That’s market behaviour, time to grow up

Yes, we need to strengthen the surveillance process when it comes to the obscure, liquid stocks. This must be done at all times, not just when the market is rising. However, we must remember that this is just a tiny part of the stock market.

The total market capitalisation of the 4,644 listed firms is Rs 23.1 trillion. The bulk of this—Rs.22.2 trillion—is in the 2,540 CMIE Cospi companies. These are the companies where trading takes place on at least 75 per cent of the days, where there is a modicum of liquidity. The remaining stocks, where problems might lie, account for just 3.8 per cent of the market capitalisation.

It is not the Indian market alone that has been rising. The world economy is on a strong upswing. Indian companies have experienced 14 consecutive quarters of powerful growth in profits.

Of 41 big countries, over the last year, only five have got returns of worse than 10 per cent. This suggests a strong positive global stock market. The BSE Sensex and Nifty rank 13, with roughly 50 per cent returns. The broad market, measured by the CMIE Cospi index is ranked ninth, with 61 per cent returns.

The P/E of Nifty is 15.93. In a week, the 2nd quarter will end. Earnings growth of at least 15 per cent will take place in the 2nd quarter. The Nifty P/E will then drop to 15.17. The broad-market P/E (Cospi) is at 16.94 and would drop to 16.4. Stock prices are higher primarily owing to solid earnings growth, not owing to starry expectations about the future.

The 1991/1992 scandal involved fraud in RBI, banks and the BSE, and it was a major national event. The biggest stocks, such as ACC or ICICI, were involved. In later years, problem areas have steadily shifted to smaller stocks, which are less important on the scale of the country.

Hence, the task of ferreting out scandals and focussing attention on them has become less important.

Given the weaknesses of SEBI in enforcement, there are certainly problems with the smallest stocks.

But we should not allow these to affect our minds about the big stocks, which are the ones that really matter. For liquid stocks, the front line of defence against market manipulation is not the regulator but the ordinary forces of speculation on the market. The international experience shows that for liquid stocks, it is the market which does the bulk of the policing against mispricing.

When stock prices go up, they do not have to come down. In fact, over the decades, stock prices go up rather dramatically. Similarly, it is wrong to claim that for stock prices to go up, ‘‘there has to be some new money that is buying shares.’’ Unlike markets for goods, asset prices respond to expectations. When speculators become more optimistic about the future, prices become higher, without requiring ‘‘new money’’ in the picture.

India has achieved world-class procedures on trading. What we now need is the human elements of a modern market economy.

We have to get used to the fact that prices fluctuate, from day to day, in response to the flow of news and changing expectations of speculators.

What we need to avoid is a hysterical response, of looking for “scams” and “crises” in every movement of market prices.