Tuesday, May 13, 2008

Money no longer gets locked in IPOs

When investors apply for Initial Public Offering (IPO), they have to pay money upfront to the registrar/banker with whom the money gets locked for a few weeks, until the IPO price is decided and the shares are allocated. If the number of shares allocated is lesser than applied, the balance money is refunded to the investor. Since the money is locked for a few weeks, the investor loses interest amount he could earn otherwise on that money.

On the other side, bankers get floating interest on investor's money, for those few weeks. Well, to say the least, when money runs into Crores, however small the interest percentage is, the interest amount will be huge.

According to a SEBI statement, the money will now remain in the investor’s bank account till the allotment price and quantity is finalized. This would eliminate the refund process. This would also save money collecting and refunding time and thus will reduce the burden on registrars.
More news here.

At a macro level, the locking of money denies the markets to have the much needed liquidity (money in the hands of people that can be used for trading in stock markets), particularly when they are falling and need money to push it up. Thus, money locked in IPOs has a serious impact on stock markets.

An example is something that happened in January 2008, when investor money was locked in Reliance Power and Future IPOs. These IPOs were huge and have raked in most of the liquidity from stock markets. When markets fell during that time due to US recession fears and other reasons, investors didn’t have money with them to buy shares (when markets fall, share prices also fall due to which investors buy shares which in turn will pull the market up) and stop the market from falling further. Reason; their money was locked with Reliance and Future IPOs!

The move by the regulator may not solve the liquidity problem during IPO as SEBI is planning to have some arrangements with which money would be locked in the investor's bank account so that there won't be any lack of funds in the investor's account when the IPO allotment comes. But this will atleast give the investors interest income on their money.

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