CHAPTER-2

PROFILE OF THE INDIAN STOCK MARKET

2.1 Introduction

In order to see the volatility of the capital market smce

liberalisation and its impact on the investors, it is necessary to obtain an
understanding of the profile of the stock market and the role of the
regulatory authorities for the investor's protection. The objective of the
present chapter is to provide this understanding. This chapter is designed
to offer a brief outline of the present position and the status of the stock
market in India. It focuses on the recent developments of both the
primary market and the secondary markets, the most vital segment of the
Indian stock market. The chapter will discuss about the stock exchanges,
which have assumed increasing importance during the recent decades as
a source of funds for the corporate sector. They now play a crucial role
in mobilising savings and enhancing capital formation. The
infrastructure and regulatory developments made by the regulatory
authorities, for making the market investor friendly have been discussed.

The rest of the chapter proceeds as follows. In section 2.2 capital

markets positioning in the financial market structure is given. In section
2.3 the recent development of the primary market is described. In
section 2.4 the recent development of the secondary market are
explained. In section 2.5 infrastructure and regulatory developments by
the regulatory authorities are presented, and section 2.6 concludes the
chapter.

23
 2.2 Capital Market Positioning in the Financial Market structure

To the extent the growth of an economy depends on the rate of

savings and investments, financial markets promote economic growth.
The banks and securities markets are two competing mechanisms to
channel savings to investments. The securities market scores over banks
in the allocation efficiency, as it allocates savings to those investments,
which have potential to yield higher returns. The securities market
enables a person to allocate his savings among a number of investments.
This helps him to diversify risks among many enterprises, which
increases the likelihood of long-term overall gains. The stock market
performs a very crucial role in a market driven economy. It is that
segment of the capital market where shares and stocks of companies are
bought and sold. To most people, the stock market is the market
provided by stock exchanges. But, in fact, the stock market is something
more than just a marketplace provided by the stock exchanges. The
business on stock exchanges consists of dealing in existing or secondary
stocks and shares. It provides a mechanism by which outstanding stocks
and shares are traded. Since only secondary stocks and shares are traded
through stock exchanges, the marketplace that it provides is known as
the secondary market. The stock market has another important segment,
which is known, as the primary market. It is the market where new
shares are bought and sold. When a company issues new shares, it has to
go to the primary market. It is the primary market, which acts "as the
conduit through which new capital or funds are accepted" 1• Stock
markets are often equated with security markets, but they are not
identical. Stock markets involve only stocks and shares while security
market, besides stocks and shares, handles several other categories of
securities such as corporate bonds, government securities and other

24
kinds of debt securities. Stock markets are, therefore, one segment of the
security markets.

The securities market fosters economic growth to the extent

that, it:

• Augments the quantities of real savmgs and capital

formation from any given field of national income,

• Raises the productivity of investment by improving

allocation of investible funds,

• Increases net capital inflow from abroad,

• Reduces the cost of capital.

Stated formally, the securities market provides a linkage between the

savings and the preferred investment across the entities, time and space.
It mobilises savings and channelises them through securities into
preferred enterprises.

A figure is presented below (Exhibit 2.1) in order to depict clearly

the position that the stock market occupies in the financial system of a
market economy.

25
 Exhibit 2.1

Structure of the Financial System

FINANCIAL SYSTEM

FINANCIAL FINANCIAL FINANCIAL FINANCIAL

INSTITUTIONS MARKETS INSTRUMENTS SERVICES

MONEY MARKETS CAPITAL MARKETS OTHER FINANCIAL

(MARKETS FOR (MARKETS- FOR LONG MARKETS (E.G.)
SHORT-TERM TERM SECURITIES) FOREIGN EXCHANGE
SECURITIES) MARKETS)

~
PRIMARY SECONDAR PRIMARY SECONDARY
MARKETS YMARKETS MARKETS MARKETS DERIVATIV
(NEW ISSUE) (MARKETS FOR E MARKETS
MARKETS) EXISTING
SECURITIES)

OTHER
BOND GOVERNMENT STOCK MARKETS (E.G.)
M ARKETS SECURITY MARKETS UN ORGANISED
MARKET OR INFORMAL
MARKETS

~ ~ ~
EQUITY OTHER MARKETS (E.G. OTC
STOCK PREFERRED MARKETS A~D MARKETS FOR
MARKETS STOCK MARKETS MUTUAL FUNDS ETC.

26
 The figure presented above shows the major segments of which
the financial system is composed. It does not discuss detail breakdowns
of all the segments, as this is not necessary in the context of the present
study. It appears from the exhibit 2.1 that the stock market belongs to
the financial market segment of the financial system. An efficient
financial system is essential for the healthy growth of the economy.
"The financial system and financial investment work together with real
investment to improve the conditions of all participants in the
economy" 2• Financial markets are intimately connected with all other
markets in the economy. These markets provide mechanism by which
risks are shifted from those undertaking investments to those providing
funds for such investments. Two types of financial assets are traded in
the financial markets; short-term financial assets and long-term financial
assets. Short- term financial assets are traded in the money markets,
while long term financial assets are traded in the capital market. The
stock market is a wing of the capital market.

The history of stock trading in India spans over a long period. The
first official stock exchange was established in the year 1875, is the
Bombay Stock Exchange. It is the oldest stock exchange not only in
.India, but also in the entire Asia3 . During early eighties of the twentieth
century, general awareness of the stock market in India was at a very
low level. But the situation changed in the late eighties and the activities
of the market reached at its peak in the early nineties. The stock
markets all over the world have witnessed tremendous growth in size
and depth over the last decade. We will be able to see the increase in the
Indian context, if we study the activities of both the primary and the
secondary markets.

27
 Exhibit 2.2

Division of the Capital Market

l
CASH DERIVATING
SEGMENT (F & 0) SEGMENT

PRIMARY SECONDARY FVTVRE OPTION

MARKET MARKET

l
STOCK STOCK

~
l ~
SEN SEX
II NIFTY SEN SEX
I I NIFTY

2.3 Recent Development of the Primary Market

The primary capital market, also known as the new issues market,
is the one, which enable the corporate to mobilise resources through
different instruments, VIZ, equity, preference shares and
debenture/bonds. The primary market provides the channel for sale in
securities. The issuers of securities offer new securities in the primary
market to raise funds for investments. They do so either through public
issues or through private placement. It is a public issue if anybody and
everybody, who wants to subscribe, can do so. If the issue is made to
select people, it is said to be a private placement. In terms of the

28
 Companies Act of 1956, it is a public issue, if it results in allotment to
more than 50 persons. This means again, an issue resulting in allotment
to less than 50 persons, is private placement. There are two major types
of issuers who issue securities, the corporate entities and the
government. The corporate entities issue mainly debt (debentures) and
equity (shares) instruments while the Government (both the Central and
State Governments) issues debt securities (treasury bills and dated
securities). There are legitimate reasons for raising money through
public issues· by the corporate such as, increasing the company's
financial base, liquidity, prestige, and ability to attract management and
make acquisitions. In terms of methods of the issue, the primary market
facilitates resource mobilisation through public issues in terms of
prospectuses, right issues through letter of offer and through private
placement. When a company go to the securities market for raising
money from the market for the first time, it is called an initial public
offering (IPO). So, an IPO is basically a company's first step to the
stock market. Generally, companies, which are new but with a good
performance track record, go through the IPO route to fund their capital
requirements. In case, a company going through IPO route for raising
money fails, it can still corne out with a public issue but only through
the book building process. Book building is the process through which
the issue price is determined on the basis of bids received for the shares
of the company, issuing shares.

The past decade in many ways has been remarkable for the whole
securities market in India. It has grown enormously in terms of the
amount raised from the market, number of stock exchanges and other
intermediaries, the number of listed stocks, market capitalisation,
trading volumes and turnover on stock exchanges, and investor

29
population. With this growth, the profiles of the investors, issuers and
intermediaries have changed significantly. The massive rise in the
activities of the stock market, particularly in the '90s could be due to
larger participation of both individual and institutional investors. The
1990s witnessed emergence of securities market as a major source of
finance for trade and industry. A growing number of companies have
started depending on the market rather than depending on loans from
banks. Average annual capital mobilisation from the primary market,
which was about Rs 90crore in the 1970s, increased manifold during the
1980s, and with the amount raised in 1990-91 being Rs4, 312 crore, the
market started to move upwards. It received a further boost with the
capital raised by non-government public companies rising sharply to Rs
26,417 crore in 1994-95. During six years period 1991-92 to I 996-97,
equity issues aggregated a staggeringly high level. However, prolonged
bearish conditions in the stock market since mid-September 1994
impacted upon the primary market and as a result issues by the corporate
sector declined to Rs 16,075 crore in 1995-96 and further to Rs 10,410
crore in 1996-97. The market however, dried up in 1995-96 due to some
interplay of the demand and supply factors. Many investors were
waiting for the quality issues as they became sceptical for the securities
scam held in 1992. The corporate have shifted focus to other avenues
for raising resources like private placements where compliance is much
less. We will be able to see the functions of the primary market from the
Exhibit 2.3, which depicts resource mobilisation from the primary
market.

30
 Exhibit 2.3
Resource Mobilisation from the Primary Market (Froml991-1998)
(Rs mn)
ISSUES 1990- ] 991- 1992- 1993- 1994-. 1995- 1996- 1997-
1991 1992 1993 1994 1995 1996 1997 1998

CORPORATE 142,190 163,660 235,370 444,980 480,840 366,890 371,470 421,250

SECURITIES
DOMESTIC ISSUES 142,190 163,660 232,860 370,440 419,740 361,930 338,720 377,380

NON-GOVT 43,122 61,930 I 98,030 I93,300 264,170 I 60,750 I04,100 31,380

PUBLIC CO'S
PSU BONDS 56,630 57,100 10,620 55,860 30,700 22,920 33,940 29,820
GOVT.COMPANIES -- -- 4,300 8,190 8,880 10,000 65,000 430
BANKS & FilS -- -- 3,560 38,430 4,250 34,650 43,520 14.760
PRIVATE 42,440 44,630 16,350 74,660 111,740 133,610 150,660 300,990
PLACEMENT
EUROISSUES -- -- 7,020 78,980 67,430 12,970 55,940 40,090
GOVERNMENT 115,580 122,840 176,900 545,330 432,310 467,830 426,880 673,860
SECURITIES
CENTRAL GOVT. 89,890 89,190 138,850 503,880 381,080 405,090 361,520 596,370
STATE GOVT. 25,690 33,640 38,050 41,450 51,230 62,740 65,360 77,490
TOTAL 257,770 286,500 412,270 990,310 913,150 834,720 798,350 1,095,110
Source: NSE, ISMR, 2004-2005 Issues.

Resource Mobilisation from the Primary Market

(From 1999-2005)
(Rs mn)
ISSUES 1998- 1999- 2000- 2001- 2002- 2003- 2004-
1999 2000 2001 2002 2003 2004 2005§)*
CORPORATE 601,920 724,500 783,956 744,032 700,389 748,500 1,092,970
SECURITIES
DOMESTIC ISSUES 590,440 689,630 741,986 720,612 666,125 717,520 1,059,440
NON-GOVT. 50,130 51,530 48,900 56,920 18,777 36,570 134,820
PUBLIC
COMPANIES
PSU BONDS -- -- -- -- -- -- --
GOVT.COMPANIES -- -- -- 3,500 -- 1,000 26,840
BANKS & FilS 43,520 25,510 14,720 10,700 29,890 40,760 57,260
PRIVATE 496,790 612,590 678,360 649,500 617,458 639,010 840,520
PLACEMENT
EURO ISSUES 11,480 34,870 41,970 23,420 34,264 30,980 33,530
GOVT.SECURITIES I ,060,670 I ,133,360 1,284,830 I ,525,080 I ,8 I 9,790 I ,981,570 I,456,020
CENTRAL GOVT. 939,530 996,300 1,151,830 I ,338,0 I0 1,511,260 I ,476,360 I ,065,0 I0
STATE GOVT. 121,140 137,060 133,000 187,070 308,530 503,210 391,010
TOTAL 1,662,590 1,857,860 2,068,786 2,269,112 2,520,179 2,730,070 2,548,990
..
Source: RBI. *Word 'P' denotes provlSlonal figure .

31
 One significant note that appears from exhibit 2.3 is increasing
proportion of private placement in the amount of resource mobilisation.
Apart from public and right issues, a new method 'private placement'
had started gaining the ground since 1990-91. The private placement
involves issue of equity, debt and securities to selected subscribers such
as banks, financial institutions and mutual funds and high net worth
individuals. It is arranged through the merchant and /or investment
banker4, who acts as an agent of the issuer and brings together issuers
and the investors. There are several advantages for tapping the private
placement market instead of going to for the right or public issue. It is a
cost and time effective method of raising resources and also does not
require detailed compliance of formalities that are necessary for public
and right issues. The amount of private placement has been of large
5
order during four years since 1993-94. In terms of available details , the
share of public sector in total private placement was as much as 69.5 per
cent in 1995-96 which moved up to 83.4 per cent in 1996-97. The share
of financial sector, viz., banks and financial institutions and non- bank
financial companies was 50.1 per cent in total private placement during
1995-96 which moved up to 55.7 per cent in 1996-97. Apart f1·om the
non-government companies, public sector units bonds (PSU Bonds) by
the major public sector undertakings gave a new dimension to the
primary market. Since 1986-87, the PSUs were allowed to float tax-free
bonds. The Government companies faced with reduced budgetary
support accessed the primary market for meeting their resource
requirements. Scheduled commercial banks entered the capital market
for raising funds through equity markets for meeting their capital
adequacy norms. Development financial institutions also entered the
capital market for raising funds through equity issues as the support
from the Government and reserve bank of India (RBI) reduced the

32
 concessional support towards them. The market was getting
6
institutionalised, as people prefer mutual funds as their investment
mode. The net collections by mutual funds picked up during 1990s and
increased to Rs 19,953 crores during 1999-2000. Starting with an asset
base of Rs 25 crores in 1964, the total assets under management at the
end of June 2003 was Rs 1,21,806 crore.

Exhibit 2.4
Resources Mobilisation through Public Issue

(Rs million)
YEAR RESOURCES %OF %OF INDEX MOBILISATION
RAISED BY GDS DISBURSEMENTS IN BY MUTUAL
NON-GOVT. BYFis REAL FUNDS
COMPANIES TERMS
1990- 431,200 3.32 33.66 100.00 750,800
1991
1991- 61,930 4.38 38.08 126.27 112,530
92
1992- 198,030 12.76 85.54 366.88 130,210
93
1993- 193,300 9.98 74.85 330.51 112,430
94
1994- 264,170 10.48 78.69 401.14 112,750
95
1995- 160,750 5.34 41.59 226.04 -58,330
96
1996- 104,100 3.28 24.40 139.93 -20,370
97
1997- 31,380 0.84 5.85 40.40 40,640
98
1998- 50,130 1.27 8.59 60.92 36,110
99
1999- 51,530 1.11 7.51 60.64 199,532
00
2000- 49,490 1.01 6.89 54.34 111,350
01
2001- 56,924 1.17 10.18 60.34 71,370
02
2002- 18,777 0.74 18.37 -- 45,800
03
Source: NSE, ISMR 2003-04.

33
 From Exhibit 2.4 it appears that capital raised through public issues was
only 1% of gross domestic savings (GDS) in 1970s had increased to
13% in 1992-93. In real terms the capital raised increased four times
between 1990-91 and 1994-95. During 1994-95, the amount raised
through the new issues from securities market accounted for about four-
fifth of the disbursements by financial institutions (Fls ). The issuers had
shifted towards some other modes of investments like mutual funds,
since the sentiment of the investor was hurt, after the securities scam of
7
1992 . The private sector was allowed to enter into mutual fund
industry since 1992-93. The market was getting institutionalised, as
people prefer mutual funds as their investment vehicle. The net
collections by mutual funds picked up during this decade and and
increased toRs 19,953 crore in 1999-00. This declined to 11,135 crore
during 2000-01 due to tax of income distributed by debt-oriented mutual
funds and again picked up from 2002-03. Exhibit 2.5 offers a brief
profile from 1990-91 to 2004-05.

Exhibit 2.5
Resource Mobilisation by Mutual Funds
(Rs million)
YEAR PUBLIC SECTOR FI UTI PRIVATE GRAND
MUTUAL FUNDS SPONSORED SECTOR TOTAL
BANK SPONSORED MUTUAL
FUNDS
1990-91 23,520 6,040 45,530 -- 75,090
1991=92 21,400 4,270 86,850 -- 112,520
1992-93 12,040 7,600 110,570 -- 130,210
1993-94 1,480 2,390 92,970 15,600 112,440
1994-95 7,650 5,760 86,110 13,220 112,740
1995-96 1,130 2,350 -63,140 1,330 -58,330
1996-97 60 1,370 -30,430 8,640 -20,360
1997-98 2,370 2,030 28,750 7,490 40,640
1998-99 2,310 6,910 1,700 25,190 36,110
1999-00 1,560 3,570 45,480 148,920 199,530
2000-01 -- -- 3,220 92,920 111,350
2001-02 -- -- -72,840 129,470 71,370
2002-03 -- -- -94,340 121,220 45,830
2003-04 -- -- 10,500 428,730 476,840
2004-05 -- -- 25,970 425,450 468,090
Source: NSE, ISMR Issue, 2004-05.

34
 The Indian capital market was opened up for investment by the
foreign institutional investors (Fils) in September 1992. Investments in
the foreign investment come to India through Foreign Institutional
Investors (Fils). It comes through two avenues: foreign direct
investments (FDI) and two, through the capital markets where FII are
allowed to invest their money in Indian companies for a share in the
ownership which is termed as foreign portfolio investment. Indian
companies were allowed to raise resources from abroad through global
8
depository receipts (GDR) and foreign currency convertible bonds
9
(FCCB) • With such a huge inflow of funds, especially from foreign
investors, it has become even more necessary for the regulators to keep
a strict vigil on the activities of the market.

There have been significant changes in the securities market in

India since the last few years. The late 1990s was not good for the
primary market. After a long period of subdued activity, the signs of
revival of public issues were seen in 2002-03 and which continued in
2005-06 too. High confidence shown by the retail investors and high
rate of return from the issuers was visible in the market. The revival of
the primary market, which again started in 2002-03, gathered
momentum in 2004-05 and the process is still continuing. Of the 60
issues, which tapped the market in 2004-05, 55 issues were made by the
private sector. They mobilised around 60.7% of the total resources
raised. The public sector companies made 5 issues, mobilising 39.3% to
the total resources mobilised 10 • It is seen that among the industry wise
resource mobilisation, the banking sector accounts for 40.3% of the total
resources mobilised followed by financial sector 18.03%. Other sectors
viz; information technology, entertainment, textiles, chemical, paper and
pulp, finance, plastic and others have a smaller percentage in

35
comparison to them. It is seen that the primary market has become
active, which is a good indication form the investors point as also from
the economic point of view of the country. The reforms and initiatives
taken by the government are discussed in the following chapters.

2.4 Recent Developments in the Secondary Market

The efficiency of the stock market can be gauged from the

activities of both the primary market as well as from the secondary
market. Issues already floated in the primary market are dealt in the
secondary market. The secondary market enables participants who hold
securities to adjust their holdings in response to changes in their
assessment of risk and return. With the introduction of the derivatives
market, the functioning of the secondary market has been enormous.

After the first stock exchange in Mumbai, subsequent stock

exchanges were set up at Ahmedabad and in Calcutta, in 1894 and 1908
respectively. Stock exchanges are voluntary organisations formed by a
group of individuals to provide an institutional setting in which stocks
and shares can be traded. Policy guidance of a stock exchange originates
from by-laws of the stock exchanges and decision of the governing
board. Policies are administered through committees and are finally
implemented by the executive director of the stock exchange. As of
now there are 25 stock exchanges in India, which are all fully
computerised and offer 100% on-line trading. Stock exchanges
operations got a quantum jump during 1990s. The average daily
turnover grew from about Rs 150 crore in 1990 to Rs 12,000 crore in
2000 peaking at over Rs 20,000 crore. Increase in the turnover took
place mostly at the big exchanges and it was partly at the cost of small
exchanges that failed to keep pace with the changes. The business
moved away from small exchanges to big exchanges, which adopted

36
technologically superior trading and settlement systems. So the growth
of turnover is not uniform in the exchanges as may be seen from Exhibit
2.6. Top five stock exchanges accounted for 88%--99% turnover while
the rest 18 stock exchanges accounted for less than 0.12% during 2002-
03. There are 9,128 trading members registered with SEBI as at end
March 2005. Trading volumes in the equity segment of the stock
exchanges have witnessed spectacular growth over the last few years. It
has seen a considerable increase in late 1990s. Though a slump was
witnessed in 2001-02, the volume has risen from 2002-03 and in 2003-
04. Most of the stock exchanges has witnessed large-scale decline in
their trading volumes in 2004-05. Only three stock exchanges viz, BSE,
NSE, and the Calcutta stock exchange (CSE) showed slight growth
trends during this period.

37
 Exhibit 2.6
Growth and Turnover of Stock Exchanges
(Rs. mn
STOCKEXCHG 1994-1995 1995-1996 1996-1997 1997-1998 19998-1999 1999-2000 2000-2001 2001-2002 2002-2003 2003-2004 2004-2005

NSE 85,090 800,090 3,367,820 4,811,970 5,198,520 11,432,680 17,704,580 15,622,830 21,265,465 45,462,793 45,744,186

MUMBAI 677,480 500,640 1,242,840 2,073,830 3,119,990 6,850,282 10,016,190 3,093,I56 3,I65,516 5,146,730 5,357,913

CALCUTTA 528,720 621,280 1,056,640 1,787,780 I,7I7,804 3,57I,655 3,550,354 270,747 65,228 19,275 27,I50

DELHI 90,827 100,760 486,3IO 678,400 5 I 7,593 932,889 838, 7I I 58,280 III 34 --
AH'BAD 56,508 87,860 205,330 307,7IO 297,342 375,656 540,352 I48,435 154,586 45,445 80

U.P. 78,230 23,730 I60,700 153,900 I86,267 240,478 247,467 252,373 147,634 Il7,5IO 53,430

LUDHIANA 24,880 48,490 52,740 83,I50 59,779 77,405 97,322 8,566 0 0 --

PUNE 36,720 70,710 99,030 86,240 74,528 60,868 6I,705 I1,7IO 0 0 3

B'LORE 7,I20 8,900 43,980 86,360 67,790 III,474 60,328 703 0 I --

H'BAD I3,752 12,850 4,800 I8,600 I2,759 12,365 9,778 I13 46 20 I40

lCSE -- -- -- -- 7 5,452 2,331 554 531 I --

COCHlN 5,970 18,030 - 14,0IO I7,830 7,730 0 1,866 0 0 0 --
OTCEl 3,650 2,180 2,210 I,250 I,422 35,879 I,259 38 I I 58 --
MADRAS 30,327 -- 23,150 12,280 3,696 2,502 1,092 24I 756 I,009 270

M.P. I,\82 2,040 I20 IO 9 97 24 235 0 0 --

MAGADH 7,968 I6,290 27,550 3,230 0 80 16 0 2 I --
BARODA 16,2IO I2,590 42,680 45,760 l7,49I I,593 9 IOI 26 I --
GUAHATl 2,853 6,I90 4,840 200 302 0 0 I I 0 --
BBSR I,434 2,260 2,3IO 2,020 770 70I 0 0 0 0 --
COIM'TORE I3,095 25,030 23,980 2I,360 3.947 388 0 266 0 0 --
JAIPUR 8.786 I0,470 I5,190 4,3IO 648 2I 0 0 0 0 --

M'LORE 6I5 390 3,730 3,080 Il2 I 0 () 0 0 0

SKSE 5,447 5,640 3,980 I70 0 0 0 0 0 0 0

TOTAL 1,696,864 2,376,420 6,883,940 IO,I99,440 I 1.288,506 23,7I2,466 33, I33,385 I9,468,650 24,799,903 50.792,977 SI,I83, 172
w
00 -
Source: NSE ISMR, Issue 2003-04 & 2004-05.
 Here turnover means total value of transactions of securities in all
market segments of an exchange. For NSE main segments include cash
market (CM), futures and options (F&O) ll, wholesale debt market
12
segment (WDM) , and for BSE, two segments are CM and F&O.
Trading in derivatives commenced in June 2000, in India. A derivative
is simply a transaction or contract, which takes the origin from other
assets such as stocks, bonds, market indexes or foreign and wholesale
debt market currencies and its values. Depending on the nature of
contract and market mechanism, derivatives may be classified as
forward, future, option and swap. The derivative instruments are
deepening the capital markets and providing the support for risk hedging
as also guarding the excessive speculation. It was seen in Indian stock
market that speculation played a major role. While speculation is
allowed in respect of the stock market activities, excessive speculation
generated fear amongst the investor. Introduction of derivatives is a step
towards reducing the unhealthy speculation of the stock market. From
the activities of the secondary market in the recent years, it is observed
that the market capitalisation has grown over the period indicating more
companies are using the trading platform of the stock exchange. All
India market capitalisations were Rs 16,984,280 million at the end of
March 2005. The market capitalisation ratio is defined as the value of
listed stocks divided by the gross domestic product (GDP). It is a
measure of stock market size. It increased sharply in 2004-05 to 119.1%
against 52.3% in the immediately preceding year. The trading volume
for the fiscal year 2004-05 stood at 16,668,960 million. The turnover
ratio, which reflects the volume of trading in relation to the size of the
market, stood at 98.1% in 2004-05.

39
 Exhibit 2.7
Secondary Market Selected Indicators
Capital Market Segment of the Stock Exchanges

(Rs. mn)

Year No. Of No. Of S&P Sensex Market Market Turnover Turnover Turnover of Derivative
Brokers Listed CNX Capitalisation Cap Ratio Ratio Segment of Segment of
Co's Nifty (o/o) (%,) Stock Exchange
'

1995-96 8476 9100 985.30 3336.61 5,722,570 47.0 2,273,680 39.7 -

1996-97 8867 9890 968.85 3360.89 4,883,320 34.6 - 132.3 -

1997-98 9005 9833 1116.65 3892.75 5,898,160 37.7 9,086,810 154.1 -

1998~99 9069 9877 1078.05 3739.96 5,740,640 34.1 10,233,820 178.3 -
1999-00 9192 9871 1528.45 5011.28 11,926,300 84.7 20,670,310 173.3 -
2000-01 9782 9954 1148.20 3604.38 7,688,630 54.5 28,809,900 374.7 40,180

2001-02 9687 9644 1129.55 3469.35 7,492,480 36.4 8,958,180 119.6 1,038,480

2002-03 9519 9413 978.20 3048.72 6,319,212 28.5 9,689,098 153.3 4,423,333

2003-04 9368 - 1771.90 5590.60 13,187,953 52.3 16,204,977 153.3 21,422,690

2004-05 9128 - 2035.65 6492.82 16,984,280 119.1 16,688,963 98.1 25,641,269

------ - -
-
Source: SEBI Annual Report 2004-05 & NSE, ISMR Issue 2004-05.

+::.
0
 The Indian stock markets are increasingly becoming sector
driven. Over a period of time the indices have shown a gradual
increasing, decreasing or even range bound trend. However, as the
constituent sectors drive the overall indices, the investor need an
investment solution with the flexibility to invest across sectors based on
their attractiveness at various point of time. Also, if the situation calls
for the need to be diversified the invested funds by the investor should
also have the ability to diversify across various sectors. Recent past
years i.e., 2004-05 and 2005-06 have been truly glorious for the equity
investors, which was due to the fall in the interest rates. Barring certain
stray incidents the decline in interest rate was largely predictable.
Under situations where the yields become low and the markets
experience intermittent bouts of volatility, an investor needs to invest
carefully and the market situation should be carefully studied. The
markets have held up relatively well in the face of global turmoil,
escalating oil prices and sub-normal monsoon. Industrial production too
is picking up. Finally, business confidence seems to go up as an
improved precursor to impound corporate performance. While past
performance may not be an indicator of future performance, we continue .
to believe that despite the occasional disappointment, the Indian equity
market remains attractively priced and that, investors should continue to
allocate an adequate portion of their funds into equity. The investor
should realise that value creation is not a one- time goal it is a
continuous journey 13 .

The primary and secondary segments of the capital market are

intimately related to each other. The massive rise in the activities of the
stock market, particularly in the 1990s could be due to larger
participation of both individual and institutional investors 14 • The

41
investors become shaky to invest in the market if the market becomes
frequently volatile. So it is the duty of the government and the
15
regulatory authorities to curb the frequent volatility of the stock
market and keep the investor's confidence intact. Both the state
governments and the Central government along with the corporate and
the household sectors are investing in the market, (excluding foreign
institutional investors) and their investment trend from 1990 can be seen
from the table below (Exhibit 2.8).

Exhibit 2.8
Dependence on Securities Market
{Share % in the securities market in}
YEAR EXTERNAL FISCAL FISCAL FINANCIAL
FINANCE OF DEFICIT OF DEFICIT SAVINGS OF
CORPORATES CENTRAL OF STATE HOUSEHOLDS
GOVT. GOVT.
1990-91 19.35 17.9 13.6 14.4
1991-92 19.17 20.7 17.5 22.9
1992-93 33.38 9.2 16.8 17.2
1993-94 53.23 48.0 17.6 14.0
1994-95 44.99 35.2 14.7 12.1
1995-96 21.67 54.9 18.7 7.7
1996-97 22.12 30.0 17.5 6.9
1997-98 28.16 36.5 16.5 4.5
1998-99 27.05 60.9 14.1 4.2
199-00 33.58 67.1 13.9 7.3
2000-01 31.39 61.4 13.8 4.3
2001-02 20.60 69.4 15.2 8.0
2002-03 (17.98) 77.6 19.9 10.3
2003-04 N.A. 64.9 38.6 11.4
2004-05 N.A. 65.8 27.3 N.A.
Source: NSE, ISMR Issues 2004-05, & 2005-06.

During the year 1990-91, the State governments and the Central
government financed nearly 14% and 18% respectively of their fiscal
deficits by market borrowing. In the percentage terms, dependence of

42
the state governments on market borrowings did not increase much
during 1991-2001. In case of central government it increased to 69.4%
by 2001-02. In contrast, the share of financial savings of the household
sector is estimated to have gone down from- 14.4% in 1990-9 I to 8. 0%
in 2001-02. Low per capita income, apprehension of loss of capital and
economic insecurity, lack of awareness about the securities market,
16
which is co-related factors, significantly influenced the market •

Though there was a major shift in the savings pattern of the household
sector from bank deposits to securities, the trend got reversed due to
prolonged subdued conditions of the secondary market. The portfolio of
household sector went in favour of physical assets and fixed income-
bearing instruments whenever the securities market showed some kinds
of irregularities. By giving investors the option of selling their
securities, a well functioning secondary market lowers the cost of capital
17
for the issuers • Of late, investment made by the Fils has become a
crucial factor in the movement of stock prices in India. The investment
made by foreign institutional investors is discussed in the following
chapter.

2.5 Infrastructure and Regulatory Developments

The infrastructure improvements in the Indian securities market,

since 1994, have contributed to higher liquidity and market efficiency.
The setting up of the NSE in 1992 is a landmark in the history of the
stock market operations in India. The capital market (equity) segment
of the NSE became operational in November 1994. The turnover of the
NSE picked up quickly and it overtook BSE in November 1995, for the
first time. The NSE started the first on-line trading in June 1994 in the
debt segment and then in November 1995 in the equity segment. The
stock exchange Mumbai (BSE) introduced on-line trading (BOLT) in

43
March 1995, which is being followed by all other stock exchanges of
India. The national securities clearing corporation (NSCC) started
guaranteeing all trades in NSE since July 1996. Gradually all the stock
exchanges have joined in this operation. The BSE reintroduced carry-
forward trading in January 1996, banning and replacing the 'badla'
system. The securities and exchange board of India banned the badla in
March 1994, as it seemed too much speculative and highly inequitable.·
The observation about the impact of 'badla' or carry forward on the
18
volatility in the stock market is described by Shah (1995) • The
national securities depository limited (NSDL) sponsored by the
industrial development bank of India (IDBI), unit trust of India (UTI),
and NSE has commenced operation in October 1996. The Depository
Act, 1996 and regulations notified by SEBI for depository and
depository participants has paved the way for setting up depositories in
India.· The settings up of clearing corporations have reduced counter
party risks and enable investors to take advantages of settlement of
transactions through· depository. The Indian market was opened up for
the foreign institutional investors in September 1992. The large-scale
irregularities in the securities transactions in 1992 exposed the loopholes
in the ongoing system and procedures of the regulatory framework of
the capital market. The securities and exchange board of India (SEBI)
was set up as a regulatory body of the Indian securities market in 1988.
After the irregularities in securities transactions in 1992, the SEBI Act
was enacted in 1992, through which, it was vested with the statutory
power for regulating the capital market. Since then, the SEBI has been
focussing on policy making and looking into the various aspects of the
capital market. With the passage of time, several measures initiated by
the government, SEBI, and stock exchange authorities for the protection
of the interests of investors. Setting up investor protection funds at the

44
 stock exchanges, restructuring of various committees on the stock
exchanges with larger participation of public nominees, setting up of
clearing corporations on the stock exchanges, laying down the code of
conduct for market intermediaries and brokers etc., are the steps taken
by SEBI for the benefit and security of the investors. The development
of liquid, efficient securities markets has been a major goal for policy
makers in the third world. The constraints faced by small countries are
less binding today than ever before, owing to sharp cost reductions in
19
information technology on both hardware and software costs • The
process of the infra-structural improvements and of regulatory
developments is the on-going process and in the next chapters, we will
see some relevant steps taken by the government and the regulatory
authorities, for the on-going development of the Indian capital market.

2.6 Concluding Comments

In respect of stock market operations, India may be considered to

be one of the pioneers in the whole of South- Asia. The stock market
provides investors with opportunities to protect their savings from the
vagaries of inflation. The growing dependence of companies in India on
the stock market has been matched by a substantial expansion in the size
of the stock exchanges and of investing population. If the stock market
is to serve as an effective mechanism of allocation of capital, its
integrity has to be protected There are many destructive forces that often
tend to destroy the sanctity ofthe market. Regulatory interventions are
necessary in order to exercise effective control over the forces that
impinge on the ability of the stock market to operate efficiently and
effectively. The central theme of the regulation of the stock market is
investor protection. The regulator imposes protective controls, which
govern the relationship among participants.

45
 NOTES AND REFERENCES

1. Campbell, T.S. and Kracaw., Financial Institutions and Capital

Markets, Harper Collins College Publishers, 1993, p-6.

2. Kolb, R.W. and Rodriguez, R.J., Financial Markets, Blackwell

Publishers Limited. 1996, p-22.

3. Mitra, Gautam. 'Evolution of Stock Exchanges with special

reference in India', The Management Accountant, March 200 1, p-
179.

4. Merchant Banking, operations in India is governed by SEBI

(Merchant Bankers) Regulations, 1992. All merchant bankers
have to be registered with SEBI. The person applying for
certificate of registration as merchant banker has to be a body
corporate other than a non-banking financial company, has
necessary infrastructure, and has at least two persons in his
employment with experience to conduct the business of the
merchant banker. The applicants have to fulfil the capital
adequacy requirements, with prescribed minimum net worth. The
regulations specify the code of conduct to be followed by the
merchant bankers, responsibilities of lead managers, payment of
fees and disclosure to SEBI.

5. Misra. B.M., Fifty Years of the Indian Capital Market, Reserve

Bank of India, Occasional Papers, Vol xviii, Nos. 2&3, June and
September 1997, p-359.

6. Mutual Funds' operates as a common investment vehicle, that

pools resources by using units to investors and collectively invest
those resources in a diversified portfolio comprising of stocks,

46
 bonds, or money market instruments, in accordance with
objectives disclosed in the offer document issued for the purpose
of pooling resources. Investors in proportion to their investments
share the profits and losses. The investor's benefit in terms of
reduced risk and higher returns arising from professional
expertise of fund managers employed by such investment vehicle.

7. The scam held in 1992 was due to malpractices carried on by

Harshad Mehta.

8. 'GDR' a Global Depository Receipt may be defined as a global

finance vehicle that allows an issuer to raise capital
simultaneously in two or more markets through a global offering.
GDR's may be issued in either the public or private markets
inside or outside the US. GDR a negotiable certificate usually
represents a company's publicly traded equity or debt. 'ADR' an

American Depository Receipt is a negotiable US certificate

representing ownership of shares in a non-US corporation.
ADR's are quoted and traded in US dollars in the US securities
market.

9. Indian companies are permitted to ratse foreign currency

resources through two main sources, (a) FCCB/ foreign currency
convertible bonds, commonly known as 'euro issues' and (b)
issue of ordinary equity shares through depository receipts
namely Global Depository Receipts (GDR) /American
Depository Receipts (ADR) to foreign investors i.e. institutional
investors or individuals (including NRI's) residing abroad. A
depository receipt (DR) is any negotiable instrument in the form
of a certificate denominated in US dollars. An overseas
depository bank against certain underlying stocks/ shares issues

47
 the certificates. The issuing company with the depository bank
deposits the shares. The depository bank in turn tenders DR to the
investors.

10. Indian Securities Market Review of the National Stock Exchange

oflndia, Vol viii 2005, p-51.

11. 'Future' contract is an agreement between two parties to buy or

sell an asset at a certain time in the future at a certain price. It is a
standardised contract, with standard underlying instrument a
. standard quantity and quality of the underlying instrument that
can be delivered (or which can be used for reference purposes in
settlement) and a standard timing of such settlement. An
'Option' gives the holder of an option the right to do something.
The holder does not have the exercise to right. Options are
fundamentally different from the future contract.

12. The 'Wholesale Debt Market' provides the trading platform for
trading of a wide range of debt securities. Its capital market
segment offers a fully automated screen-based trading system,
known as the National Exchange for Automated Trading (NEAT)
system, which operates on a strict price/time priority. It enables
from members across the country to trade simultaneously with
enormous ease and efficiency.

13. Basu, Debashis., Face Value- Creation and Destruction of

Shareholder Value in India, Kensource Information Services P.
Ltd., 2003, p-10.

14. For a detailed discussion on this Issue, refer to Gupta, L.C.,

'Indian Shareowners- A Survey', Society for Capital Market
Research and Development, Delhi., 1991, p-15.

48
15. "Volatility" of the stock market is calculated as standard
deviation of the daily returns for the respective period.

16. Gupta, L.C., 'Indian Share owners: A Survey', Society for

Capital Market Research and Development, Delhi, I 99 I.

17. Hearth, Douglas & Zaima, Janis K., Contemporary Investments

(2e ), The Drydren Press, 1994, p-66.

18. Shah, Ajay. 'The impact of Speculation Upon Volatility and

Market Efficiency: The Badia Experience on the BSE', Centre
for Monitoring Indian Economy, 1995.

19. Shah, Ajay., and Thomas, Susan, 'Securities market

infrastructure for small c~untries', Policy for Small Financial
Systems, A World Bank Project, October 2001, p-28.

49