STEER CLEAR OF THE BEAR

This write-up is directed at viewing recent cases of bear cartel targets and explaining the thought process of a bear-cartel. To start with, a bear-cartel employs a ‘choose and shoot’ policy taking down the investments of the retail investor in the company and the reputation and market capitalization of the company.

Recent times have witnessed a heightened activity by the bear-cartel. Stark examples of victims of this cartel are ICICI, Rolta, Ruchi Soya, Unitech and Educomp. While the bear cartel carefully picked targets in the past and had to plot extensively in order to manipulate stock prices, such is not the case in current times.

After the Satyam Computer Services Ltd. scam by its promoter who had an impeccable image - Mr. Raju, the cartel has discovered for itself an environment, where it can easily plant doubts in the minds of investors and manipulate stock prices. The retail investors, after the Satyam debacle, have begun to doubt the security of their investments. In this scenario, any well- planted negative rumour can catalyze panic in the investors, hurting both the company and the retail investor.

The cartel co-ordinates its efforts so that it is able to drastically bring down the price of a particular stock. It starts selling or shorting mass quantities of a company’s stock thus driving the price down by significant numbers. The work of a bear cartel(s) can be likened to the methods of a mafia. A target is chosen and a hit is placed on it. The cartels then shoot down the stock price to make profits. The modus operandi is simple – plant doubts through effective tools in a favourable environment for such rumours.

The doubts could vary from - promoters having pledged their holding in the company, unknown subsidiaries having been floated by the company, funds being parked somewhere instead of being beneficially used for company growth, etc. The tools of communication can be anonymous letters to media and analysts, sms viral, fake websites posing as investment counselors, etc. The target companies usually are the ones with high EBIDTA margins in relation to their competitors or their valuation is considered slightly ‘excessive’.

The method of these market operators is to short sell the companies’ stock in the futures segment in National Stock Exchange and Bombay Stock Exchange, with advance knowledge of certain media reports and public announcements. These media reports and announcements are aimed to create a panic like situation and drive down the stock price of the company and thereby profiting from the ensuing panic selling. This enables the short sellers to cover their positions at a much lower price and therefore make huge profits. The sum total of this nexus is manipulative in nature and inherently illegal.

In the case of Rolta, shares fell 60% in a single day on speculation that stocks pledged by promoters have been sold by financiers. Rolta wrote to Sebi on January 14. “We have asked the regulator to look into the unusual trading pattern in our stock. We have reasons to believe that a group of people is trying to hammer our stock.”

The same cartel is being suspected for spreading the rumour about ICICI being highly exposed to Lehman Brothers, soon after it went bust. Only the intervention of the central government stopped the panic selling.

On October 24th 2008, Unitech’s stock fell by over 50% in a single day and has not recovered since. Unitech share price plunged following reports that the firm defaulted on payments to Greater Noida Development Authority for a land deal struck in 2006. There was no default whatsoever and even Noida Authority had given a clarification.

In the latest case, shares of Educomp were hammered on market talks that its accounting practices were questionable. The company refuted these allegations and also filed a complaint with the economic offences wing of the Crime Branch, saying that some vested interests were trying to beat down the stock price by spreading false information.

A damaging article published in an English daily, “After Satyam, Educomp under scanner for fudging accounts”, on its front page on 20th January. Educomp falls by 6.7% on that day and a further 22.7% on the next day.

Analysis of trading patterns on the 19th of January (a day before the article was published) reveals the following:
A) Volumes of Educomp futures surged 67% (compared to a 27% decline in F&O volumes in the market), B) Open Interest surged 17.6% (compared to 4% for NIFTY futures), C) Difference between spot and future price surged to an abnormally high, Rs. 219 or 10.4% of the spot price, and, D) Educomp cash volumes also surged 29% (compared to a 20% decline in the market volumes for this day).

This shows that there was massive short selling in the market, a day in advance, of the actual news report, which points to the fact that there were market operators which had advance information of the media report and points towards a cartel.

An official source from the Ministry of corporate affairs was quoted in the Television Media as saying that “Educomp’s books of accounts will be inspected under section 209A”on Monday, 2nd February. Educomp’s stock price fell by 18% in the following two days.

An analysis of market data on the 30th January and 2nd February (exactly two trading sessions and a trading session before the announcement respectively) reveals the following:
A) Volumes of Educomp futures surged 28% on January 30th and 30% on Feburary 2nd (compared to a 35% and 1% decline in F&O volumes for the market on those two days respectively), B) Open Interest surged 229.7% on January 30th and a further 27% on February 2nd (compared to a decline in NIFTY futures volumes of 29% and 4% respectively), C) Difference between spot and future price surged to an abnormally high, Rs. 309 or 18.1% of the spot price, and, D) Educomp cash volumes also surged 54% (compared to a 12% decline in the market volumes for this day).

This, again, establishes that there were short sellers in the market that had prior information that a certain announcement was going to be made in the evening of February 2nd and establishes a nexus between the announcement and the short selling behaviour.

An interesting point to note is that all of the above companies have proactively approached the SEBI to investigate. A SEBI probe is being welcomed by these companies, instead of shying away from it. Most of the companies have also approached the Economics Offence Wing of the Crime Branch to investigate the origin of the rumours.

Educomp has appointed Grant Thornton as an auditor to investigate its books – a proactive move to allay the fears of investors.

To conclude, while the relevant authorities are closing in on the bear cartel, we, as retail investors must understand that giving way to panic is not the solution. The method to be adopted in these times is to understand the account keeping and business of the company and listen to information which has its origin in a reliable source and is not speculative in nature.

[Look out in this space for a point by point analysis of each of the above companies. Also, I invite requests in case you need analysis on any company.]