The Indian stock markets are in the fifth year of a bull run, giving an annualized return of 38% since 2003. Unlike the previous bull runs in the Indian stock markets, which were followed by one scam or the other, this rally has been drawn purely on the fundamental story of the Indian economy.
So one would imagine that the number of people investing in the stock markets would be significantly higher and that the number of demat (dematerialized) account holders in India would also be large. But the Invest India Incomes and Savings Survey 2007 by IIMS Dataworks, a retail finance research firm based in the Delhi suburb of Noida, shows that the number of demat account holders forms a very small proportion of the total working population.
The first-of-its-kind survey, which profiles demat account holders in the country according to their profession, income, age group and investing habits, reveals that only 5.8 million out of 321 million salaried individuals, or 1.81%, in the age group of 18-59 years, hold a demat account.
A demat account is a type of banking account that dematerializes paper-based, physical shares. The account is used to do away with holding physical shares, which are bought and sold through a stock broker.
The Securities and Exchange Board of India (Sebi) requires a demat account for all share trading.
In January 2007, it became mandatory for any person holding a demat account to possess a permanent account number (PAN).
But that doesn’t mean all these demat account holders have stocks in their portfolio or are regular investors in the stock markets. Of the 5.8 million demat account holders, just half of them are currently investing in stock markets. Indeed, there are a lot of investors who would have opened accounts for transfer of physical share certificates into the demat mode so that they can cash their investments in shares. One cannot trade in physical share certificates anymore. Therefore, these investors may not necessarily be active in stock markets. In addition, banks offer demat accounts as a free service to their customers, even if these customers do not intend to invest in shares. So there could be inactive demat accounts because of this.
At the same time, the survey highlights the inclination of this set of investors towards insurance in their portfolios. Around 81% of survey respondents said that the annual insurance premium formed a part of their investment portfolio. Around 33% of them also said that they had invested in mutual funds, which could include both equity as well as debt-based products.
Bank deposits were a part of the portfolio for nearly one-fourth of demat account holders, while post office savings, which carry fixed and assured interest rates, was a feature only in 15% of portfolios.
The fact is that the demat system is yet to find its feet in the smaller towns, but its penetration across age groups, professions and income class is diverse. For instance, the survey states that out of 5.8 million demat account holders, nearly 25% are from the business class, while 34% are salaried employees working either for the public or the private sector. Interestingly, even shopkeepers comprise 13% of demat account holders.
In addition, most demat account holders are middle-aged—more than half of them are between 36 and 50 years of age.
The younger generation, in the age group of 26-35 years, accounts for one-fourth of the total demat account holders.
As more and more companies have tapped the stock markets to raise money, the boom in the initial public offering (IPO) market also has attracted a lot of investors. “The primary market is a gateway for a large number of investors who want to enter the stock markets for the first time,” says Prithvi Haldea, managing director, Prime Database, a New Delhi-based firm that tracks the primary capital market. Haldea says it’s the younger generation of salaried professionals, who primarily work in information technology services such as business process outsourcing, who would be the new entrants in the demat system.
“Besides higher disposable income, this category of investors isn’t bothered about the past scams of the stock markets,” he adds.
What should raise a red flag for regulators and policymakers is the low penetration level of the demat system—67% of these account holders live in big metros and tier-1 towns. Those from rural areas account for just 21% of this pie. C.B. Bhave, chairman and managing director, National Securities Depository Ltd, India’s first and largest depository, based in Mumbai, acknowledges there is a need to bring more investors into the system. “We believe that there is still untapped market,” Bhave says. “There are a large number of investors who still own shares in physical form. Since they don’t intend to trade or sell, they don’t feel the need to enter the demat system.” The depository has been making efforts to educate investors as well as listed companies in the demat system.
Another reason for the low penetration of demat accounts is the cost structure. L.C. Gupta, market academician and former member of Sebi’s derivatives committee, had argued in a research paper written in 2003 that the small, long-term investors are finding the system expensive.
Over the past few years, the demat cost issue has been addressed to a large extent by Sebi. Haldea also suggests that the demat cost can be brought down if the listed companies bear the cost.
The way forward to increase demat penetration could also be found in the Securities Markets Infrastructure Leveraging Expert (SMILE)’s 2004 report. SMILE, which was formed by Sebi in 2004, in the report had suggested that mutual funds could be brought under the ambit of the demat system to bring in more investors. “The biggest concern of the industry today is the distribution cost,” says Krishnamurthy Vijayan, CEO, JPMorgan Asset Management India Pvt. Ltd, a Mumbai-based mutual fund company. “On an average, it takes Rs223 per year to service a mutual fund investor. So the demat system can certainly help us address this issue. But the downside risk of this new system is that ignorant people may perceive mutual funds as an initial public offering and may take it as a speculative investment.”
Considering that the mutual fund penetration in the country also is abysmally low with 5.3 million out of 321 million choosing this form of investment, the suggestions of the SMILE report could meet the twin objectives.