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Are we giving up control of our capital markets?

Sunday, 3 December 2006 - 8:15pm IST
The bull is running amok. The Sensex gained 141 points, to end the week at 13844 and the Nifty gained 46 to end at 3997.

The bull is running amok. The Sensex gained 141 points, to end the week at 13844 and the Nifty gained 46 to end at 3997. The main contributors to the rise of Sensex were SBI (38 points of the 141), ITC (35) and Reliance (20). If one looks at cumulative weekly figures of net purchases, the foreign institutional investors (FIIs) were net buyers and domestic mutual fund net sellers. FIIs also seem to dominate the futures & options segment which we have, sadly, failed to develop. This is regrettable and to the detriment of our individual investor. With oodles of cash flowing in, and without the counterbalance of selling pressure in the absence of a well developed options market, to counter it, the markets are rising but becoming more susceptible to a sharper fall.

When the indigenously devised, and thus uniquely Indian, ‘badla’ system was scrapped in favour of the universally accepted and understood derivatives market, one was expecting options to be the instrument which individual investors could use as a hedging mechanism. However, there was no effort to develop it, hence quotes, even if available, are so illogical as to make a transaction unpromising. (The alternative, viz. the futures market, involves mark-to-market margins and are far riskier).

One of the reasons for its non development, is, perhaps, the way all transaction charges are being levied. Whether brokerage or service tax, STT or stamp duty (levied by the government) or turnover charge or transaction charge (levied by the exchange) it is levied on the strike price plus the cost of the option, which is ridiculous! What an investor pays is only the cost of the option and transaction charges ought to be levied on that. Grubbiness has never been a trait that develops business. The Department of Telecom found that out by initially charging an exorbitant licence fee, finding no growth in subscribers, and then changing to a revenue share.

The tax authorities are also myopic, differentiating, for tax purposes, what is investment (eligible for favourable tax treatment on capital gains and dividends) and what is speculation (not so eligible but attracting a higher rate). This is based on entirely subjective criteria on the whims of the assessing officer. Again, something that is hardly likely to be a step towards developing the market.

Individual investors are thus in a quandary when the market is rising. They have no sensible means of hedging themselves. One of the mutual fund houses has made an application to Securities and Exchanges Board of India (Sebi) for an ‘inverse’ fund, one that behaves in a mirror fashion to the underlying index. Sebi has not cleared it yet, perhaps on the (illogical) ground that the fund house is too small. It is small that begets innovation.

This is evident, too, in the manufacturing space. Although the government urges consumers to switch from petrol to CNG as a cleaner fuel, it has done absolutely zilch to ensure that manufacturers do, in fact, offer such vehicles. The risk attendant to such conversion thus vests with consumers, who go to a small garage to retrofit vehicles with a CNG kit. If manufacturers did not take the lead in meeting this felt need, the government ought to have mandated an offer. Now Ford, a small player in the domestic market, has taken the lead in launching its Ikon CNG, whilst industry leader Maruti, who ought to have assumed leadership, was complacent.

In big splash corporate news of interest, Bharti Enterprises has tied up with Wal-Mart for a joint venture in retail. Hindalco is bidding for an Afghan copper mine that has proven reserves of 220 million tonnes of copper, but would require a $1 bilion investment. RIL promises to bring piped gas into the kitchen at a price lower than (subsidised) LPG cylinder! This would be music to the ears of the finance minister as he could reduce part of the subsidy burden without being dubbed anti poor!

Among the IPOs being awaited is that of Cairn India, which is offering 328 million shares in the price band of Rs 160-190, after the issue of which Cairn UK would hold 69.5%. Petronas of Malaysia and some private investors like Videocon, have taken a pre IPO stake. The Rajasthan oil fields are expected to be quite productive.

NTPC is to invest Rs 27,000 crore in two mega projects totaling 8000 MW. Hindustan Construction is expecting its orders to more than double, from $ 2billion to $5 billion in two years.

The Indian market will continue to attract funds as it is one of the fastest growing economies (9.2% GDP growth), has a long history of capital markets, and has a large number of listed stocks for investors to choose from. However the market, like any other, must be sensibly developed. It is heartening to note that the government is mulling strict action against those who perpetrated the benami IPO scam. We have failed to popularise ‘exchange traded funds’ which have become so popular in the US that the world’s two largest funds (by assets under management) are both ETFs. So much so that it is in the Hong Kong market that Barclays has launched a highly traded ETF based on the Sensex!

The market is fuelled by oodles of cash and without a counterbalance of hedging/selling. Better to wait for an opportune time to buy, as the medium term outlook is good. A correction is highly likely in the coming week.


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