Stock markets across the world went through the roof on Friday, as the ban on short-selling in financial stocks sent the bears scurrying for cover. The squeeze on shorts was aided and abetted by reports that the US government would soon set up an asset management company (AMC) to take over the bad debts and dubious assets held with the banks.
The short-selling ban has faced a barrage of criticism from those who believe that this is nothing, but market manipulation by the government. But that has never prevented governments from going after short-sellers in times of crisis. For instance, during the Asian crisis, Malaysia and Hong Kong banned short sales. That isn’t all—Asian governments have sometimes directly intervened in the stock markets. In 1998, the Hong Kong Monetary Authority directly purchased stocks on the Hang Seng index; in late 2000, the South Korean government raised a huge sum from the domestic pension industry to set up a stock market stabilization fund; also in 2000, the government set up a large fund in Taiwan to stabilize stocks.
But you don’t have to look that far back—late last June, the Securities and Exchange Commission of Pakistan and the Karachi Stock Exchange banned short-selling, set up a fund to stabilize volatility and revised circuit-breakers so that a fall of 1% on the downside triggered them.
The problem is these measures provided only a temporary boost. They did little during the Asian crisis to halt the slide in the markets. In Pakistan, investors stoned the stock exchange less than a month after the market plummeted.
The AMC, however, is something that worked during the last housing bust in the US in the late 1980s, when the Resolution Trust Corp. (RTC) was formed. In fact, such public AMCs have been a regular feature of banking crises in other countries as well: examples include South Korea, Malaysia and Indonesia during the Asian crisis and in Sweden, France and Finland among the developed countries during the banking crises there.
Nevertheless, as experts have already started pointing out, several grey areas remain. What will be the price at which assets will be taken over? Do some of these assets have any value at all? What will be the fiscal cost?
For markets, while the central banks are willing to unleash a flood of liquidity, it will take time before the banks are in a position to pass on that liquidity and start lending anew. So, the underlying economic weakness persists. And finally, during the last housing bust in the US (one that didn’t have additional complications such as big banks collapsing), while there was an initial bounce after the government stepped in to resolve matters, it took two years before stock prices moved back above the level they were at when RTC was formed, although one reason for that could be the first Gulf War. The bottom line is that while a comprehensive bailout could improve sentiment and end the credit crisis, a recovery is going to take time.
Markets see another differential voting rights issue
Three is a trend. Or is it? Gujarat NRE Coke Ltd is the third company to have recently announced the issue of shares with differential voting rights (DVRs), following in the footsteps of Tata Motors Ltd and Pantaloon Retail (India) Ltd. Does this mean India will soon have a flourishing market for shares with DVRs.
Little Enthusiasm (Graphic)
That’s too early to say, since none of the said shares are available for trading yet. Based on what these companies have announced so far, the float of such shares will be relatively low, which some analysts feel will hamper liquidity. Still, there is a case for DVRs in India, since almost all non-promoter shareholders are interested only in the economic benefit of holding shares, rather than voting rights. Needless to say, it would take Indian investors some time to get acclimatized to the new product, and more firms may join the fray by issuing such shares depending on the initial response.
Coming back to the DVR issue by Gujarat NRE Coke, the proposed issue is almost exactly the opposite of what Tata Motors and Pantaloon Retail are set to issue. While these two companies are planning to issue shares with lower voting rights, Gujarat NRE Coke’s new shares (to be issued on a rights basis) will have higher voting rights.
The company’s shares now trade at about Rs66, but the DVR shares will be issued at a price of as high as Rs1,000. Given the huge premium, and no proportionate increase in economic interest, minority shareholders are expected to give up the right to subscribe to these shares. As a result, the promoter group will end up with all the DVRs and as a result its stake in the company is expected to rise to 51%, from the current level of 41%.
From a minority shareholder’s point of view, it’s a sort of a give-and-take offer. Because the promoter group would be buying shares at 15 times the current share price, the company will be able to raise funds with minimal dilution of their economic interest. The company is raising Rs105 crore through the DVR issue, which will dilute equity capital by just 0.22%. With ordinary voting rights, the company’s equity capital would have got diluted by 4.75%. On the other hand, voting rights of minority shareholders will come down from 59% to 49%. A hostile bid is almost ruled out, which will dilute any premium that was built into the company’s share price on hopes of being acquired. The company’s share price fell by 8% after the DVR issue was announced, but gained 8% the day after.
For now, investors seem to have concluded that the issue is neutral for minority shareholders.
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