An internal analysis of the finance ministry shows that overseas lending activity of foreign institutional investors did not have any impact on tumbling of stock prices in India.
Out of 10 companies that were the biggest losers in terms of stock price between 31 December, 2007 and 8 October, 2008, only in case of one company it was found that FIIs overseas lending activity has accentuated the fall in stock prices, a senior official told reporters on Friday, asking not to be quoted. These companies lost over 50% of their stock prices during this period.
In other 9 cases, the correlation coefficient between FII lending of stocks?from their participatory notes inventory to overseas short sellers?and the decline in stock prices of these companies was found close to zero during this time period, the official said. This means overseas lending activity was not responsible for the rapid fall in the stock prices.
Correlation is a statistical measure of how two variables move in relation to each other. Its coefficient ranges between-1 to +1. Perfect positive correlation or a correlation co-efficient of +1 implies that as one variable moves, either up or down, the other one will move in lockstep, in the same direction.
Alternatively, perfect negative correlation means that if one variable moves in either direction the variable that is perfectly negatively correlated will move by an equal amount in the opposite direction.
If the correlation is 0?which the finance ministry found in its internal analysis?the movements of the variables are said to have no correlation; they are completely random. Further, the official said the proportion of securities lent overseas is too small to cause changes in stock prices in the domestic market.
As on October 9, FIIs have lent 19.2 crore securities to overseas investors out of their total holdings of 10,000 crore securities. The total stock lent by FIIs abroad constituted a less than 2% of their total holdings in the 22 companies for which Sebi has collated data, the official said.
As a proportion of market capitalization of these companies as on Oct 9, it is at even lower 0.25%. As a percentage of non-promoter equity, it was 0.58%. Such a small proportion of securities lent by the FIIs to overseas investors cannot have an impact on their prices, the official said.
Sebi has recently disapproved stock lending and borrowing or SLB overseas for short selling by FIIs as it was perceived to be aggravating the fall in the domestic stock market. However, the finance ministry’s analysis has now categorically refuted this linkage.FIIs were using underlyings in the participatory notes to lend shares to short sellers overseas wanting to benefit from the falling market. Short selling refers to selling of shares one does not own and a SLB mechanism facilitates this activity.
The finance ministry’s analysis would remove doubts from the skeptics minds who have been arguing against overseas SLB activity of the FIIs and a consequential ban of short selling. Short selling ideally helps in imparting liquidity into the stocks. One of the reasons short-selling happened overseas was because the domestic SLB mechanism was not found to be robust enough to attract shorting.