Sucheta Dalal :Beware of hasty props to falling market (23 September 2001)
Sucheta Dalal

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Beware of hasty props to falling market (23 September 2001)  



Indian stock markets on Friday kept pace with the mayhem around the world’s bourses; prices tumbled so much that they raised the spectre of a post-Depression-like situation. Neither interest rate cuts, nor patriotic buying or even company buybacks made a difference to market sentiment in any part of the world and policy makers can only console themselves that things may have been worse without their intervention.

The questions is, should there be a rethink on the quality of intervention, especially in countries such as ours where the economic slowdown was already creating a panic before the September 11 havoc? So far, our government has tried to follow the American lead in providing instant sops to the market. The Reserve Bank of India has offered much-needed support to gilts and has stopped the rupee from going into an irrational free fall. The Finance Ministry has also announced plans for several sentiment-boosting measures such as increase in the Foreign Institutional Investment (FII) limit to 100 per cent (with a few exceptions), relaxation of buyback and creeping acquisition norms and introduction of margin trading. It is this latter bunch of quick fixes, a result of hectic corporate lobbying, makes one uneasy.

For instance, there was a clamour to introduce margin trading after September 11. It is indeed a fact that margin trading is prevalent in all markets around the world that have switched to rolling settlement. But the timing of its introduction is also very important. In a falling market, margin trading only amplifies the risk of losses because a lender ruthlessly dumps collateral when an investor is unable to pay margin calls. It also allows short-sellers to press more sales. Indeed, one of the major causes of fall in US market at least is liquidation of margined positions.


Fairly bizarre ideas are floating around for helping the markets recover. But what the real lesson of last week is that few of these measures really help prop up the markets on a sustained basis

Then there is a quiet little move to double or treble creeping acquisition limits for promoter groups from the present five per cent level. Sources in the know say that there is even talk about promulgating emergency measure to push through this change very swiftly and without debate or discussion. Let us look at where this demand comes from. Investors would recall that after Arun Bajoria’s hostile raid on Bombay Dyeing shares and the takeover threat to Gesco Corporation a subsidiary of Great Eastern Shipping Company, leading business houses went into a panic. Several prominent industrialists rushed to SEBI and demanded a substantial relaxation in the creeping acquisition limit to ward off hostile threats. After considering the public response and opposition to their demand, Sebi allowed the limit to remain at 5 per cent. It was then pointed out that the limit was increased from two to five per cent and very few industrialists had bothered to use the facility.

Moreover, hostile raiders were already at a great disadvantage to existing promoters. A hostile raid required them to arrange funds to acquire at least 30 per cent of the target company’s equity. The first 10 per cent purchase sets off the trigger for an open offer, which requires demonstrable funds to acquire another 20 per cent. Isn’t it logical to assume that the same industry groups are using the excuse of a global meltdown in prices to push through their agenda on creeping acquisitions?

Fortunately, the next brainchild of the Finance Ministry seems to have hit a roadblock at the Department of Company Affairs (DCA). It was argued that no other country has a two-year restriction on issuing fresh equity after a buyback. Removal of this restriction seems fair, but only if DCA ensures that corporate reserves are not frittered away merely to boost share prices in order to satisfy the ego of management.

Moreover, the demands regarding share buybacks are not restricted to this. I heard a television discussion demanding that companies could buyback their shares through ‘treasury operations’ and should not have to extinguish the shares that are bought back. This is clearly preposterous and hopefully not even dignified with a discussion.

Yet another demand is to fund creeping acquisition and buy-backs through bank funds. Frankly, this too makes no sense because it will only allow management to ruin companies. Investors should remember that Indian regulators are happy to push the corporate agenda but are most reluctant to take responsibility for the subsequent supervision. After Scam 2001, the Reserve Bank suggested that a separate investigation bureau be created for financial frauds. SEBI wants a separate central monitoring authority to be set up under the Money Laundering Bill to track brokers’ accounts and track the flow of funds across bourses from various sources.

This is not to argue that government should sit back and do nothing. This is the best possible time to implement second generation reforms or to kick-start the economy by clearing large infrastructure projects and speeding up implementation. That is the only real way to boost production and sales in core areas. Pradip Shah, the former Managing Director of CRISIL has made a persuasive case for cutting excise duties. This too would be another right step and kick-start consumption. Finally, instead of lending to industrialists and investors, banks themselves should turn buyers.

However, in order to avoid another unholy collusion with market operators and brokers, they should have stringent guidelines for stock picking. They alone have the holding capacity for a medium term investment; and with prices of blue chip or even the Nifty 50 stocks hitting an eight-year low; risk-reward equation is fairly positive. The move will also go a long way in reviving market sentiment.


-- Sucheta Dalal



 



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