagues at the Society for Capital Markets Research and Development (SCMRD), which had documented how investor participation in the market is hampered by the high cost of the maintaining demat accounts. Dr Gupta’s study aimed at resolving, to a substantial extent, the mystery about the huge gap between estimates of share-owning population and the number of demat accounts opened. While various reports estimate investor population at two crore, the two Indian share depositors together report just over 40 lakh demat (including multiple accounts) accounts which cover 99.5 per cent of all secondary market trading. This suggests that India’s investor population is either exaggerated or investors are not opening demat accounts and choosing to stay out of the secondary market.

Dr Gupta and SCMRD are now working on a project to gather empirical data to check the extent to which investors have dematerialised their shareholding in each company. The findings are startling. They show that over half the investors (52.9 per cent) in individual companies have not dematerialised their shares. The data is currently restricted to just 35 companies that cooperated with SCMRD in the interest of working towards better and more economical demat services. Dr Gupta tells us that the information has been collected on the solemn understanding that individual company names and details will not be disclosed. An analysis of the data showed that average physical holding remains at 50 per cent plus even for actively trades stocks, and is often much higher in thinly traded scrips. For instance, at least one company in his study still has 83.7 per cent of its shareholders holding in physical shares. Two others have over 77 per cent of their holding in physical shares and only one company’s shares are 100 per cent dematerialised. One could argue that a section of investors would always buy and hold stock without churning it. But they can’t account for over 50 per cent of the total, especially since institutional investors will not figure in this group.

Also, since banks lend only against dematerialised shares the promoter group and corporate entities are unlikely to figure among physical stockholders. That leaves only retail investors who probably find the custody charges too high make dematerialisation worthwhile. Curiously enough, neither Depository Participants (DPs) nor the depositories seem inclined to grow the market by reducing custody charges. In fact, the tariff structure is now skewed in favour of institutional investors and against individuals. The situation is likely to continue unless Sebi chooses to intervene and reduces depository charges to affordable levels. It can do so by asking companies to bear part of the demat expenses; after all, companies have enjoyed substantial savings due to paperless trading and will continue benefit during further issues of capital.

Another confidence destroying action that needs regulators’ intervention is over stocks that have been dumped into the ‘Z’ category by the Bombay Stock Exchange (BSE). The BSE recently shifted 555 shares to the Z segment in addition to 112 scrips that were there earlier. These are companies whose managements refuse to comply with listing rules. However, relegating such scrips to the ‘Z’ group only penalises investors and lets off management. Dr Gupta correctly suggests that the Sebi and the Department of Company Affairs (DCA) need to study the ‘Z’ group companies and launch prosecution against those that refuse to comply with the rules. Otherwise, it allows unscrupulous management to grab investors money without the responsibility of paying listing fees, resolving grievances, publishing their accounts or disclosing their activities, while enjoying the perks available to listed companies. Unless Sebi takes on board a couple of these issues that matter to retail investors, its many efforts to curb market manipulation and to check scams will have limited impact. After all, Sebi’s success does not depend only on keeping existing investors safe, but on its ability to grow the investor population by restoring confidence and encouraging their active participation.

-- Sucheta Dalal