When elephants fight, the grass gets crushed…But it is not always that the grass is oblivious of the situation.
Why is short selling a bad word in the Indian market? Isn’t short selling in the world’s fourth-largest equity market a legitimate strategy that can bring about market efficiency and price discovery?
“It is legitimate, but unlike buying a security and booking profits – one is selling something which he doesn’t own and makes a profit when it moves down – which means others are losing – also, it’s widely believed that markets come down due to short selling (which is not true). So overall, it’s treated as a bad thing to do,” says Ambareesh Baliga, an Independent Market Analyst.
So why are we having a hue-an-cry about some players’ short-selling in the Indian market?
First, the structure of the Indian market and the mindset of all stakeholders, including the regulators, the policy makers, the government contribute to the negative perception of short-selling. Our derivative market’s structure necessitates squaring off positions at the end of every expiry, including short covering before the start of the new month’s contract. This construct and mindset imply that our market should always climb higher, a belief that isn’t necessarily wrong, but neither fully right.
Being a capital-starved economy for decades…yeh dil maange more now. Is this the present bull rally rationale? Promoters, including those of the PSUs are ecstatic to see their market capitalisation scaling new heights. Rising m-cap also makes it easy for India Inc. and the entrepreneurial promoters to raise money and expand their business enterprises. It’s psychological as well as, in some ways, a practical comfort zone.
Data indicates that one in 10 makes money in F&O, but here, too, money is mainly made by selling. The strategy isn’t a win-win, but it helps reduce losses if the trades go wrong. At least it gives them another day to live. Inculcating day trade spends for tiny individuals across retail and HNI segments, helps distribution of the losses across many, while a few benefits big time from such trades. SEBI has done its bit, but much more concrete steps remain to be done.
The surge in participation, still low, has not been less than a fairy tale for the Indian equity market, especially since the pandemic of 2020. The amount of money coming through SIP has brought the retail investor to the forefront compared to the dominance of FIIs that had driven the Indian market until the last decade. Therefore, it is evident that regulators should have sleepless nights, given domestic investor liquidity is driving up valuations of listed company as the volume of listed companies to investors remain restricted.
Given the emerging trend of global high interest rates, its also important to note that domestic inflation remains high, and equity as an investment asset class, generally tend to outdo other asset classes and protect investor capital to a large extent.
The primary concern is the potential systemic risk for the entire financial market. Short-selling not only shakes confidence but also dents economic and financial stability. While the banking system is currently the strongest in decades and there are no signs of froth building in the system, the majority of the world didn’t anticipate the Asian currency crisis or the global financial crisis. This underscores the potential impact of short-selling on the Indian financial market.
A decade back, the security market regulator, over an off-record chat, revealed that they (the government) are okay with no retail investors directly coming into the equity market. They were concerned about the aftermath of any untoward incident hitting the market, a concern that reflects their commitment to market stability.
Shorting is a natural balancing act for every market for stable and fair price discovery. Making headway’s to create fear amongst those who take short positions in every class should not be the goal for the regulator at these times. In fact, being neutral, mature and focusing on balance and long term sustained valuations for India is a paramount necessity. The end for achieving far price discovery is possible only when selling is equally encouraged as buying, especially in proven bull markets like now in India.
The rich valuations of the Indian equities versus its global peers ask us to question on the following points:
- Will India be able to attract foreign investments at abnormally consistently high valuations?
- Has the market factored the risks related to business concentration amongst few participants?
- High fiscal deficit has begun to affect currency value for India. Are we ready to make the currency free, like China, Japan or other nations and test the Indian economy strength in a now multi polar world?
- Lastly, can the froth of ill-intentioned business entrepreneurs be controlled to avoid the loss for the retail investors, who lack a say on many vital company and economic issues?
“In a market, you need various types of players to provide the depth and natural price discovery.”
Ambareesh Baliga
The current buzz around short-selling could be a natural progression of price discovery or a power struggle for the top spot in the market-cap pecking order. The uncertainty of this impact keeps us all intrigued and engaged in the market dynamics.