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6 Aug, 2024
5 mins read
The success of an Initial Public Offering (IPO) is often gauged by the premium at which shares are traded in the grey market. Grey Market Premium (GMP) is a standard term in IPO circles, but it may require explanation for new investors. This article explores GMP and its associated details.
A Grey Market in IPO refers to the unofficial market where shares of an upcoming IPO are traded before they are officially listed on a stock exchange. It's called "grey" because it operates outside the regulations of regular stock exchanges and the Securities and Exchange Board of India (SEBI).
In this market, investors can buy or sell IPO shares based on speculation about potential stock performance post-listing. It functions as a parallel market for stocks, with transactions occurring in cash and on a personal basis. However, it comes with risks due to its lack of regulatory oversight.
Grey market stocks are shares of companies not listed on official stock exchanges but traded informally through private transactions.
These stocks are often offered before an IPO and are managed by a small group of individuals based on mutual trust. While this type of trading is legal in India, trades in grey market stocks are unofficial. Settlements occur only after official trading begins. The higher risks and limited protections highlight the need for caution and thorough research before investing through this route.
Trading in the grey market is categorised under two types. This includes,
This type of trading in the grey market involves buying or selling shares of upcoming IPOs before they officially debut on stock exchanges. Investors speculate on potential price movements based on demand and prevailing market sentiment.
This type of trading in the grey market involves buying or selling IPO applications at a specific rate or premium. It lets investors speculate on the likelihood of getting IPO allotments and the potential profit from selling them at a higher price.
Trading in grey market, although unofficial, is legal in India. The grey market for any IPO begins from the news of the said IPO till a day before its listing. The top features of trading in the grey market include,
This market provides early access to potential buyers and sellers before the official launch or listing of shares on the stock exchanges.
High speculation drives the grey market premium, which is based on expectations of the company’s performance once the shares are listed and demand-supply forces.
Deals in the grey market are typically conducted through informal channels or networks and on telephones with no official or registered dealers but simply based on trust and referrals.
Settlement of trades in the grey market occurs in cash after the IPO shares are officially allocated and listed. Any default from any party cannot be penalised as this market isn’t regulated.
This inherent risk of trading in the grey market due to a lack of regulatory safeguards makes it imperative for participants to be cautious and make informed decisions.
The pros and cons of grey market trading are tabled below.
|
Pros of Grey Market Trading |
Cons of Grey Market Trading |
|---|---|
|
Early market access for buyers and sellers of shares in an IPO |
High-risk market due to lack of regulatory framework |
|
Potential for profits through market speculation |
Legal, but unofficial market, hence, can be unreliable |
|
Potential to gauge market sentiment and demand for the IPO |
Potential for losses when shares list at a price below the GMP |
|
Higher liquidity from IPO shares before allotment |
GMP is subject to high volatility and is unpredictable |
|
Potential to profit for sellers despite no allotment |
Limited access to retail investors |
Grey market premium (GMP) presents an opportunity to make higher profits before and during the IPO process than the listing price revealed at the end of the IPO process. This market enables investors to gauge the market sentiment and the IPO performance which can help investors and traders make informed decisions. However, this is a highly unregulated market without any remedies in case of default by any party. Hence, it is advisable to exercise caution and conduct thorough research to effectively navigate the high-risk environment of grey market trading.
GMP measures investor demand and market sentiment before the shares are officially listed. A high GMP suggests strong interest and the potential for the shares to list at a premium, while a low or negative GMP may indicate weaker demand and a risk of listing below the issue price.
The GMP is the premium or the extra value that investors are willing to pay for the IPO in the grey market. The formula to calculate GMP is, GMP = Grey Market Price of the Issue - IPO Issue Price
A high GMP (Grey Market Premium) means that the shares of an upcoming IPO are trading at a significantly higher price in the grey market compared to the IPO issue price. This indicates strong investor demand and positive market sentiment towards the IPO.
The Kostak rate is the price at which an investor can sell their IPO application to another party in the grey market, regardless of whether they get the share allotment. Thus, the seller essentially guarantees a profit regardless of the actual IPO outcome.
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