Stock market gains are powered by information as much as money and leverage. Regulators all across the globe are struggling to narrow the information gap that exists between well-funded institutional investors like mutual funds, pension funds, hedge funds, etc. and a common investor on street.
Ironically, this journey of a private limited company becoming a publicly listed one is a saga of 'information asymmetry' that gets created right at the beginning of this journey.
To get listed on the secondary (public) market, every private company needs to file a heavy dossier called the 'Red Herring Prospectus' to market regulator, in India's case SEBI.
On average a 'Red Herring Prospectus' contains 600 to 700 pages and gives an outline about the purpose of listing, balance sheet, earning statements for past three years, legal opinion on issue etc. If retail investors are curious to know key financial matrix and business model then they need to sniff through a heavy dossier which is full of technical and financial jargon with a garnishing of difficult-to-understand legal language.
Meanwhile, after filing the prospectus the company also knocks on the doors of institutional investors to present their roadshows. In this fancy named event, the company showcases a 25 to 30 slide presentation followed by a question-and-answer session. Who do you think would have a clearer picture of the company—a retail investor who seldom has the time to read bulky prospectus and lack of financial and legal understanding to decipher the prospectus or a highly paid analyst working for an institutional investor who also gets a chance to meet management one on one with a concise summary of companies in just 25 to 30 slides?
Once the company gets listed information becomes even more selectively available for retail investors. For instance, there is a practice of 'Corporate Access' which is like those grand movie premiers that can be entered by invitation only and invitations are never meant for the hoi polloi. No regulator ever gets to know what transpired behind the closed-door meeting between company management and institutional investors.
Speaking with Fortune India, a former lead analyst with a prominent foreign investment bank admits that 'Corporate Access' is a malaise that is skewing information in the favour of institutions.
"Why SEBI is allowing this practice where the brokerage house gets heavily paid for arranging Corporate Access and avoiding discussion of price-sensitive information is left at the mercy of good sense of both the meeting parties," he asks.
In Europe, a regulation called ‘Markets in Financial Instruments Directive’ has laid down rules for Corporate Access practices and Europe is slowly moving towards ending this practice. Why should India be behind, he asks. Though some time back Keki Mistry committee had laid some recommendations on this issue, were they implemented or not is anybody's guess, he says.
Things change from bad to worse during quarterly earnings. India has no rule regarding the issuance of annual guidance or timing of earning release or issuing profit alert statements. Even emerging market countries like South Africa, Brazil and China mandate a company to issue in advance a 'trading statement' or 'profit alert' if the company believes its quarterly earnings are volatile, in most cases over 15%. This practice ensures minimising of share price volatility on earnings day.
Why can't SEBI enact the same rule in India, is something that begs regulator attention? JN Gupta, founder of Stakeholders Empowerment Services, India's first non-profit corporate governance advisory firm says ‘competence and intentions’ are must for any change. “Though, in past 10 years SEBI has done a remarkable job of reducing gaps but if something goes wrong it has become fashionable to blame SEBI while other stakeholders like business associations namely FICCI, CII, ASSOCHAM etc do not demand exclusion of any company or member based on fraud or dishonesty,” he says.
Another person, who does not want to be quoted, says trading based on insider information puts many people behind bars in the U.S. and other countries. But in India, SEBI just impounds the gain. “How many people do you know who are behind bars due to insider trading in Indian markets?” he asks.
In countries such as the U.S., quarterly earnings are not allowed to be announced during market hours and companies are mandated to issue results before or after market hours trading. On the contrary, in India most of the companies announce quarterly earnings during market hours. Institutional investors with excellent resources are in a better position to analyse the results in a speedier way and engage in high-frequency trading while retail investors keep guessing and rely on what gets flashed on business channels. Quarterly result announcement during market hours creates 'Trading Asymmetry' in favour of Institutional investors. Such information and trading asymmetry ensure a bounty for hedge funds at the expense of common investors on street.