Excerpts from the book Bulls, Bears and Other Beasts: How BSE scored a self goal

In his book 'Bulls, Bears and Other Beasts', author Santosh Nair presents a fascinating story of how BSE (Bombay Stock Exchange) scored a self goal and allowed unfettered growth of NSE (National Stock Exchange).

The history of this country is replete with antediluvian forces with vested interest hindered the progress of the country by opposing technology and innovation in their areas. Ideology did not matter. Be it communists in West Bengal who opposed computerisation and delayed the economic progress of the state or the 'Bombay Club' of leading industrialists who opposed the opening up of the economy or as the case below shows the brokers and jobbers at Bombay Stock Exchange....

Progress did not matter. Only vested interest mattered..

Read on the case of BSE that opposed computerisation, and how it pushed the exchange back a lot, as told by the author...

---(During the early 90s), there was no dearth of stock exchanges across the country, but BSE was by far the biggest and the most important of them all. It had the maximum number of companies listed on it, and was more liquid compared with its peers. CSE (Calcutta Stock Exchange) came within respectable distance of matching it in terms of liquidity, while Delhi Stock Exchange was a distant third. 

While many retail investors in far-flung towns preferred to transact on BSE, they invariably ended up getting poor prices because their orders would be routes through a chain of sub-brokers to the main broker in Mumbai. Each sub-broker in the chain would charge his commission, with result that brokerages charges alone would amount to 3-4 percent or even higher. Finally whether the investor got a good deal or not depended on how efficient and scrupulous the main broker was. More often than not, the purchase price was marked up closed to the highest price of the day and the selling price closer to the lowest level of the day. Brokers could afford 'take-it-or-leave-it' policy with their retail clients.

This is not to say that BSE did not have progressive minded members. Mahendra Kampani, when he was president of the exchange tried hard to computerise the trading process and convert the open outcry system int a screen-based one. The advantages of electronic trading were twofold. One, liquidity would increase as more investors could simultaneously access the system. This would shrink the spreads dramatically. More importantly, there would be greater transparency about the prices at which shares were actually bought and sold.

---this move would have dented the profitable business of many jobbers and brokers who thrived on the wide spreads and opaque prices resulting from low liquidity. 

--Not surprisingly, Kampani faced huge opposition from the broking community, and the proposal was put in cold storage.

What the broker-jobber lobby did not realize was that in blocking computerisation, they had dealt a crippling blow to BSE, a blow from which the institution would never really recover. 

-- a veteran BSE broker (who had once been a President of the exchange) told me how the exchange's electronic trading plan never got the backing that it should have from the government. In fact, it appeared that some influential people in the government wanted to marginalize BSE.

--- my own view is that (sic) somewhere along the way, BSE broker's lobby had become too powerful for its own good and was beginning to be seen as a challenge to the government. In the late 80s, when former UTI chairman Phervani, tried to get a broking card for a UTI subsidiary, he was denied it. UTI did huge business with the brokers and was aware that it was being regularly fleeced on quite a few transactions. To get around the problem, UTI decided to have its own broking card. But the big boys of Dalal Street would have none of it. One, the brokers who made a living off UTI's deals would lose a big share of the business. Two, giving membership to UTI would lead to similar requests from other institutions too. 

---When SEBI tried to get brokers to register with it for a fee, the proposal was stoutly opposed by brokers and jobbers. They refused to carry out transactions, with the result that BSE had to shut down for a week in April 1992.

Finance minister Manmohan Singh, who visited Bombay during that time, came down to BSE to meet the agitating brokers. Brokers behaved badly with the finance minster, shouting slogans and booing him. This would have piqued the government. A leading exchange of the country holding the government to ransom would have served to drive investors away..

Thus it was that NSE, set up with financial institutions as its principle shareholders, and originally meant to be a trading platform for wholesale debt, was given permission to start and exchange for trading in shares too. It commenced operations in November 1994, overnight changing the rules of the game.

From the first day of its operations, NSE started operations with an electronic trading system. NSE's biggest contribution to the stockbroking industry was the vast new breed of brokers it spawned. Anybody could become an NSE member by paying a (refundable) deposit fee and clearing an exam. 

The introduction of electronic trading rapidly shrank the spreads and dramatically improved liquidity. Liquidity, in turn, attracted more players, making the market even more liquid. No longer the brokers could fleece the investors as prices were transparent. 

In barely eleven months of going live, the NSE nosed past the BSE in terms of daily traded turnover, becoming the top exchange in the country.

That must have hurt...

Book Review #33: Bulls Bears and Other Beasts: Author: Santosh Nair

The book, Bulls Bears and Other beasts tells the story of the evolution of equity markets in India as seen through the eyes of the protagonist Lalchand Gupta. While the visible hero is Lalchand, the invisible hero is the Indian stock market ecosystem, including the stock exchanges, SEBI (Securities and Exchange Board of India) and the GOI (Government of India) that introduced significant market reforms that catapulted the Sensex from 750 in the 1990 to almost 34000 by the end of 2017.

Both stories run in parallel in this fascinating book. One is the story of Lalchand himself, his ups, downs, fights, wins and loses. You tend to sympathize, empathize and get excited with him. The other is the evolution of India from a closed economy - consisting of close knit group of powerful brokers, market manipulations, only one Institutional Investor (UTI), minimal retail participation in the markets and a slowly growing economy - to open economy - consisting of globalization, SEBI, National Stock Exchange, wider retail participation and of course the mother of them all the arrival of Foreign Institutional Investors (FIIs)

Having worked with Economic Times and then with Moneycontrol.com, Mr.Nair writes from a vantage point of having 'been there, done that'. He is as much an author as a participant in this brilliant book.

This well written, fast paced and easy to read book paints a large canvas, the evolution of equity markets in India starting from the beginning of the tumultuous years from about 1988. Lalchand is a product of the Mumbai (it was called Bombay in those times) underbelly of the 80s. He was born and brought up in the slum areas and got into lot of bad company. However, he quickly corrected himself and while working in a chemical company, got opportunity to know about the workings of the stock market.

Buy the book 'Bulls, Bears and Other Beasts' @Amazon

In the early eighties only few stock exchanges existed in India, the biggest of them being Bombay Stock Exchange (BSE) followed by Calcutta Stock Exchange (CSE). In the late eighties, where this story begins, there was hardly any retail participation in the stock market. Easy money was made by a lucky few who has subscribed to the IPOs of MNCs. UTI was the only domestic institutional investor. Brokerage rates were 1.5 percent and investment based on the fundamentals of a company was still in its infancy. There was hardly any publicly available information on the companies. A lot of 'research' done those days would constitute as insider trading today.

More than the stock market professionals, company promoters used to speculate heavily in their own shares through their favored brokers, known as 'house brokers', who were known to be proxies for the promoters.

UTIs business was crucial to the prosperity of the brokers, since it was the largest institutional investor. Since UTI traded in large blocks of shares, there was good money to be earned by way of commission. More money was made by front-running UTI trades. If it was a buy order from UTI, the broker would buy shares on his personal account. Then when the block purchase was done, the share prices will go up and the broker will sell his personal stocks and make good fortune. The reverse process happened in case of sell order from UTI.

There were few high rollers like Nimesh Shah, Manu Manek and Ajay Kayan who were revered and feared at the same time for their ability to make or break a company. Sometimes the companies fought back. The personality clashes between stake holders is very exciting to read. For example, the story of Manu Manek's fight with Reliance Industries makes fascinating reading.

Prior to 1995, the stock market processes and reporting were very primitive. Most of the transactions were manual and used crude forms of data entry and reporting tools. Speakers installed in various trading floors were used to communicate and blackboards were used to update the prices of the frequently traded shares. Trading data was entered in colour coded sauda pads, end of the day reporting was through bhav copies and disagreements were sorted through mutual discussion based on a strictly observed 'caste' system of the stock exchange.

When you are discussing India's stock market, you cannot avoid Harshad Mehta, the original big bull. The way he manipulated the banks to fund his stock purchases, how he routinely moved money between money market and stock market, how he ran up the prices of ACC to unheard of 10500 rupees based on a vaguely constructed 'replacement cost' theory, how he spend lavishly and attracted attention to himself and finally how this ponzi scheme that he ran was discovered, he and his cronies were arrested and the markets went through a major tailspin....all are discussed in much detail.

The year 1992 was significant for the Indian markets. Significant financial sector reforms were initiated. SEBI (Securities and Exchanges Board of India, in the lines of SEC in the US) was formed. The office of the CCI (Controller of Capital Issues) was abolished. Companies were given freedom to price their IPOs as they wanted, (prior to that, the shares had to issued only at the face value), FIIs (Foreign Institutional Investors) were allowed in the country from October 92. Initially they were hesitant to come to India. In the first six months, by March 93, only 15 Crores of FII investments came to the country.

India's response to the Mumbai serial blasts of '93, form a pride of a place in India's history. One of the blasts happened in the basement of BSE on a Friday. By working overtime over the weekend, the staff of BSE made it operational for trading on Monday, showing to the world that India will not be cowed down by terrorism. 

The evolution of the Indian markets starting 1993 are fascinating to read. In the FY 93-94 alone, 770 IPOs raised about 13000 crores from the market. Most of them were raised by greedy promoters who raised money at crazy valuations. FIIs pumped in 5000 crores in the year. The highlight of the year was the NFO (New Fund Offer, used to be called IPO back then) of Morgan Stanley Growth Fund. It was a 15 year close ended fund, and raised 1000 crores against a target of 300 crores !!

It listed in the market at a discount to the face value. Many investors, who wanted to make quick buck, lost money. 

The history of India is the story of forces of modernization fighting against forces of status quo. It was no different in Indian markets. While there was a lot of suggestions to computerise and modernize BSE, the strong Broker Lobby opposed it vehemently. They did not allow new brokers into BSE by rapidly hiking the membership charges. They were blind to the regulatory changes taking place all around them. In November '94, National Stock Exchange (NSE) started operations and this led a crippling blow the entrenched interests in BSE.

This was a self goal by BSE

NSE and BSE were different like chalk and cheese. From day 1, NSE started operations with an electronic trading system. While NSE had a weekly settlement system, unlike BSE, positions were not allowed to be carried forward. Unlike BSE which was run by brokers, NSE was run by professionals and did not have a single broker member in its board. In addition, unlike BSE, which was restricted to Mumbai, NSE had a pan-India reach offering services across the country. Unlike BSE, where membership was severely limited and expensive, anyone could become an NSE member by paying a refundable deposit fee and clearing an exam. This democratized the trading ecosystem in the country unlike any other action. 

In just eleven months after going live, NSE overtook BSE in terms of daily traded turnover, becoming the top exchange in the country!!

While electronic trading had its benefits, it created certain pitfalls. Since the very nature of electronic trading was faceless, a group of brokers could get together and trade in a stock among themselves to give an impression of heavy volumes. 

Asian currency crisis hit the market in 1997 and led to a prolonged bear market. For the first time in India, companies started downsizing. Downsizing was unheard of in India till then and many equity analysts that were earning huge packages found themselves without jobs, worst the MNC brokerages that employed them downed shutters. There was bloodbath all around.

The book celebrates Indian market, warts and all. The rampant manipulation of IPOs in the mid 90s, the MS Shoe scandal, the high interest rates (retail investors received interest of about 16% on their bond investments, I still have some like ICICI money multiplier bond and Zero coupon bonds), the depression of the mid 90s, series of market reforms initiated by SEBI, P Chidambaram's 'Dream Budget of 1997 that revived the market sentiments, Asian Currency Crisis  of 1997 that led to a bear market, the retrenchment of equity analysts, rise and fall of Ketan Parekh, the boom and bust of 'New Economy Stocks', Unit-64 fiasco, IPO manipulation of the early millennium through benami Demat accounts, disastrous IPO of Reliance Power, the carnage of 2008 in the aftermath of subprime crisis, the run on ICICI Bank, the return of UPA in 2009 and the ensuing bull market, Satyam Scandal ...

All of these are covered in just enough detail to sate the curiosity of a reader who just want to have an overview or for a researcher who may want to dig deeper...

UPA 1s maiden budget of 2004 which abolished LTCG (Long Term Capital Gains Tax) and introduced Stock Transactions Tax was another major morale booster for the market and single-handedly enabled the arrival of long-term retail investors into the Indian market through expansion of mutual fund industry. 

Seamlessly weaved together with the story of the stock market is the story of Lala. His progressive elevation as a respectable broker, his father's demise, his brother's graduation, the playing out of his dreams...

In Lala, we see a pragmatic and ethical stock market professional, playing dual role of a bystander story teller as well as a successful market participant. There are lessons to be learned for a newbie investor there..

This book is a must read for anyone who is interested in the India's stock market. If you are an investor, this book will give you perspectives about the benefits of long-term investments in equity market, after all Sensex moved up from 750 in 1990 to 34000 today, an annualised return of 15% . If you are historian, this book has details about some of the critical incidents that happened in the markets in the last 30 years. If you are policy wonk, this book will give you some ideas of what works in the market and what does not.

Finally, for my generation, we were lucky and unlucky at the same time, I would say. We came of age around the 90's, when the major changes were initiated. To that extent, one could say that we were lucky to have been living through these exciting times. However, the sad part is, we lived our life by the day, oblivious to these path breaking changes and unable to yield any major benefits from them. In the last thirty years, people have won everything. lost everything and recouped the losses and became millionaires twice over. Many of us missed the exciting journey.

There is still time. India is just starting to grow. Join the fun and run with it....

I give this book a rating of 5/5, the second book in this series of '50 Finance Books' that is getting this rating.

How did you like this review? Please update the comments so that I can improve upon.

Buy the book 'Bulls, Bears and Other Beasts' @Amazon

Excerpts from the book Bulls, Bears and Other Beasts: The key players

This is an excerpt from Chapter 1 of the book Bulls, Bears and Other Beasts by Santosh Nair. You can read the book review here. (Notes to self: Add link later)

Nemish Shah, Manu Manek and Ajay Kayan were the high rollers, revered by market players for their ability to make or break a stock. Manu Manek was more feared than respected because he could be downright ruthless to further his business interests. He had no qualms about hammering down the price of the very stock he had financed for a bull operator. Manubhai, who was considered something of a mini-stock exchange himself, could quickly figure out a bull operators capacity to support the stock he was operating. If the operator was weak, Manek would short sell the stock. And once the operator mad a distress sale, Manek would buy back the shares cheaper than he had sold them for, making a tidy profit in the process.

.....And he had one more strong point - an excellent rapport with the key officials in the Bombay Stock Exchange (BSE) employees' union. Call it a coincidence, but whenever Manek was in a tight spot over a trade, there would be a flash strike by the union, and the settlement would get extended by a few days, helping him to buy time. 

Manek was fearless enough - or reckless, as subsequent turn of events would show- to take on Dhirubhai Ambani in leading a bear raid on  the shares of Reliance Industries. The bear cartel heavily short-sold Reliance Industries, aiming to break the stock price. 

.... He also made some disparaging remarks about Dhirubhai for good measure.

Bears won the initial round as the stock price flagged under their relentless onslaught. But they had not bargained for an equally fierce counter-attack led by Anand Jain, Dhirubhai's key lieutenant. Jain and his associates took over the positions of the brokers and traders who had bought Reliance Industries shares, and also themselves bought as many shares as they could from the market. On the other side of these trades was the bear cartel,, which had short-sold Reliance shares or sold shares they never owned in the first place. 

As the share prices began to climb because of the demand created by Jain and his associates, the bears tried to get out of their position by buying shares from the market. But shares were in short supply, as most of them had been bought by Jain and company, and the bears' attempts to square up their positions only sent the stock price shooting up further.

The bears thought they could buy time by paying an interest charge to the bulls on settlement day to carry forward their trades to the next settlement. They were still convinced that if they hung on to their positions for a bit longer, the price movement would reverse in their favour. But the 'buyers' of the Reliance shares refused the offer of interest payment, and insisted that the bears deliver the shares, fully aware that they would not be able to. Frantic buying by the bears to square up their positions further drove up the stock price. The crisis led to the stock exchange itself being closed for a few days as the bears could not deliver the shares and the bulls would not settle for anything less.

A truce was worked out eventually, but not before a few bears were bankrupted and the legendary Manu Manek forced to eat humble pie..