19 June 2008

Bulk Trade in Ranbaxy

Prof. Jayanth Varma has a thoughtful piece on exchange microstructure with respect to the Ranbaxy deal executed on the exchange. I have a few comments on the piece.

"The first problem is that if the whole world can see that this is what is going to happen, it makes sense for anybody who holds Ranbaxy stock to put in limit sale orders at a price of 125 or 126 to take advantage of the bulk deal whenever it happens."


A "Bulk" deal is a regular market transaction and if the broad Ranbaxy agreement is not public domain the problem can be escaped. All relevant disclosures under the Bulk Deal circular are end of the day. Similarly, insider trading and takeover regulation details are also post facto. So I don't think this is a problem (only if the agreement is not in public domain) as the specific trade date/time are not required to be disclosed. While there will be some minor leakage on the order book this would not be prohibitive in cost. As this is a very small cost to escape huge tax liabilities, it is the only way to transact such a deal. However, in the present case, the deal was in the public domain, so anyone putting limit orders each day, waiting for the negotiated deal to occur could make the extraordinary profit as pointed out.


If it is such a no brainer, I wonder if a look at the limit order book each of these days would reveal such a pattern in Ranbaxy over the past few days (though nobody outside the surveillance cells of the exchange/SEBI would be able to throw light on the size of the limit order book). My guess is, there will not be a prohibitive limit order book these days in Ranbaxy for the following reason. The buyer and seller in the deal can hold out for a few weeks if not a few days. This would tire out and possibly destroy the strategy of shorts (short sellers) who having sold stock though will be unable to profit from a lower price as the unspecified event has not materialised. Coupled with a limited market for borrowed stock, the limited amount of time available for a borrowed position (7 days if I recall right) and a virtual prohibition against a naked shorts (making them very expensive if delivery stocks cannot be found), the strategy is unlikely to be profitable. Ordinary limit order traders would also be faced with fatigue after a few days and also "dummy filters" will not allow them to enter orders way out of whack with current prices, further limiting their strategy.


I am certain that here is no issue of manipulation of the market merely because the negotiated price exceeds the current market price. Manipulation centres around intent rather than knowledge. So even if a large buyer or seller in a market may know that his/her trade will have a big impact on the prices, his/her trade would not be manipulative. Manipulation only occurs where there is an intentional interference with the free forces of demand and supply.


I am also pro the Securities Transaction Tax till such time as Mauritius and other such abusive tax treaties are repealed. I see no reason why an Indian should be penalised with large capital gains tax when any other person in the world, setting up a shell company, in Mauritius is exempt. STT only puts the Indians at a level playing field as foreigners have been using the treaty to skip capital gains since the early 90s. From an interpretational viewpoint of tax laws, tax law and equity are strangers and an equitable interpretation view is not a valid tool to interpret tax laws. Thus STT is not available to very legitimate transactions like sponsored ADRs or tender offers, while it is available to per se non exchange transactions like Ranbaxy.

2 comments:

Anonymous said...

Sir,

I have a request for you. I need your expertise on the following issue.

Is it true that underwriting of equity IPOs in US is widely different from that in India ? And US regulations too are aimed at bought deals which dont happen in India ? Are bought deals really significant part of equity IPO underwriting business in USA ?

Would be really grateful if you can guide me to some relevant sources which I can can read up.

Best Regards,

Nandini

Sandeep said...

Nandini,
This is correct. Indian underwriting is quite limited. The US underwriting is, as you correctly pointed out, bought deals with the underwriters then selling the issue at the public offering. I think you should be able to easily get the information - try doing a search on 'strict underwriting' and 'firm underwriting'.