Equity

At Yahoo: Market Interventions

I write at Yahoo on Market Interventions:

(Posted in entirety)

There were riots in Bangladesh on Monday when markets went down 9% in an hour. Stocks fell, presumably because their central bank decided to tighten down on bank exposure to equity, and the general index has been slowly sliding from December. It may sound unreasonable to have such an event create a loss of 9% in a single day — or indeed the 27% loss in a month that Dhaka saw — but it comes on the back of a 2010 that saw the index rise 95 percent. Now that fall doesn't seem quite as bad, does it?

Shaken by the public furore, Bangladesh's central bank instructed banks to please buy stocks — and as expected, their index rebounded by 15% on Tuesday. The idea is to never mess with a good thing, I guess.

Intervention doesn't always work. In 2008, Pakistan's stock markets fell about 43% and to somehow stop that, the authorities decided to set a floor price on the index; meaning, stocks couldn't go below a certain value. What happened then, was that the floor became a ceiling — stocks would simply not trade above that level. When the floor was removed in December 2008, stocks fell another 35% before they rebounded.

Short Take: Recovering from a Steep Loss is Tougher

Our latest Short Take is on how difficult it is to recover from a steep loss in a stock.

It's substantially more difficult to get back to "Break Even" when a stock falls by a lot. Deepak talks about why and what you might want to do to protect yourself.

  • When a stock falls a lot it takes that more effort to recover
  • The steeper the fall, the more effort you need
  • What you can do - stick with a stop loss
  • Or, if you've got a sinker, consider whether it is likely to perform better than other stocks.

Examples: DLF, Satyam, Media, Telecom stocks, 2007-2010.

(View the Video)

At Yahoo: Taking Stock of Commissions

I write at Yahoo! about Taking Stock of Commissions:

On May 1, 1975, fixed commissions were abolished on Wall Street. From an era of charging fixed commissions on a per-share or percentage basis, the model moved to "negotiated" commissions - charge anything they wanted. The day was called "Mayday" - an indication of the distress the industry felt about losing the profitability of cartelized price control. On October 27, 1986, the same thing happened in the UK, and the day was called the "Big Bang Day". Losing fixed commissions seems equivalent, in the industry, to Armageddon; but in both the cases above, after a brief hiatus, the UK and US have only benefited with the reform. They are now the largest markets in the world.

India has only started down this route - let's see where the primary investment avenues lie with respect to commissions.

Buying Shares

In India, stock broker commissions are not fixed, but they are strangely convoluted. When you buy a stock, you usually get charged a percentage of the trade value - that is, quantity multiplied by the share price, usually between 0.1% and 0.5%. And that's just brokerage. My contract note - a sheet that has everything that's charged to me for each trade - has all these additional charges:

  • Service tax and Cess: a 10.3% tax on the brokerage, paid to the government.
  • Securities Transaction Tax (STT) : 0.25% of the trade value, only applicable when I sell, goes to the government.
  • Stamp Duty, Turnover Charges: Regulatory fees payable to the state, exchange or SEBI, usually a percentage of trade value - about 0.004%. This is so small they might only quote it as "400 rupees per crore".

In addition, some brokers charge a demat fee of about Rs. 15 per transaction and annual demat or account charges. To complicate matters further, brokerage, STT and exchange fees are different for intraday trading (buying and selling within the day), futures and options. Specifically in options, the brokerage is ridiculously high - upto 2.5% of premium paid or received with a minimum "per-lot" charge, usually Rs. 50 or so.

Trading then might cost more the advertised brokerage shows, and usually shocks first-time investors. But one question has to be asked - just why are commissions a percentage of trade value?

A long time ago, trading was done in the open-outcry format, where you found a crowd of (mostly) men in the well of a stock exchange, making strange hand signals and recording trades. That, anyone will agree, involves more work for more shares and proportionate fees are acceptable. All stock trading is electronic now, and the hard work of making strange signals is now the responsibility of silicon, not a carbon based life form. Then why should selling 1000 shares cost more than selling 10, especially when it comes to brokerage paid (one might understand STT or exchange fees)? Why is the "pay-per-trade" model, so prevalent in the US today, not popular among brokers to get market-share?

Some of the current efforts are half-baked - like a Rs. 5,000 for trades upto Rs. 7.5 crore, which is just another percentage brokerage concept, or a Rs. 1000 per month but the trading tools are unreliable. Others are in their infancy. (Disclosure: I'm advising a company offering fixed pay-per-trade rates.)

In order to move in this direction, technology needs to catch up at the broker and retail ends. You have absolutely fantastic trading terminals at brokerages in the US, but very little innovation seems to have happened in the area in India. The big players in this space in India are partly owned by companies who are owners of the stock exchanges themselves (NSE and MCX, for instance) and brokers have invested precious little in technology that lets investors gather data and make their own decisions. Lower commissions from competition might actually prompt innovation.

At Yahoo: Free Money

I write on arbitrage at Yahoo: Free Money

The story goes: an economist was walking on the road with a friend, who said:

"Look, there's a 100 dollar bill lying on the ground, Professor"

"It can't be. If it was, someone would have taken it already", the economist replied.

While that sounds absurd, there still needs to be someone picking up those bills. In market parlance, the act of buying something and selling it almost immediately at a higher price is arbitrage — what might seem to be "risk-free" money.  Let's just look at the field, from an Indian market context.

Inter-exchange arbitrage

The BSE and NSE are the two most popular exchanges in India, and many stocks trade on both of them . If there is a price difference in a stock's quoted prices in each, you can buy on one exchange and sell on the other. You should theoretically not lose any money regardless of which way the market goes. As more people do this, the prices on the two exchanges should converge.

That's technically true, but there are many reasons why there is a gap in the prices, and no one is picking up the free money. Transaction costs can be too high — apart from brokerage, you have clearing costs, exchange fees, stamp duty and securities transaction tax — sometimes high enough to have a healthy gap. And then you have execution risk — what if you get one trade but not the other because prices moved?

In India, you must square off an inter-exchange arb trade within the day for structural reasons. With a T+2 rolling settlement system in India, you need to deliver stock that you sell on the next day of the trade, but you only receive what you buy two days after — so it's perilous to hold this trade through the end of the day. (If you reverse the trade within the day, it doesn't need to be settled) But then, an intra-day "square-off" means that prices must converge within the day — and if that doesn't happen, you might have to square off at a loss at 3:25 p.m.

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