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Business Commentary/Dilip Thakore

Stock exchanges need to clean up their act

There is something radically wrong with the manner in which India's dozen or so stock exchanges and the stock market in general are functioning.

This is most tellingly indicated by the pervasive mood of gloom which surrounds the stock exchanges and the reluctant weariness with which lay citizens discuss stocks and share prices these days, if they discuss them at all.

This pervasive mood weariness is hardly surprising given the wild swings in share prices and stock market indices.

On May 27, on the eve of the presentation of the Union Budget, the Bombay Stock Exchange's Sensex ruled at 3777.19.

Quite obviously the stock market fraternity was as unimpressed with Union Finance Minister Yashwant Sinha's Budget proposals as was the media.

On June 2, the Sensex closed at 3642.68, continuing the slide to 3417.90 on June 5 and to 3292.33 (June 18). On one memorable day (June 16), the Sensex slid from 3120 to 2981.24 and rose again to close at 3163.41 at the end of the day.

Such swings of the Sensex would in normal circumstances be interpreted as evidence of a vigorous and lively stock market characterised by high volume trading.

But the reality is that most lay investors have been scared away from the stock exchanges and the fluctuations of the Sensex and other indices are now heavily influenced by the purchase and sale decisions of foreign and domestic financial institutions such as the Unit Trust of India, Life Insurance Corporation, General Insurance Corporation and foreign mutual and pension funds.

And the chilling contemporary reality is that in the aftermath of the nuclear tests and sanctions imposed upon India by the G-8 nations, the interest of foreign financial institutions in Indian corporate paper has waned.

The dramatic rally of the Sensex on June 16 was the consequence of hectic buying by domestic financial institutions, most of which are owned by the Union government and were patently acting at its behest.

In short, the June 16 rally was artificially created by the finance ministry, desperate to prop up the sagging image of the government following the directionless Budget.

This rally is likely to prove ephemeral because most politicians cutting across political parties do not quite understand the purpose of the stock market in the scheme of things, nor do they have the patience or inclination to try and understand. Deep down they tend to regard the stock exchanges as little more than gambling dens or slightly upmarket casinos.

But as usual politicians and bureaucrats, whose periodic ham-fisted initiatives to control and reform the bourses have compounded rather than resolved their problems, have got it wrong.

In capitalist and quasi-capitalist economies well-administered stock markets have the intrinsic potential to play a vital role in the economic development process.

Because the bourse is the arena in which business with great ideas but little capital can raise the finance to translate ideas into money-spinning and (usually) socially beneficial industrial and agriculture projects.

It is a telling commentary of the extent to which government and the stock market fraternity in post-Independence India have mismanaged the stock exchanges that 50 years after the nation's avowed tryst with destiny, the great majority of citizens continue to invest their savings in gold rather than in stocks and shares which could finance great enterprises for the common good.

The reasons why Indian stock exchanges remain narrow rather than broad-based markets are not difficult to fathom.

Despite the grassroots reality that this is a largely illiterate and quasi-literate nation, share application, purchase and transfer forms and procedures are complex and cumbersome.

Moreover the government has done little to police and mete out exemplary punishment to crooks and charlatans who use the bourses to swindle investors by promoting bogus, here-today-gone-tomorrow companies.

There are literally thousands of shell companies, stripped of all assets, listed on India's stock exchanges. How and why their promoters were allowed to fleece millions of investors by going public is one of the great mysteries of the failed Indian economic development effort. Equally mysterious is why not even one of these white collar criminals has been brought to book and sentenced to jail.

The loss of public faith in the stock markets is not entirely the fault of the omniscient mandarins of the economic and law ministries in New Delhi and the state capitals.

The stockbrokers' community which hitherto (until the Securities and Exchange Board of India was set up about a decade ago) controlled and administered the bourses greatly harmed investor confidence by making things easy for fly-by-night promoters to tap household sector savings by making airy promises with dubious objectives.

Brokers, bankers, lead managers and directors who lent their names to unsound projects had little fear of punishment. Promoters who cut and ran with investors's savings were merely delisted from the exchange which absolved the stock exchange authorities of all responsibility.

Since the creation of SEBI, the stock market is better regulated. However, this supervising authority has been constituted too late.

Because of slack government supervision and financial community irresponsibility, the primary market, which once attracted millions of investors to the stock exchanges, is almost completely dead.

Moreover the Indian economy sustains barely four venture capital funding companies (and even they function like banks rather than venture funding enterprises) against 29,000 venture capital companies in the US.

With the virtual killing of the primary market, the expectation of the economic ministries in New Delhi was that Indian and foreign mutual funds would attract household sector savings. But such is the volatility and mood swings of the stock market that even the expert managers employed by mutual fund companies haven't been able to read them. Currently almost all mutual fund companies's shares are quoted below par.

Contrary to popular opinion, this malaise is not a matter which affects only a few thousand stockbrokers and regular punters.

The misgovernment and instability which characterise the stock market is driving household and corporate savings away from the bourses and this phenomenon can torpedo the growth and development of the Indian economy.

The economic ministries and the financial community need to get their heads together and make a serious effort to simplify procedures, introduce transparency in the system and legislate watertight laws to punish those who abuse investors's trust. Though these worthies seem to be oblivious, the clock has struck high noon for India's floundering stock market.

Dilip Thakore