All you wanted to know about illiquid stocks

SEBI Chairman UK Sinha’s statement last week on delisting 4,200 stocks from exchanges once again throws the spotlight on the bevy of stocks that witnesses very little or no trading at all. With this spring cleaning, the regulator is aiming to rid the bourses of stocks that have languished without recording any trades for many years. But there is another group of stocks — illiquid stocks — that witness sparse trading and pose a greater risk to investors.

As the name suggests, illiquid stocks are those in which you cannot liquidate your investments that easily. Essentially these are stocks in which investors cannot find ready buyers because of their limited trading. As per SEBI’s directions, the exchanges are required to draw up a list of illiquid securities, based on a criteria jointly agreed with SEBI, and make it available to the trading members on a quarterly basis.

There are 374 illiquid stocks on the BSE based on trading activity during the quarter Jan-March of 2016. These stocks include Computer Point, Ennore Coke, Film City Media, Gravity India, India Cements Capital, Khaitan (India), Net 4 India, Quintegra Solutions, Radaan Mediaworks India, Simplex Papers, Sawaraj Automotives, Usha Martin Education & Solutions, Visu International, Winsome Diamonds and Jewellery and Zenith Computers. Most of these stocks are penny stocks, trading way below their face values.

If you own one of the illiquid stocks listed in any of the exchanges, chances are that you have to sell your holdings for a price that is considerably lower than the already abysmal current market price. For instance, Net 4 India is quoting at a price of ₹2.4 on the BSE (way below its face value of ₹10). The average quantity traded in the last three months ranges from as low as 4 to 2000. There are no buyers for the stock at the moment. If you decide to put up 1000 shares you own, on the block, even if you find a buyer, you may have to take a steep cut on the price that is quoted on the exchange.

There is another, (positive if you may) side to this as well. These stocks can rally sharply if investors suddenly start taking note of the stock. Price can shoot up phenomenally on good buying interest. It is for this reason that many investors cling on to their penny stocks, in hope that a lucky streak can help wipe some of the past losses.

It is not without reason that SEBI has time and again cautioned investors about such stocks. Illiquid stocks, given their limited trading, are vulnerable to manipulation and malpractices that can lead to abnormally high gains for a set of market players at the cost of uninformed retail investors.

As sudden large trades can cause sharp gyrations in the stock price, few market players can use this to their benefit. SEBI has been introducing a lot of measures in the past as well to curb such malpractices in illiquid stocks. In 2013, for instance, it introduced the concept of call auction system to curtail market manipulation in illiquid stocks.

In January, SEBI allowed owners of small companies, where trading had been less than 10 percent of the total shares in the previous 12 months, to take them private.

Remember, while more than 5,400 companies are listed on the BSE, the top 500 make up 95 per cent of the total market value. It is best to stay clear of illiquid stocks that can cause a lot of heartburn, with no hard cash to show for.

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