How promoters and operators work together to rig up prices

There is a big lesson to be learnt from the recent sharp fall in prices of small- and mid-cap stocks. Most of these stocks were ‘operated’. What are the typical characteristics of this operation? For one, they have limited retail interest. Less than 50,000 shareholders are typical for most Indian companies. And average retail holding tends to be 100-500 shares. There is no reason for the stock to be traded in large volumes, unless there is a clear manipulation which gives an illusion of liquidity and is also part of a larger exercise by the promoters to rig the price. Why do the promoters rig prices? I have seen promoters using operators to make money on the side and when they are able to ramp up the prices to very high levels, even by their own yardsticks, they sell part of their holdings. Then, over time, they bring the prices down and then use the qualified institutional placement (QIP) route to allot themselves warrants to shore up the holding.

For most Indian companies with low market-cap (say less than Rs500 crore), there is hardly any institutional demand. And, surely, retail shareholders hardly trade their holding every day. Most retail investors tend to either hold on for long or sell on listing. To create an illusion of liquidity, the promoter approaches a few ‘operators’. Often, some broking houses approach companies saying that they will ensure ‘interest’ in the company’s stock by writing research reports, doing road shows, etc. Once all arrangements are in place, some entities will keep buying and selling the shares on a daily basis. Most of them will have a ‘loan against shares’ facility from a finance company. There can be up to 20 or more entities involved in this. Essentially, circular trading happens in a way that it creates an impression of volumes and also helps to move the price up. A few stray retail investors participate. In a vicious market, they are like the victims of stray bullets!

The one classic symptom which most of these stocks displayed was their getting locked on the lower circuit for several days in a row. This can happen when the operator ceases his activity—perhaps due to some of them getting scared of regulatory action or the finance company pulling the plug. Regulators can easily catch these operators if they want to. The other sign is the percentage of ‘deliveries’ to the total traded volume. In such counters, it is rare that anyone other than an operator would indulge in ‘intra-day’ activity. The lower the delivery volumes in these small stocks, the greater the probability of manipulative trading.

Another thing to look at is the pattern of ‘block’ trades. Most often, you will see names of a few investment companies repeating. If you track the data on an annual basis, some names seem to be present in a group of stocks. While it may not be conclusive evidence, it surely stinks. Look at the number of shareholders. Look at the institutional investors’ breadth. Domestic institutional investors’ presence is easily ‘bought’ by many promoters through brokers who ‘fix’ the fund managers. If you look at the list of investments of most domestic institutions, it would have such obscure companies that you cannot but doubt the integrity of the institution.

If you want to be focused on integrity and transparency, the universe of listed stock shrinks by as much as 90%. The second thing is you have to keep track of operators if you want to get into the second rung companies. In small companies, the main issue is also that without an ‘operator’ it would be almost impossible to buy and sell shares. It is hard to understand when the operation is on and gain from it. Please remember this when playing the small-caps. — R Balakrishnan