Sucheta Dalal :Stock sizzle: more bubble than boom?
Sucheta Dalal

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Stock sizzle: more bubble than boom?  

Jul 4, 2005

A recent article in the Wall Street Journal says businesspeople and corporations are at greater risk of criminal liability than ever before. It says since the big corporate scandals of 2002, the US justice department has charged 900 individuals in more than 400 corporate fraud cases, with 500 convictions. Over recent weeks, some really big names have been sentenced to jail, one after another. So much so, that corporate behaviour has changed and companies, which earlier hired a battery of top lawyers to stonewall investigations and fight prosecution, are scrambling to cooperate with regulators.


The Journal also says corporate directors, who have had to pay from personal funds and settle shareholder suits in the WorldCom and Enron cases and also worry about having to serve prison time, are more alert about reporting corporate mischief. Corporate America has, of course, tried to hit back by getting a business-friendly chairman installed at the Securities and Exchange Commission (SEC). But even a soft market regulator is unlikely to help companies so long as judicial action can be initiated by the justice department, whose actions are usually dictated with their eyes fixed on popular public opinion.


Unfortunately, this changed scenario has no application in hot new emerging markets such as India and China, which are overheated due to the rush of never-ending foreign direct and portfolio investment. The Chinese market is the best example of a bubble gone bust. On June 16, The New York Times reported that the government was planning a $15 billion bailout fund to prop the market. The report says though the Chinese economy is sizzling, its stock market has been in the dumps for several years, battered by reports of bad corporate governance, accounting fraud and government interference in business. The Chinese IPO market has remained in the doldrums since 2001, after a rash of expensive issues by government-owned companies.


This is surely a red flag for us, too. Public sector stocks have been hot in the Indian market. But the opposition to the Bhel disinvestment and petroleum minister Mani Shankar Aiyer’s new-found opposition to privatisation, allegedly with the blessings of his party boss, seem set to bury any prospect of privatisation. The dithering over the oil price hike, at the cost of public sector oil firms, ought to be another worrying indicator. But, typical of a bubble, nobody wants to heed any warning. Greedy corporates are making the best of this boom, again setting the stage for a clear doom and gloom scenario. Family-run firms are once again busy raising money (through GDRs, foreign currency convertible bonds) they don’t need, ramping up share prices before making takeover announcements and allotting themselves preferential shares and warrants, which can be lucratively encashed in the future.


India has a pathetic record of successful probe into market manipulation

• Our stock market is overheated, with greedy corporates riding the crest

• Hopefully, the mad panic of May 17 will not recur, but one can’t be sure


No wonder, then, that the Confederation of Indian Industry’s (CII) snap poll of CEOs showed an emphatic 62% believe the stock market boom reflected the economy’s health, that good times in the stock market would continue over the medium term and there were no visible signs of any bubble creation.


But the tipping point is almost here. The Provogue issue made a splash in the primary market, but the police probe into the cocaine connections of its promoters is bound to hit the issue badly and burn investors who bought its shares. Similarly, Jindal Polyfilms raised Rs 300 crore at Rs 360 a share, when the ruling market price was around Rs 500. Since then, the price has dropped steadily, even before listing. It is now trading well below the offer price, at around Rs 310-340.


There is a clear case for a post-issue investigation into the trading pattern and allotment of several public offerings, especially subsequent offerings by listed companies, as well as recent clearances of some dubious IPOs. Corporate demergers, where the promoter family has hidden a bonanza for itself in the terms of the agreement, also require regulatory scrutiny. Unfortunately, unlike the US, India has a pathetic record of successful investigation or action against market manipulation. And an even more tardy record of prosecuting companies that have cheated investors in collusion with market operators.


Another concern is dominance of foreign investors. The recent market buoyancy is attributed to Japanese investors getting ready to buy Indian stocks. But as a recent HSBC report says, while noting possible signs of market bubbliness, Japanese investment is always a contrarian indicator. The report notes foreign investment in the market is already far too high. Foreign stake in the benchmark sensex has grown 40% in the past 12 months. And foreign investors own a staggering 74% of free float in the market, says HSBC. Clearly, unless domestic retail investors and mutual funds step up their purchases, foreigners cannot hope to exit or book a profit without causing a serious turbulence in stock prices.


The bigger danger is that hedge funds, which usually operate on a profit-share basis, are likely to induce volatility to create profit opportunities. And in the Indian context, many hedge funds are believed to be fronts for large market operators, who have found a perfect way to avoid regulatory scrutiny by round-tripping, largely unaccounted money through tax havens and foreign institutional investors (FIIs). Is the regulator ready for a recurrence of such turbulence? After all, the May 17 probe has yielded little evidence of a deliberate attempt to destabilise markets. Instead, even experts and economists prefer to dismiss May 17 as a freak occurrence of blind panic, where domestic and foreign investors all rushed to dump stock. Hopefully, a strong sense of self-preservation will prevent large institutional investors from participating in such frenzy again and prevent a recurrence of Manic Monday.

-- Sucheta Dalal