The Hindu Business Line : Collateral damage

The stock market could not have greeted the completion of two years in office of the Congress-led United Progressive Alliance Government in a worse manner. The anniversary day saw trading being suspended for an hour as the Sensex fell 10 per cent. No doubt, on resumption of trading, the equity values staged a rally but they were still roughly 5 per cent lower than at the weekend. There may be some anxiety among a section of foreign institutional investors about what the current controversy over the reservation issue means to stability of the Government at the Centre. But any attempt at explaining away the turmoil in the market to the student agitation against quotas would be too facile. Nor can explanation be sought in the newfound belligerence of the Left to Government's economic policies.

It is now clear thatfor some time now intense selling pressure has been gathering in the market with brokers and their retail clients building up investments on borrowed funds in a rising market that has taken valuations to clearly unsustainable levels. In the ensuing correction in values, the loan collaterals registered shortfalls forcing lenders to liquidate the pledged shares, which accelerated the downslide in equity values. The Finance Minister corroborated this when he spoke to the media on Monday. What that also means is that even if he was right in castigating the media the other day for blowing out of proportion the purport of an income-tax draft circular, the crisis in the market cannot be dismissed as `manufactured'. For if that were indeed the case, the market should have gone back to a more stable condition on Monday and not descended to the chaos that ensued.

The market structure may withstand such bouts of speculative fervour in the sense that contracts entered into will be settled without default. That retail investors who had leveraged their modest investments to accumulate huge trade positions may end up losing their original wealth may also be dismissed as unavoidable in the risk-reward matrix of a market economy. But the question is whether the regulatory apparatus enables investors to make informed choices in the first place. It could be argued that investors may not make the kind of choices they do if they are made aware of the quantum of leveraged investments they as a class are making. Apart from some anecdotal information there is no regular dissemination of data on collaterised investment in the stock market. This needs to be addressed. Market volatility not only hurts investors but also extracts a premium on enterprises through higher cost of capital. That is not good news for the economy either.

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