The Indian Stock Market
The capital market which includes the primary market (that deals with new issues of stocks and shares) also encompasses markets in which the securities that had been issued in the past are traded. These secondary markets are called stock markets or stock exchanges. A stock exchange has been defined by the Securities Contract Regulation Act, 1956 as follows:
It is an association, organization or body of individuals whether incorporated or not, established for the purpose of assisting, regulating and controlling business in buying, selling and dealing in securities. In brief, stock exchanges constitute a market where securities issued by the central and state governments, public bodies and joint stock companies are traded.1
The stock market primarily deals in stock or equity shares. They enable the shareholders to sell their holdings with ease, thereby ensuring liquidity Machiraju says ‘The secondary market enables investors to continuously rearrange their assets if they so desire by divesting themselves of such assets while others can use the surplus funds to acquire them. Any trade of share subsequent to its primary offering is called a secondary transaction.’2 The initial buyer in the primary market can offer the securities to any potential buyer at a price which is mutually satisfactory. The stock exchanges provide a forum where such mutually satisfactory prices are determined. They offer opportunities mainly for trading risk and boost liquidity. The Stock Exchange thus is a market place where shares change hands for a consideration. It is usually a building or a portion thereof where members of the Exchange, acting either as brokers or on their own, buy and sell shares, either as a ‘bull’ or a ‘bear.’ A bull in the stock exchange parlance is a participant who believes that share prices are on the rise and keeps buying to sell at a profit later. A charging bull lifts up the victim in real life; so is the bull in the stock market where the bull operator’s action of buying up shares causes buying pressure and pushes up the stock prices. Bears, on the other hand, cause a prolonged fall in the share prices, brought about by their action. Just as bears pull down their victims, so do stock bears push down the share prices.
An active secondary market is a prerequisite for the growth of primary market and capital formation. This is so because the investors in the primary market are sure that there is a continuous market for the stock they have invested in and can encash their investment in the stock exchange, in case there is a need for it. The participants in the secondary market are linked for trading in securities through formal trading rules and communication networks. Therefore, if the primary market creates long-term securities in stock and securities, the secondary market enables the participants to market those instruments and get the liquidity they need. Fresh capital issues by industry are very much influenced by the level and trend in the stock prices at the time of issue. Likewise, an active and vibrant stock market prompts the investors to invest larger amounts of funds in new issues that are on the anvil.
Origin in India
‘The stock market in India started functioning during the latter part of the 18th century. The security dealings in those days were actually transactions in loan securities of the East India Company, which was the most prominent corporate entity those days. Corporate stocks and shares came into being only by 1830’s.’ and became objects of commercial transactions with the passing of the Companies Act, 1850. The introduction of Limited Liability clause brought about the era of modern joint-stock companies.
Thus, the Indian stock market is one of the oldest in Asia dating back to 1830 when brokers were doing business in the East India Company’s loan securities. Around this time, the businesses on corporate stock and the shares in Bank and Cotton presses took place in Bombay (now Mumbai), where banks and merchants had recognized half a dozen brokers. By 1850, there was a rapid growth of commercial enterprises which attracted a large group of men dealing in shares. As a result, the number of brokers increased to 60 by 1860. The brokers who thrived after the American Civil War in 1874 had mostly settled in the place now known as Dalal Street where they used to assemble and transact business. In 1875, they formally established the ‘Native Share and Stock Brokers’ Association’ (which is alternatively known as ‘The Stock Exchange’). In 1895, the Stock Exchange acquired a premise in the same street and it was inaugurated in 1899. Thus, the Stock Exchange at Bombay was consolidated.3
The first ever stock exchange to be organized on modern lines was established in Bombay in 1875. The Calcutta and Madras stock exchanges were established in 1908 and Delhi in 1947. Presently, there are 24 stock exchanges in the country. Stock exchanges are of various types as follows: as many as 14 are organized as public-limited companies, 6 are limited by guarantees and 3 are voluntary non-profit-making organizations. In 2004, ‘the Securities Contract (Regulations) Act was amended through the promulgation of an ordinance to make corporatization and demutualization of stock exchanges mandatory.’4 Moreover, now as a matter of practice, the Securities Exchange Board of India (SEBI) requires broad uniformity in structure while granting recognition. The SEBI decided as early as in 1996 that for recognition to new stock exchanges, if considered necessary in public interest and that of trade, the applicant stock exchange would institute Online Screen-Based Trading and a Clearing House within six months of obtaining the recognition.
Organization and Members
Each stock exchange is managed by a governing body comprising a president, a vice-president, an executive director, elected directors and members representing the public and government. This body is responsible for the policy formulation and smooth working of the exchange. The day-to-day executive functions are carried out by the executive director or a secretary. In the day-to-day management, the governing board is assisted by a number of committees such as the Listing Committee, Arbitration Committee, Defaulters’ Committee, Admission Committee and so on. The governing board has the power to make rules and regulations in consultation with the government and members of the stock exchange.
Only members are eligible to enter into transactions on a stock exchange. A non-member can buy and sell securities only through a member broker. To become a member, one should satisfy the qualification prescribed by the stock exchange. Members can act as brokers and jobbers.
A broker is a commission agent who buys and sells securities on behalf of non-members, executes the orders of his clients and earns a commission from them. But a jobber is an independent dealer in securities who buys and sells securities in his own name and derives his income from the profit he made through the difference in prices. Unlike a broker, a jobber cannot enter into contracts with the non-members. Thus, ‘a broker is a general practitioner working for commission while a jobber is a specialist dealing in certain types of securities. Broker’s commission is usually fixed whereas the profit of the jobber (jobber’s turn) is variable and uncertain.’5
A stock exchange performs the following functions:
- Provides a ready market for buying and selling securities: Stock exchange offers a ready and continuous market in which investors can convert their money into securities and securities into money with ease and without any loss of time. Regular transactions in securities provide liquidity and price continuity to investment in securities. A stock exchange being an organized market facilitates the transfer of ownership of securities and thereby, reduces the risk of investors. Besides, a stock exchange provides a convenient meeting place for buyers and sellers of securities.
- Evaluates securities: Stock exchanges help in the proper evaluation of securities that are traded. They also facilitate in determining the prices of various securities that reflect their actual worth. It enables a correct appraisal of securities through the market forces, namely, demand and supply. Regular transactions by investors and speculators smoothen out the uncalled for fluctuations in the stock prices. The prices at which the transactions take place are recorded and published in the form of market quotations by the respective stock exchange itself.
- Protects investors: Stock exchanges ensure fair dealings and safety of funds due to the control exercised by the capital-market regulator SEBI on the working of stock exchanges. Government regulations in regard to the amount and procedure of trading, speculation and so on, help to reduce the exploitation of an unwary investor. By acting within the rules and regulations, the stock exchange, serves as the watch dog of the investors’ interest.
- Mobilizes savings: Stock exchanges are channels that help in mobilizing the surplus funds of individuals and institutions for investment in securities. Such funds may remain idle in the absence of the facility for a quick and profitable disposal of securities provided by stock exchanges. News channels and newspapers provide a free publicity of stock-exchange operations which promotes savings and investment.
- Facilitates capital formation: Stock exchanges not only facilitate mopping up but also tempt people to save and invest their money in industrial securities that provide high returns. It also channelizes the savings into the most productive and profitable channels. Stock exchanges help a rational allocation of available funds as investors prefer to invest in securities of companies that are showing better performance. Thus, stock exchanges not only facilitate capital formation in the country but also ensure canalization of capital into productive investment.
- Promotes corporate governance: Stock exchanges perform a very useful and ethical function in as much as they help investors to identify companies that follow internationally accepted corporate-governance practices. Investors are easily willing to reward the well-managed companies. Their shares are quoted high. A McKinsey survey pointed out that investors are ready to pay up to 18–20 higher premium to companies that follow corporate-governance practices. Tata Steel’s and Infosys’ shares are quoted high because of this market assessment only.
- Serves as an economic barometer: Since booms, depressions, recessions and other significant trade-related cyclical events affect the prices of securities, stock exchange is a very sensitive barometer of the business conditions in the country. Price trends on the stock exchange reflect the economic and, more importantly, the investment climate in the country. Stock exchanges are, thus, economic barometers which indicate the prevalent business situation in the country.
- Regulates company management: Stock exchanges exercise a healthy influence on the working and management of public-limited companies by making them submit to the rules and regulations framed by them, when they want to get their securities listed.
- Serves as a clearing house of information: A stock exchange also provides useful business information to investors and others. The Bombay Stock Exchange (BSE), for instance, publishes directories and journals which provide data on the corporate sector. Such information is very useful in business forecasting, corporate and industry analysis, and general business trends.
Deshmukh, the former Governor of RBI, observed:
‘The economic services which a well-constituted and efficiently run securities market can render to a country with a large private sector, operating under the normal incentives and impulses of private enterprise are considerable. In the first place, it is only an organized securities market which can provide sufficient marketability and price continuity for shares so necessary. (Secondly), through the interplay of demand for and supply of securities, a properly organized stock exchange assists in a reasonably correct evaluation of securities in terms of their real worth. Lastly, through such evaluation of securities, the stock exchange helps in the orderly flow of savings as between different types of competitive investments:’6
Table 42.1 portrays the overall growth pattern of Indian stock markets since independence. It is quite evident from the table that Indian stock markets have not only grown in the number of exchanges but also in the number of listed companies and in the capital of listed companies. The remarkable growth after 1985 can be clearly seen from the table, and this was due to the favourable government policies towards the security market.
Table 42.1 The Growth Pattern of the Indian Stock Market
However, the functioning of the stock exchanges in India suffered from many weaknesses such as long delays in the transfer of shares, issue of allotment letters, and refund; lack of transparency in procedures; and vulnerability to price rigging and insider trading. To counter these shortcomings and deficiencies and to regulate the capital market, the Government of India set up the SEBI in 1988. Initially, the SEBI was set up as a non-statutory body; but in January 1992, it was made a statutory body. The SEBI was authorized to regulate all the merchant banks on issue activity, lay guidelines, supervise and regulate the working of mutual funds, and oversee the working of stock exchanges in India. The SEBI, in consultation with the government, has taken a number of steps to introduce improved practices and greater transparency in the capital market in the interest of the investing public and the healthy development of the capital market.
The growth of traditional as well as the new types of stock exchanges is discussed in the following pages.
Traditional Stock Exchanges
Following the establishment of the BSE, several others came to be set up in the other major cities in India. After 1880, Ahmedabad which became the second most important city in the cotton-textile industry had rapidly grown. Many new mills that were established there felt the need for a separate stock exchange in their city. This was realized in 1884 when the brokers there floated the Ahmedabad Share and Stock Brokers’ Association. Calcutta which was the home of the jute industry in India was also developing fast when the industrial groups dealing in tea and coal set up their offices there in June 1908; and as a result, the leading brokers of the city launched The Calcutta Stock Exchange Association. In 1920, the Madras Stock Exchange was formed with 100 members, but, however, went out of existence after two years as the members were leaving it in droves, when their business bombed as a result of the fading of boom. Another entity called the Madras Stock Exchange Association (Pvt.) Ltd came to be established in 1937 with the rapid increase in textile and plantation companies in the southern states. In 1936, the Punjab Stock Exchange Limited was incorporated.
New Types of Stock Exchanges
Apart from the conventional stock exchanges which have been in existence for more than hundred years, a number of new types of stock exchanges have emerged in India as well as abroad taking into account the need for such institutions to trade in new products and services. Let us analyse some of them in the following pages.
Over-The-Counter Exchange of India
The traditional trading mechanism that prevailed in the Indian stock markets resulted in many functional deficiencies, such as absence of liquidity, lack of transparency, unduly long-settlement periods and benami transactions. This adversely affected the small investors and dented their confidence in the system. To provide improved services to investors, the country’s first ring-less, scrip-less electronic stock exchange—Over-The-Counter Exchange of India (OTCEI)—was established in 1992 by the country’s premier financial institutions. It was the joint effort of Unit Trust of India (UTI), Industrial Credit and Investment Corporation of India (ICICI), Industrial Development Bank of India (IDBI), SBI Capital Markets, Industrial Finance Corporation of India (IFCI), General Insurance Corporation (GIC) and its subsidiaries, and Canbank Financial Services.
‘OTC has a unique feature of trading compared to other traditional exchanges. That is, certificates of listed securities and initiated debentures are not traded at OTC. The original certificate will be safely with the custodian. But, a counter receipt is generated out at the counter which substitutes the share certificate and is used for all transactions. In the case of permitted securities, the system is similar to a traditional stock exchange. The difference is that the delivery and payment procedure will be completed within 14 days.’7
Compared to the traditional exchanges, OTC exchange network has the following advantages:
- It has a widely dispersed trading mechanism across the country providing a greater liquidity and lesser risk of intermediary charges.
- Screen-based, scripless trading offers a greater transparency and accuracy of prices.
- The investor gets to know the exact price at which they are trading as the exact price of the transaction is shown on the computer screen.
- Compared to other exchanges OTC has faster settlement and transfer process.
- The allotment procedure for new issues is completed in a month, and trading commences after a month of the issue closure in case of OTC, whereas other exchanges take a longer period for the same.
National Stock Exchange
Once the Indian economy was open and integrated with the global economy, it was found necessary to align the Indian stock-market trading system with the international standards. The National Stock Exchange (NSE) was incorporated in 1992 on the basis of the recommendations of the high-powered Pherwani Committee. The promoters were IDBI, ICICI, IFCI, all insurance corporations, selected commercial banks and so on.
‘Trading at NSE takes place through a fully automated screen-based trading mechanism which adopts the principle of an order-driven market. Trading members can stay at their offices and execute the trading, since they are linked through a communication network. The prices at which the buyer and seller are willing to transact will appear on the screen. When the prices match the transaction will be completed and a confirmation slip will be printed at the office of the trading member:’8
The NSE has the following advantages over the traditional trading exchanges:
- It brings an integrated stock-market trading network across the nation.
- Since the inter-market operations are streamlined along with the countrywide access to the securities, investors can trade at the same price from anywhere in the country.
- The usual deficiencies such as delays in communication, late payments and the malpractices found in the traditional trading mechanism can be eliminated. In NSE, there will be a greater operational efficiency and informational transparency in the stock-market operations, with the support of total computerized network.
Inter-connected Stock Exchange of India Ltd
Inter-connected Stock Exchange of India Limited (ISE) is a national-level stock exchange, providing trading, clearing, settlement, risk management and surveillance support to its trading members. It has 841 trading members who are located in 131 cities spread across 25 states. These intermediaries are administratively supported through the regional offices at Delhi, Kolkata, Patna, Ahmedabad, Coimbatore and Nagpur, besides Mumbai.9
ISE’s objectives are as follows:
- To create a single, integrated national-level solution with access to multiple markets by providing high cost-effective service to the investors across the country.
- To create a liquid, vibrant national-level market for all the listed companies in general, and small capital companies, in particular.
- To utilize optimally the existing infrastructure and other resources of participating stock exchanges, which are underutilized now.
- To provide a level-playing field to small trading members by offering opportunity to participate in a national market for investment-oriented business.
- To provide clearing and settlement facilities to the trading members across the country at their doorstep in a decentralized mode.
- To spread demat trading across the country.10
ISE Securities & Services Limited
ISE Securities & Services Limited (ISS) is a wholly owned subsidiary of the ISE. SEBI’s policy for ‘Revival of Small Stock Exchanges’ permits a stock exchange to float a subsidiary, which can take up the membership of larger stock exchanges, such as NSE and BSE. ISS has been registered by the SEBI as a trading-cum-clearing member in the capital-market segment and futures and options segment of the NSE and capital-market segment of BSE. Trading members of the ISE can access NSE and BSE by registering themselves as sub-brokers of ISS. Thus, the trading intermediaries of the ISS can access other markets in addition to the ISE market. ISS thus provides the investors in smaller cities, as a one-stop solution for cost-effective and efficient trading and settlement services in securities.
Apart from the stock-trading function, ISE’s depository participant (DP) services cover intermediaries and investors at the industry-leading prices. The full suite of DP services is offered using online software, accessible through multiple connectivity modes-leased lines, VSATs and Internet. Operation of the demat account by a client requires just a few mouse clicks.
A research cell has been established with the objective of carrying out quality research on various facets of the Indian financial system in general, and the capital market, in particular.
Multi Commodity Exchange of India Ltd
Multi Commodity Exchange of India Ltd (MCX) is a state-of-the-art, nationwide online, multi- commodity futures exchange. MCX is India’s premier commodities-futures exchange providing an active market place for more than 50 commodities. Major shareholders of MCX are Financial Technologies (I) Ltd (FTL), State Bank of India (SBI) and its associates, National Bank for Agriculture and Rural Development (NABARD), NSE, Fid Fund (Mauritius) Ltd, an affiliate of Fidelity International, Corporation Bank, Union Bank of India (UBI), Canara Bank, Batik of India, Bank of Baroda, HDFC Bank and SBI Life Insurance Co. Ltd. With its headquarters in Mumbai, MCX leads an experienced team in the commodity-futures markets. MCX has grown rapidly by transcending the regional boundaries, by striking strategic global alliances and by initiating many fronts in the commodity-futures markets.
The MCX is ranked among the world’s top-10 commodity-futures exchange in 2007. It is also ranked no. 1 in silver, no. 2 in natural gas and no. 3 in gold, crude oil, and copper futures trading globally. In addition to being accredited with ISO 9001:2000 for quality management, MCX has achieved the ISO 27001:2005 certification, the global benchmark for information security systems,
‘MCX operates from over 600 cities with over 1,900 members and more than 52,000 trading stations with connectivity through VSAT, Internet, leased line, CTCL, etc., A total of over 50 globally benchmarked and domestic commodities are traded on MCX with an average daily turnover of over INR.18,000 billion. MCX has recorded a market share of over 85 per cent during the first quarter of financial year 2008–09.
In a short span of five years, MCX has redefined the Indian commodity market and provided the Indian economy and the market participants with numerous benefits. MCX is amongst the fastest growing exchanges in the world and has strategic alliances with NYMEX, LME, TOCOM, NYSE Euronext, CCX, SHFE, and others.’11
MCX-SX is a subsidiary of MCX and operates under the regulatory framework of SEBI and Reserve Bank of India. It was inaugurated on 6 October, 2008 and went live the next day. It draws its strength from India’s no. 1 commodity exchange, MCX. As a 51 per cent stakeholder in MCX-SX, MCX adds value to the business of MCX-SX by bringing in the actual users of commodities to hedge their currency exposure on MCX-SX’s nationwide electronic-trading platform.
MCX-SX provides a host of benefits to a wide range of financial-market participants, including hedgers (i.e., exporters, importers, corporates, and banks), investors and arbitrageurs.
- Hedgers: MCX-SX provides a high-liquidity platform for hedging against the effects of unfavourable fluctuations in foreign-exchange rates. Banks, importers, exporters and corporates can hedge on MCX-SX at low entry and exit costs.
- Investors: All those interested in taking a view on appreciation (or depreciation) of exchange rate in the long- and short-term can participate in the MCX-SX currency futures. For example, if one expects a depreciation of Indian rupee against the US dollar, then one can hold on long (buy) position in the USD/ INR contract for returns. Contrarily, one can sell the contract if they see an appreciation of the Indian rupee.
- Arbitrageurs: Arbitrageurs get an opportunity to trade in the interest-rate differentials of respective currencies implied from the currency futures.
Stock markets in India have grown by leaps and bounds in terms of the number of listed companies, market capitalization, price indices and turnover on stock exchanges. There were only 7811 listed companies in 1993–94 all over India, which has now exceeded 10,000. The market capitalization of listed companies that amounted to INR 4000.77 billion in 1993–94 has more than doubled to INR 11,926.30 billion in 1999–2000 and the bull run in April 2009 in the aftermath of the UPA victory has added more than INR 1000 billion per session between 18 May and 22 May 2009. Thus, on all parameters, Indian stock exchanges have done exceptionally well. However, the growth has not been uniform with all exchanges doing well. Out of the 24 stock exchanges in the country, the top 6 account for 99 per cent of turnover with BSE and NSE contributing the lion’s share of stock-market operations in the country. Another characteristic feature of the Indian stock market has been the volatility with which the market behaved, the sharpness of the swings on either side being very extreme on several occasions. Table 42.2 gives the basic details of the Indian stock exchanges in India.
Table 42.2 Basic Details of Indian Stock Exchanges
What are Sensex and Nifty?
Sensex is an index representing the top stocks of BSE, while Nifty represents the top stocks of the NSE. If the Sensex goes up, it means the prices of stocks of most of the major companies of the BSE have gone up and vice versa. So too is the case with Nifty’s stock prices which indicate their performance in the trading. Given below are some more details of both these indices:
Sensex is the most well-known and accurate barometer of the Indian stock markets. Internationally, it is one of the most widely recognized Indian brands. Obviously, it has to keep itself in tune with the constantly changing scenario, especially when it represents a market of more than 6300 scripts through a 30-stock composite.
Case 42.1 BSE Market Cap Touches USD One Trillion
The BSE’s market capitalization has touched a record of USD one trillion mark—a value close to the country’s GDP—riding on a renewed investor confidence and appreciating rupee. According to the information available with BSE, the combined market value of all firms listed on the bourse rose to INR 4,961,4.46 billion or over USD 1 trillion (calculated at an exchange rate of INR 46.83 for one USD). This represents a sharp gain of over two-fold from USD 485 billion or INR 24,102.56 billion on 27 October last year when the benchmark Sensex plunged to its 52-week low and the rupee was quoting at 49.74 against the greenback.
However, the gain is relatively lower in rupee terms as the local currency has strengthened against its US unit. The country’s gross domestic product (GDP) was over USD one trillion (about INR 50,000 billion) at the end of FY 2009, according to the Central Statistical Organization. The benchmark 30-share index Sensex has also made a steady recovery and has been on a gaining spree for the 12th consecutive week at the end of trade on the last week of May 2009. Besides the market capitalization, the NSE also touched a record of INR 43,222.61 billion (about USD 921.31 billion) at the end of May.
Indian Stocks: World’s Best performers
Likewise, Indian stocks have emerged as the best performers among those in the emerging and the developed markets across the globe, so far this year, giving investors the highest return of nearly 60 per cent, Indian stocks have even outperformed all the developed world markets covered by MCSI Barra.* When compared to the performance of Indian stocks, those in the United States and United Kingdom gave only 2.33 per cent and 10.17 per cent of returns, respectively, for this year (2009).
Source: Press Trust of India, ‘BSE Market Cap Touches $1 trillion’, The Hindu, 3 June, 2009, Mumbai, India.* Indian Stocks: World’s best performers, Rediff news, available online: http://us.rediff.com/business/slide-show/2009/jun/30/slide-show-1-indian-stocks-world-best- performers.htm
BSE Sensex, which is being calculated effective from 1 January 1986, is a value-weighted index comprising 30 largest and most actively traded stocks on the BSE representing various sectors of the Indian economy. These 30 companies roughly account for one-fifth of the market capitalization of the BSE. The base year of BSE Sensex is 1978–79 and its base value as on 1 April 1979 was 100. The BSE has to keep a close watch on its composition so that Sensex always represents the maximum market capitalization and the largest number of sectors.
‘Every once in a while there is a need to revamp the Sensex’s composition. And this raises numerous queries regarding the implication of any such alteration. Debates rage over whether a particular sector is getting more weightage or otherwise. Then there is talk of Sensex heavyweights that can be used to ‘manipulate’ the Sensex value.’12
Nifty is an index of the performance of the corporate entities listed in the NSE. It is an index of 50 major traded stocks weighted by market capitalization. A change in the Nifty index (up or down) indicates the trend in the majority of the stocks. Nifty accounts for 70 per cent of the total market capitalization.13 Nifty is a joint holding of the NSE and India Index Services and Products Limited (IISL).
With a shift to a free-floating market-cap computation of the NSE’s 50 share index, both Nifty and its rival BSE Sensex have now become more comparable.
Both indices will now be computed in the same way on the same basis of the market cap of shares which is readily available for trading. Market-cap methodology, the level of the index at any point in time reflects the free-floating market value of its components relative to the base period. The free-floating methodology is the more correct way to compute both the index as well as the weight of the individual stocks in the index. The ‘floating stock,’ is the true measure of what is available for trade.14
Services Rendered by Stock Exchanges
The stock market plays a crucial role in the financial system of a country. It performs several economic functions and extends incalculable services to different groups of people including investors, corporations and the economy as a whole. Some of the services they render are enumerated as follows:
- Liquidity and marketability of securities: Shareholders enjoy the privilege of converting their stocks into cash at the listed prices whenever they need it. Stock exchanges facilitate the process of buying and selling of shares at listed prices by providing marketability on a continuous basis to investors in respect of securities they hold or intend to do so. Thus, they create a ready outlet for dealing in securities.
- Supply of long-term funds: Stock market provides a forum for trading in securities that are both negotiable as well as transferable. Securities can, thus, be transferred from one investor to another interested investor through minimum formalities. From the company’s point of view, it is assured of long term of funds, even while one investor in it is substituted by another.
- Safety of funds: The strict rules and regulations that govern stock exchanges and the oversight of the market regulator SEBI ensure the safety of funds invested. Overtrading, unwarranted speculation and so on are avoided through the set of rules that exchanges follow. For instance, when the stock prices hit the roof in a single minute of transaction on 18 May 2009, the BSE stopped it so as to bring in a semblance of normalcy after the break was applied. Such regulated transactions in stock trading strengthen the confidence of investors and promote larger investments.
- Channelling of capital to profitable ventures: Stock-market-quoted prices of shares reflect the performance and profitability and even the ethical or the otherwise practices of companies. Funds tend to be attracted to the best-performing companies and thus, they move into profitable channels. ‘Stock exchanges function like a traffic signal, indicating a green light when certain fields offer the necessary inducement to attract capital and blazing a red light when the outlook for new investment is not attractive.’15
- Promotion of investment: Stock exchanges are conduits through which the savings of people are mopped up, channelled into capital formation, and invested into productive and remunerative enterprises. Stock exchanges thus help surplus and idle funds of individuals and institutions diverted to profitable and employment-generating ventures.
- Motivation for improved performance: The share prices quoted in the share market reflect the performance of companies. In the eyes of the public, these prices signify how well or badly the companies have been performing. Stock exchanges by providing a forum for this price quotation for the securities listed, gives the opportunity to the public to judge the companies’ performance. Such a public exposure makes a company itself conscious of its status in the market. Thus, the stock exchange provides the motivation to the company to improve its performance in future.
- Reflection of trade cycle: A stock market mirrors the prevailing economic situation immediately to all stakeholders so as to enable them initiate suitable actions for avoiding losses. The changing business conditions in the economy are instantly reflected on the stock exchanges. Booms and depressions are phases in the functioning of the economy with diverse consequences. Theses phases can be identified through the business dealings in the stock exchanges, and governments, in turn, can initiate appropriate monetary and fiscal policies to blunt the adverse effects on trade and business. These are called ‘economic stabilization measures’ that try to avert economic disasters such as depression, hyperinflation and so on.
- Marketing of new issues: When a company issues new shares, they will be readily acceptable to the investing public if they are listed on the stock exchanges. Listing on stock exchanges implies that the issue has been evaluated by the concerned authorities in the stock exchanges. The cost of underwriting of listed issues will be less. Public response to such new issues would be comparatively high. This is the reason as to why it is said that the stock market helps companies in the marketing of new issues.
- Stock exchanges reflect the maturity of a controlling stock market: Though India is a developing country with low industrialization and a well-developed stock market give outsiders a confidence on its performance and robust functioning of as economy.
- Miscellaneous services: A stock exchange renders many other miscellaneous services too. It supplies securities of various kinds with different maturities and yields. It helps the investors to diversify the risk by offering a larger portfolio of investment. By inculcating in people the habits of thrift and savings, it promotes capital formation. Stock exchanges also offer guidance to investors, especially in their choice of securities by proving them the daily quotes of prices of the listed securities and by publishing the trends of dealings on their floors. The stock exchange also enables the government and private companies to raise the much-needed resources by providing a ready market for the securities.
Listing of Securities
Listing of securities is the process whereby the securities (shares, debentures, bonds, units) of a company are listed in the official list of a recognized stock exchange for the purpose of trading. Every stock exchange maintains an official list of securities which can be purchased and sold on its floor. When a security is part of this list, it is said to be ‘listed.’
The Companies (Amendment) Act, 1988 has laid down that a company offers its shares or debentures for public subscription through which the issue of a prospect shall make an application to one or more recognized stock exchanges before such issue for permission for the shares or debentures intending to be so offered to be dealt in on the stock exchange or each such stock exchange. By this provision, listing has become mandatory in case of the public issue of shares. The SEBI has the power to prescribe such requirements as may be felt necessary or expedient with respect to the listing of a company’s securities on any recognized stock exchange.
A company which intends to get its securities listed on a stock exchange has to apply in the prescribed form. The specified documents and the listing fee must be submitted along with the application. Once the Board is satisfied that the company fulfils the criteria for listing and all the documents are in order, then the security is listed and an intimation is given to the company. The listed company has to fulfil its obligations under the agreement of listing.
Advantages of Listing
Listing of securities is beneficial both to the company as well as the investors in the following ways:
- Listing improves goodwill and standing of the company. Transactions in the listed securities are reported in the electronic media and newspapers and, therefore, listed companies get a wide publicity. It becomes easier for the company to sell new securities. Listing also helps to diversify the shareholding.
- A listed company is considered as a widely held company and as such enjoys certain advantages under the Income Tax Act.
- Stock exchanges submit quarterly financial results from the listed companies. These results are also published in newspapers. This helps the investors to get periodical reports on the financial health of a company they have invested in.
- An investor can be aware of the worth of his/her securities on a day-to-day basis as the prices of listed securities are reported in the newspapers.
- Listing ensures marketability and liquidity of securities.
- Listing provides considerable safeguards to investors regarding their holding of securities as stock exchanges exercise regulation and control on the listed companies.
- A listed security has a high collateral value for raising loans.
However, it should be admitted that listing does not guarantee the financial soundness of a company. It simply indicates that the company was legally incorporated and was solvent when its securities were listed with the concerned stock exchange.
Regulations and Control
There is a dire need to supervise and control the working of stock exchanges in the public interest due to the following reasons:
- To ensure that undesirable persons are not enrolled as members of the stock exchange.
- To have uniformity in the rules, regulations and the working of different stock exchanges in the country.
- To ensure unhealthy speculation and undesirable speculative practices such as option dealings, curb trading and cornering do not take place.
- To limit the number of stock exchanges in one region.
- To ensure margin regulations in order to restrict overtrading.
- To ensure proper listing requirements for different securities.
- To prevent monopolization of business by few persons at the stock exchange.
The Securities Contracts (Regulation) Act, 1956 exercises close supervision and control over stock exchanges. The main objective of the Act is ‘to establish unitary control over all the stock exchanges in India in order to make them really helpful for the economic development of the country.’16
The Act aims at:
- Empowering the central government to regulate the dealings and functioning of the stock exchanges in the country.
- Promoting healthy and orderly development of the stock market.
- Preventing unhealthy speculation and other undesirable activities in the stock exchanges.
- Protecting the interests of investors.
- Ensuring a reasonable uniformity in respect of the bye-laws and rules of different stock exchanges.
The main provisions of the Securities Contracts (Regulation) Act, 1956 empower the Government of India to:
- Grant recognition or withdraw recognition to any stock exchange.
- Approve the rules and bye-laws of stock exchanges.
- Direct a stock exchange to make or amend rules and bye-laws.
- Monitor the functioning of stock exchanges by calling for periodical returns and conducting enquiries wherever so warranted.
- Suspend the business of a stock exchange.
- Supersede the governing body of a stock exchange.
- Regulate the listing of securities on the stock exchanges.
The Securities and Exchange Board of India (SEBI)
With the growing number of investors dealing in securities and the increasing number of stock exchanges and multiplication of their operations, several malpractices, indulged in by companies, brokers, merchant bankers, investment consultants and others involved in the primary and secondary markets have come to the fore. The malpractices and unfair trading practices have been denting investors’ confidence. In order to safeguard the interests of the investors and in accordance with international practices, the Government of India constituted SEBI in April 1988. It is meant to be a supervisory body to regulate and promote the securities market in the country.
The SEBI was established with the following objectives:
- To promote transparency by the issuers of securities and to promote a market where they can raise funds at a low cost.
- To offer protection to the investors and ensure their rights and interests with a view to ensuring a steady flow of savings into the market.
- To regulate and develop a code of conduct and fair practices by intermediaries such as brokers, merchant bankers, and so on, with a view to making them competitive and professional.
In sum, the basic objectives of the SEBI are to protect the interests of investors in securities and to promote the development of and regulate the securities markets. The SEBI is also empowered to supervise, oversee and control the operations of the stock exchanges, the companies issuing securities and the intermediaries. It is, thus, designated as a ‘capital market regulator.
To carry out the objectives for which it was established, the SEBI is empowered to perform the following functions:
- Protective functions: In order to protect the common investor, the SEBI
- prohibits fraudulent and unfair trade practices such as price rigging and insider trading in stock exchanges;
- undertakes to educate investors;
- promotes fair practices and code of conduct in the securities market;
- investigates cases of malpractices and has powers to impose fines and imprisonment; and
- issues guidelines for preferential allotment of shares.
- Development functions: The SEBI carries out
- training intermediaries in stock market and
- development of capital markets through Internet trading, permitting stock exchanges to market/initial public offer (IPO) and making underwriting optional.
- Regulatory functions involve:
- prescription of rules and regulations for merchant bankers, underwriters and registrars;
- registration and regulation of stock brokers, sub-brokers, etc.;
- registration and regulation of the working of mutual funds;
- regulation of takeover of companies; and
- conducting enquiries and audits of stock exchanges.
A detailed study of SEBI is found in the chapter on the capital market.
Listed companies 611
Mutual funds 611
Primary capital market 607
Secondary market 607
Stock exchanges 607
Transfer of shares 611
Vulnerability to price rigging 611
42.1. What do you understand by a stock market? Discuss its function in an economy.
42.2. Discuss the evolution of stock market in India.
42.3. Distinguish between the traditional stork market and the new type of stock market. Bring out the basic difference you find between these two types of stock exchanges.
42.4. What are Sensex and Nifty? Is there any fundamental difference(s) between the two?
42.5. What is meant by Listing in the context of stock exchanges?
42.6. Write a detailed account of the SEBI, its functions and its role in ensuring corporate governance in Indian companies?
42.7. Critically examine the role of stock exchanges in the financial system of a country. Discuss the limitations from which the Indian stock market suffers from.
42.8. Discuss how the global financial meltdown and the UPA’s election victory swayed the investors’ sentiments to the extremes in the Indian capital market.
42.9. What is a stock market? What role does it play in the industrialization of the country?
42.10. Write a note on the rapid growth of stock markets in India. What are the deficiencies found in the Indian stock markets? What are your suggestions to improve them?
42.11. What are the new types of stock exchanges that have been started in India. Give details of any two of them.
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2. Machiraju, H. R. (2009), Working of Stock Exchanges in India (New Delhi: New Age International Publishers).
3. ‘Indian Capital Market: An Overview,’ http://www.yeahindia.com/c-indial.htm
4. Fernando, A. C. (2006), Corporate Governance, Principle, Practices and Policies (New Delhi: Pearson Education).
5. Quoted by Gupta B. (2005), Business Environment (New Delhi: Sultan Chand and Sons).
6. Maheshwari, R. P., Kapoor, N. D. and Bhushan, B. (1997), A Complete Course in ISC Commerce (New Delhi: Pitambar Publication Company).
7. ‘Indian Capital Market: An Overview,’ http://www.yeahindia.com/c-india1.htm
9. ‘Inter-connected Stock Exchange of India Ltd, http://www.iseindia.Com/Services/AboutUs.aspx
11. ‘MCX Stock Exchange Limited (MCX-SX),’ http://www.mcx-sx. Com/abt_us.htm
12. Patil, V. ‘Making Sense of the Sensex, Money Channel,’ http://in.rediff.com/money/2000/apr/26sspe.htm
13. Bhimani, S. ‘Mutual Fund and Stock Market Blog,’ http:// shabbir.in/what-is-nifty/
14. Editorial, ‘Nifty Fifty, Free Float Market Cap Index is Welcome,’ The Economic Times, 29 June 2009.
15. Gordon, E. and Natarajan, K. (1999), Capital Market in India (New Delhi: Himalaya Publishing House).
16. ‘The Securities Contracts (Regulation) Act, 1956,’ Department of Corporate Affairs, Government of India, New Delhi.
42.1. Biswal, P. C. and Kamaiah, B. (2001), ‘Stock Market Development in India:
42.2. Is There Any Trend Break?’ Economic and Political Weekly, 27 January, pp. 377–384.
42.3. Gupta, R. (1987), ‘Is Indian Capital Market Inefficient or Excessively Speculative?’ Vikalpa, 12(2): April–June: 21–28.
42.4. Mali, S. (2003), ‘Stock Market Development and Economic Growth: The Evidence from India,’ SEBI Bulletin, 1(3): 16–23.
42.5. Mookerjee, R. (1988), ‘The Stock Market and The Economy: The Indian Experience 1949–1981,’ Indian Economic Journal, 36(2) (October–December): 30–43.
42.6. Nagaraj, R. (1996), ‘India’s Capital Market Growth: Trends, Explanations and Evidence,’ Economic and Political Weekly, Special Number, September 1996, 2553–2563.
42.7. Pethe, A. and Kanik, A. (2000), ‘Do Indian Stock Markets Matter?: Stock Market Indices and Macro Economic Variables,’ Economic and Political Weekly, 35(5): 349–356.
42.8. Ross, L. (1996), ‘Stock Markets: A Spur to Economic Growth,’ Finance and Development, March 1996, http://www.imf.org/external/pubs/ft/fandd/1996/03/pdf/levine.pdf
42.9. Roy, M. K. (2001), ‘Stock Market in a Liberalized Economy: Indian Experiences,’ Economic and Political Weekly, 27 January 2001, pp. 367–376.
42.10. Stiglitz, J. (2000), ‘Capital Market Liberalization, Economic Growth, and Instability,’ World Development, 28(6) (June), 2000.
42.11. ____’Government, Financial Markets, and Economic Development,’ National Bureau of Economic Research (NBER), New York, Working Paper No. W3669, 1991,
42.12. Teweles, R. J., Bradley, E. S. and Teweles, T. M. (1992), Stock Market, sixth edition (New York NY: John Wiley & Sons).