Insights into Grey Market Trading and Grey Market Premium in IPOs

Key Takeaways:

1. The grey market is an unofficial and unregulated market where shares are traded before they are listed on the main exchanges.

2. Grey Market Premium (GMP) is the additional price that investors are willing to pay over the IPO price in the grey market before the stock lists on the exchange.

3. GMP reflects the market sentiment for a particular IPO based on demand-supply dynamics.

4. Traders can foresee the direction of the stock post listing by watching the trends in the GMP.

5. The GMP may not always accurately reflect the listing price, and it can be manipulated, especially for smaller issues.

The grey market is an unofficial and unregulated market where shares are traded even before they are listed on the main exchanges. It is important to understand how shares trade in the grey market and what is at stake for investors. Here’s a detailed explanation of the key aspects of the grey market and the implications for investors:

What is the Grey Market?

The grey market is an unofficial and unregulated market where shares are traded even before they are listed on the main exchanges. In this market, transactions happen in person, unlike exchange trades that see no human intervention. Although these trades happen outside the regulatory purview, they are not considered illegal.

What is the Grey Market Premium (GMP)?

The grey market premium is the additional price that investors are willing to pay over the IPO price in the grey market before the stock lists on the exchange. The stock is traded in the grey market informally, based on mutual trust between traders. For example, if the issue price for an IPO is 500 apiece and the stock is trading in the grey market at 520, the GMP of the IPO will be 20.

How is the Grey Market Premium Calculated?

The GMP usually reflects the demand-supply dynamics of a stock in the IPO. It depends on traders’ perception of how many shares could be allotted in the offering. In the case of large IPOs, it is difficult to manipulate the grey market. However, market experts caution that it is possible to manipulate GMPs, especially for smaller issues. Prices in the grey market also move in tandem with subscriptions in the IPO. Normally, the higher the subscription, the higher the GMP and vice versa. However, if the GMP has an abnormal reaction based on subscription, it is advised to take it with a pinch of salt.

How Can You Buy and Sell Shares in the Grey Market?

To buy shares in an IPO, buyers approach grey market brokers and offer to buy at a price or premium. Brokers then approach potential sellers, who had applied in the IPO. An individual would sell if he or she is not sure at what levels the stock would list and does not want to take the risk of holding it till listing. It must be noted that no physical transfer of shares takes place in the grey market. Once the shares are allocated to the seller, the seller transfers the shares to the buyers through the brokers. These transactions are settled through cash. All transactions are settled at the listing price, and if there is a difference in the listing price and the previous quoted price, then the difference is settled on listing day. The risk of such trades is that they do not fall under the purview of the exchanges and the Securities and Exchange Board of India (SEBI).

What Does the Grey Market Premium Imply?

The grey market premium indicates the market sentiment for a particular IPO based on demand-supply dynamics. If an IPO has seen robust demand, its GMP is high, which implies a potential upside in the stock on listing. Similarly, if the demand for an IPO is weak, the GMP tends to be lower, which points to a modest or weak listing.

How Accurate is the Grey Market Premium?

The GMP may not reflect the exact listing price, but by watching the trends in the GMP, traders can foresee the direction of the stock post listing. A stock usually lists in the range of 15-20% around its GMP price, according to market experts. If the GMP price is 200, then it is likely that the stock will list in the range of 230-240.

Can Grey Market Premiums be Manipulated?

In the case of large IPOs, it is difficult to manipulate the grey market. However, market experts caution that it is possible to manipulate GMPs, especially for smaller issues. There has been speculation over prices being controlled in the grey market for the IPOs of small and medium enterprises in recent months. So, the GMP should not be the only factor to consider while applying for shares in an IPO.

In conclusion, the grey market provides an avenue for trading shares before they are officially listed on the main exchanges. However, investors should be aware of the risks and potential for manipulation in the grey market. The grey market premium can provide insights into market sentiment, but it may not always accurately reflect the listing price. Therefore, investors should consider various factors before making investment decisions based on the grey market premium.

FAQ:

Q1: What is the grey market?

A1: The grey market is an unofficial and unregulated market where shares are traded even before they are listed on the main exchanges.

Q2: What is the grey market premium (GMP)?

A2: Grey market premium is the additional price that investors are willing to pay over the IPO price in the grey market before the stock lists on the exchange.

Q3: How is the grey market premium calculated?

A3: GMP usually reflects the demand-supply dynamics of a stock in the IPO. It depends on traders’ perception of how many shares could be allotted in the offering.

Q4: How accurate is the grey market premium?

A4: The GMP may not reflect the exact listing price, but by watching the trends in the GMP, traders can foresee the direction of the stock post listing.

Q5: Can grey market premiums be manipulated?

A5: It is possible to manipulate GMPs, especially for smaller issues. Therefore, the GMP should not be the only factor to consider while applying for shares in an IPO.