Will this be a game changer for Indian IPOs? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Will this be a game changer for Indian IPOs? 

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In this issue:
» The secret to riding multibaggers
» Financial inclusion should be India's priority
» A gold bank in the offing
» Govt to defer GAAR for 2 years
» ...and more!

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00:00  Chart of the day
Retail investors have been losing faith in India's IPO (initial public offering) market. Capital raised via IPOs in 2012 was the second lowest in a decade. There are good reasons for the growing distaste for IPOs. IPOs are often prone to wild swings in share prices on the day of listing. There have been cases of share price manipulation, resulting in huge losses to investors. On the whole, IPOs haven't made money for retail investors. Today's chart of the day shows the returns (till date) on some of the biggest Indian IPOs since 2007. It is clear that barring Coal India Ltd (CIL), all others have burnt holes in the pockets of retail investors.

Data source: Ace Equity and other sources
    *Price changes have been calculated on the basis of IPO price for retail investors (including discounts) and the closing price as of January 2, 2013

This trend has certainly worried the capital markets regulator Securities and Exchange Board of India (SEBI). In recent months, it has set up some new rules to curb share price manipulation at the time of listing. But a controversial regulation is in the offing which, if implemented, could be a game changer for the Indian IPO market.

As per an article in The Wall Street Journal, SEBI has proposed a rule that would mandate company promoters to refund small investors some part of the losses in case of sharp decline in stock prices. The refund would be given if the stock fell more than 20% from its issue price within three months of listing. This would be the case if the overall stock market was either stable or rising. However, in case the broad market was also declining, then the refund would apply if the stock lost 20% more than the market. Further, the company's promoters would have to buy back the investors' shares with their own money. They would not be allowed to use the company's resources.

Now, the big question is- Will this rule really make investing safer for retail investors? We are a bit sceptical. For one, the idea of refunds betrays the entire essence of equity investing. What we are trying to say is what will the SEBI do if tomorrow there is a demand for this provision to be included for any stock that a retail investor buys and not just IPO? We mean stock market is not a place where you can compensate a person for the losses that he makes. This is pretty much akin to compensating a person if he has failed in some business venture. And this as we know hardly makes any economic sense.

But this is not the only reason we think the refund idea would be a failure. SEBI Chairman Mr U K Sinha has said that the refunds would be capped at 5% of the IPO's total size. A shady promoter who wants to dump his shares in the market wouldn't mind that small penalty. On the other hand, the proposed refunds could make genuine market participants shy away from the IPO market because there are several risk factors that could drive down stock prices in a 3 month time frame.

Instead of giving refunds, the best any regulator can do is ensuring symmetric flow of information to everyone and impose strict punishment on wrongdoers. Investment bankers and rating agencies that are often privy to inside information should be made more accountable. Only then can the interests of investors be really safeguarded we believe.

Do you think giving IPO refunds to small investors is a good idea? Share your comments with us or post your views on Facebook page / Google+ page

Sample this. From its lowest point somewhere in the mid-90s, the BSE-Sensex is up 10 times. In other words, it has been a 10-bagger. Now, you wouldn't be surprised to know that several stocks out there have would have massively outperformed the BSE-Sensex. After all, is it not uncommon for stocks to turn 40-50 baggers over a period close to two decades? But what about mutual funds? Can they also give equally strong returns? They certainly can if a study by a leading business daily is believed.

As per the study, quite a few funds that started operations in the mid-90s have outperformed the Sensex in a big way. In fact, they have given returns that could easily rival stocks, starting from being 20-baggers to as high as 40-50 baggers.

What is the biggest lesson that one can take home from this study? Well, you don't have to be an ace stock picker to earn very strong returns if you stay invested for the long term. Yes, you have to do your due diligence in terms of the philosophy that the underlying mutual fund follows and its long term track record. But once you take care of these simple issues, attractive long term returns could be yours for the taking. And that too without the fuss that usually accompanies individual stock picking.

Indian government has always had a problem in terms of getting its priorities right. It is no different when it comes to passing reforms. New banking licenses may be a good trigger to up investor sentiments. But should this be the focus of banking reforms, if any Indian banking sector has multiples objectives to fulfill. These include consolidation, better margins, good asset quality and financial inclusion.

But what should be the priority at the moment? An article in Economic Times citing the opinion of an IIM Professor vouches for financial inclusion. Now, many experts have justified the need for consolidation in the fragmented banking sector. Especially to allow banks to be viable as also merge the weaker entities with stronger ones. Operational costs of Indian banks as a percentage of assets have fallen by nearly 1% since 1997. The net interest margin has remained at close to 3% of assets for most of the post-reform period. The improvement hereon will depend on market dynamics rather than just competition.

Meanwhile, a focus on inclusion would coincide with the introduction of direct cash transfers. No doubt the same will offer banks more CASA float. As also potential improvement in net interest margins. Hence we do agree that financial inclusion rather than more banking licenses should be the focus of banking reforms. But it goes without saying that sufficient due diligence is paramount. Both in issuing more branch licenses (financial inclusion) and more banking licenses.

Generally, when we think of a bank, the picture that comes to mind is a place where you deposit money and withdraw it. It is also a place where you can go to for your financing needs. In modern times, the banks have become more complex. They offer a huge gamut of services including wealth management, securities trading, etc. And they range from offering specialised services to more generalised services. But imagine if you could now have a bank that dealt only in gold?

A working group of the Reserve Bank of India (RBI) has suggested this. The gold corporation or the gold bank could be a refinancing option for financial institutions that lend against gold. The bank could also be empowered with decisions related to gold in the country. These could include gold policies, official gold purchases, selling gold in the country, issuer of gold bonds, etc. It could also be made in charge of handling the country's gold reserves which stood at US$ 27.8 bn on December 21, 2012. The bottom-line is that the country could use an entity like a gold bank. Gold imports have been staggeringly high. Indians have traditionally loved gold. And with the economic uncertainty and volatility, people have turned to gold as a safe haven. This has contributed to our current account woes. Traditionally, RBI has taken care of our gold issues. But with high inflation and monetary issues the central bank does have its hands full. It would therefore be a welcome relief if it could set up an entity that could be entrusted with the responsibility of managing gold.

Implementation of General Anti Avoidance Rules (GAAR) was turning out to be a big headache for the government. Primarily because of dwindling growth. For economic revival, a dose of foreign capital was necessary. And GAAR was detrimental to that. Basically, GAAR was aimed to check tax evasion by entities that route money to India from overseas destinations. However, this created a fear in the mind of foreign investors. Certain retrospective tax amendments were uncongenial for them. Further, it was also believed that GAAR would give huge power to tax authorities. And this dampened sentiments of foreign investors. In fact, foreign institutional investors (FIIs) registration fell for the first time in a decade in 2012 because of such controversial tax laws.

As a result, government has finally decided to defer GAAR for two years. This is a positive sign for the inflow of foreign investments. We feel that the government had little choice but to defer this law. The Indian economy is reeling at sub 6% growth. And foreign investments are key to revive growth considering that there is very little room for fiscal expansion. Thus, the delay was inevitable. However, it remains to be seen to what extent the delay can boost foreign investments.

In the meanwhile after opening the day on a positive note, Indian equity markets continued to trade above the dotted line. At the time of writing, the BSE-Sensex was up by 31 points (0.2%). Among the stocks leading the gains were Dr Reddy's Laboratories and Reliance Industries Ltd. Most major Asian stock markets were trading in green led by stock markets in China and Indonesia.

04:50  Today's Investing Mantra
"An IPO is like a negotiated transaction - the seller chooses when to come public - and it's unlikely to be a time that's favourable to you." - Warren Buffett

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    15 Responses to "Will this be a game changer for Indian IPOs?"

    Ragini Ghanekar

    Jan 7, 2013

    It is true that when a person buys share he is taking risk of entrepreneur. But generally small investor are not experts. they rely on brokers, institutional or otherwise. they do not have resources or expertise to study all aspects of the IPOs. We have to find out what percentage of IPO amount is subscribed by retail investors. If it is a small percentage it is worth bringing this regulation to safeguard these investors at the expense of expert, manipulative and unscrupulous issuers.



    Jan 4, 2013

    It is strange how Indians keep trying to treat symptoms rather than the disease for decades. As any fool will tell you, it has been standard modus operandi for unethical promoters to set up companies, go to market and then vanish them after making siphoning the money. Whether it was tree plantations, time-shares, IT, infra - the method has remained shockingly the same.
    In face of repeated failure of MOCA to enforce corporate governance and strict audits, SEBI wants to save small investors - the aim is laudable, but hardly doable. What SEBI can do instead is check the DRHP's much more carefully than it does, to prevent shady groups from re-entering the market to dupe investors. It can also start a research subsidiary which shares its' research with the investing public to increase their confidence. That will go much longer than the proposal. Of course it does'nt sound as grand as the proposal, thats why it is'nt proposed.



    Jan 4, 2013

    I totally agree with SEBI's proposal


    HG Sharma

    Jan 4, 2013

    This is to be made a compulsory commitment by any IPO that , should the price after opening of the script falls below offered price the , the company shall be liable to buyback the script at base price plus double the deficit , at least up to a period of 6 months.This will be a great deterrent to fly by night companies and their pseudo valuers.



    Jan 4, 2013

    yes, SEBI's proposal is welcome. Refund should be done rather than any punishment.It is not difficult. SEBI had done it early.



    Jan 3, 2013

    Pricing of IPO has to be controlled, earlier in India, cci, was controlling, this types of fancy pricing is not possible, SEBI has to control the IPO pricing mechanisam


    Avinash Mehrotra

    Jan 3, 2013

    The problem is that SEBI is trying to "protect" the investor. This is leading the investor to become even more unprotected and at risk. SEBI's job is to provide a level playing field, and to ensure that the field remains levelled. When the IPO lists and falls the IPO investors loose, but the buyers at that lower price are buying because they still expect to gain. If this gain is not usurped by market makers and price-riggers.

    Half the IPOs take a shock on listing because the price-riggers push it down. Why else would it get subscribed in the first place?

    Like (1)

    Jose Mathew

    Jan 3, 2013

    It will not. Investors lost their faith in SEBI itself because of its inaction/improper action. Investor complaints to SEBI against Rouge promoters and brokers left unattended or not properly attended. For example SEBI and DCA simply ignored my strong complaint with proof against companies like Padmini Polymers, Dataline and Research Tech (DART), ACE Laboratories LTD, Indusmin Foods Ltd, Gem Eyeadorns Ltd, dated November / December 2004 and similarly My complaint against Mumbai broker M/s Latin Mnoharlal ( BSE arbitration Ref No. 9 of 2000). BSE even added a new regulation, Regulation no. !5.28, to protect this powerful broker. My compaint against this also ignored by SEBi. I surrendered to my fate after figting long 8 years. I am sure there are thousands small investors like who are affected similarly. So it is not easy to bring back investors faith in SEBI itself.

    Like (1)


    Jan 3, 2013

    Bring back the Controller of Capital Issues (CCI). The problem of overpricing started after its abolition. People made money in those days because CCI allowed only a fair premium for existing companies and none for new ones. Freedom has been misused hurting the sentiment and the interests of the investors. Something like CCI should be in place soon. Investor protection is important for the long-term growth of the market.

    Like (1)

    cherian varghese

    Jan 3, 2013

    Promoters will hold-on the price until 90 days, and on the 91st it would crash. It is as simple as that. When SEBI guys take bribe and do such things, who could do what! Actually, what the SEBI guys could do since its inception, other than taking bribe during their tenure and help the thieves. When the first Mutual Fund IPO collected over 100 times of its original subscription, who in SEBI or Central Finance Ministry permitted them to retain all the money they have collected? With that money, they recouped all their losses made in India till that date with the poor investors' money, and they purchased out over 55% of the INFOSYS Shareholding. Since very long time, the Share Market has become the 'thieves paradise', and any authority connected therewith would make money for their 10 more generations without knowing the truth that after 5 years what would happen to this world! Any idiot could trigger a nuclear weapon, and that is it. Now, the answer is to PUNISH ALL WRONG-DOERS, which is not happening in India, just because the 'Punishers' are the 'wrong-doers' and no one else.

    Like (1)
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