labels: finance - general, investment - general, banks & institutions
Stocks you cannot bank onnews
Uday Chatterjee
07 June 2003

Mumbai: It is said that stock markets the world over are driven by fear and greed. Investors, when driven by fear, sell stocks and when driven by greed, they buy stocks. The catalysts who fan these basic instincts of the investors are the operators.

India, too, is no exception to this adage and the stock scams of the recent and not-so-recent past, where the operators drove the markets to frenzied heights and then to a crash, go to prove the point. Unfortunately, at the end of all these scams, it is the small investor who ends up burning his fingers.

At the moment, we are witnessing a frenzy in the public sector bank (PSB) stocks, which could lead to another crises and what is happening needs to be looked at closely. But first lets take a look at how the operators manipulate the markets. The modus operandi is called circular trading, which works as follows:

A bunch of operators decide that a particular sector, say PSB stocks, are ripe for manipulation. Operator A buys a PSB stock from the market at say Rs 95. He sells this stock to his co-conspirator-operator B for Rs 100. B then sells the stock to co-conspirator-operator C for Rs 105. C then sells the stock back to A for Rs 110. This circular trading goes on which brings about a rise in the price of the stock.

Enter the small investor, who buys the stock at Rs 110 hoping to benefit from the rise in the price of the stock. The stock price rises in the same pattern to Rs 130. At this time the operators decide to dump the stock. The price of the stock starts falling and in no time it comes down to the original level of Rs 95. The small investor is left holding the stock he had bought at Rs 110. Now, he can either sell the stock at Rs 95 or pray for divine intervention for the stock price to rise.

Simplistic though it may sound, it does give a fair idea about how the markets are manipulated. Of course, a rise in the price of a stock is not enough to lure the investor. It has to come along with a story. A great story. A 'feel good' story that will brighten up the hopes of the investor. This brings us to the PSB stock story that started about six months back.

Earlier, PSB stocks were treated as pariahs in the stock markets. In December 2002 the Securitisation Act was passed, which enabled banks to seize their defaulters' assets and sell them without resorting to court action. This would mean that the default moneys could be realised faster. Since most of the default moneys lay with the PSB banks these banks would realise windfall profits.

Till date not much of money has been recovered under the Act as the actual recovery process is riddled with many other problems. The last year has seen an overall fall in interest rates. When interest rates fall, the yield of bonds rises. As nearly the entire set of players in the bond market consist of PSB banks, these banks made a killing from the rise in the yields. Their balance sheets showed huge treasury profits. Hence, buy.

The interest rates are at very low levels now and there is hardly any scope for the rates to come down further. Banks, therefore, are unlikely to reap the kind of treasury profits they did last year. Finally, in this year's budget, the government announced that it would swap the high-cost debts of PSB banks with low-cost debts. With this the PSBs are to gain by about Rs 8000-10,000 crore. Buy.

This resulted in a rally where the stock prices of almost all PSBs rose meteorically. To illustrate, Punjab National Bank (PNB), which in December 2002 was trading at around Rs 50, rose to Rs 170. Oriental Bank of Commerce gained by about 200 per cent and Bank of Baroda by about 125 per cent.

Then in May 2003 another development took place. Four PSBs announced that that they will return to the government the equity, which the government had given them earlier for strengthening their weak balance sheets. That would mean that the capital base of these banks would come down. Less capital base means more earnings per share and hence enhanced shareholder value. Buy! Buy! Buy!

In the midst of this frenzy someone wanted to know at what price would the equity be returned. The government said there is no plan to charge a premium on the capital returned by these banks. This brought more optimism in the markets.

Then, last week, the government made an about-turn and said that no decision has been made on the issue of charging premium on the capital to be returned to the banks. The heavens fell and the stocks crashed with PNB losing about 20 per cent while some other PSBs lost about 15-10 per cent.

And in the last weekend the small investor who had entered these PSB stocks was praying for divine intervention. Watch this space.

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Stocks you cannot bank on