In India’s IPO market where many retail investors look to make a fast buck, the unofficial IPO grey market premium is considered a yardstick of how the reception of the stock will be — upon actual listing on the stock exchange. This is precisely why terms such as IPO GMP, Sauda, IPO Kostak, etc., have entered the vocabulary of those who routinely flip stocks. Here is a lowdown.

Not all black ‘n’ white

Until actual listing of shares, which is typically over a week away, there is no way to find out whether the IPO has delivered you gain or loss. But in the IPO grey market, IPO shares/IPO applications informally get bought/sold before listing basis word of mouth. The price is decided by certain parties, and there are no rules/regulations in this market. Everything in the grey market operates based on trust, and hence in this over-the-counter market, deals are done only in-person (no written documents) among a trusted group of individuals.

Settlement is in cash, and thus it is a ‘black’ transaction. There is counterparty risk involved here. Rates vary across cities/ towns, locations, and even among agents. The rates dynamically change too. Market regulator SEBI, stock exchanges and recognised intermediaries have, time and again, warned about the illegal nature of the IPO grey market, yet it thrives.

For law-abiding investors, the IPO grey market serves no real purpose except that the IPO grey market premium (GMP) or discount can be seen as an indicator of future. The higher the GMP, the higher the possibility (not surety) that the IPO stock will witness a bumper listing. Conversely, the lower the GMP, the higher the chance that the issue will flop. But, there are always exceptions to this rule.

Grey market operations

A typical IPO grey market transaction has two parties and an intermediary (agent). For e.g., Amit applies for shares in an IPO (issue price ₹100) and, like others, has no assurance of allotment. Rohit is very interested in the IPO but wants to get assured allotment without going through the IPO channel. So, the agent strikes up a deal. Amit (seller) will get, say, ₹50 per share premium over issue price if he gets successful allotment and sells the shares. Rohit (buyer) will pay ₹100 + 50 per share, and if the listing price is above ₹150, then Rohit makes profit. If not, he tastes loss.

Now, let us understand a few terms you might hear in the IPO grey market.

Kostak: This is the amount paid by an individual per IPO application before shares are listed on the stock exchange. One can fix their profit by buying and selling their entire IPO application on Kostak rates outside of the market. Even if the shares are not allotted in the IPO, the seller gets to keep the kostak amount. During the Avenue Supermart (D-Mart) IPO, Kostak rates had surged to record highs and eventually when the ₹299/share IPO listed at ₹604/share, many made money. However, such high gain instances are rare in the market.

Sauda: In case of ‘sauda’, the deal between the buyer and the seller on the IPO application is valid only if allotment occurs. If there is no share allotment, the deal becomes void. Here, the risk is lower for the buyer of the IPO application. This is why the premium in sauda transactions is usually higher than the issue’s kostak rate. For instance, the subject to sauda rate for SBFC Finance IPO at ₹8,000 is 9 times more than kostak rate of ₹850. For the Concord Biotech IPO, sauda rates are roughly 3 times than kostak. Sauda and kostak rates are known to diverge as the IPO date nears.

GMP: GMP is a short form of Grey Market Premium. GMP is the premium at which the IPO shares are traded in the grey market. Online portals such as chittorgarh.com, ipowatch.in, 5paisa.com, top10stockbroker.com, ipowala.in etc. provide GMP rates for ongoing IPOs (mainboard and SME). Some portals also provide kostak rates and sauda rates. The source of such information is unknown and so you should be wary of unverified information.

Hits and misses

IPO grey market is notorious for being a favourite joint for manipulators. IPO GMP is manipulated ahead of the public issue so as to give a rosy picture. When actual listing happens, those who bought based on GMP find themselves at the wrong side of the bargain. This happens frequently with investors who focus on GMP premium/discount, and disregard the fundamentals such as business model, valuation and management.

When One97 Communications (Paytm) IPO was due to hit the market, there were various GMP figures quoted in different channels. For one share of ₹2,150 (upper end), GMP ranged from ₹100 to ₹950 per share. As the mega IPO started witnessing muted reception, GMP started falling rapidly and then went into discount. The lesson from this episode is that GMP figures should be closely monitored at all times. If there are widely varying numbers, don’t believe in them.

India’s most highly-subscribed IPOs have generally been smaller public issues (less than ₹1,000 crore). Given the ultra low chances of allotment, GMPs are usually higher. We have seen this in case of Latent View Analytics and Paras Defence IPOs where the stocks eventually listed at over 100 per cent premium. Given the strong demand, the GMPs in both cases were strong from early on and sustained.

Retail investors, especially with low capital, should note that IPO stock flipping is not a suitable strategy. Investments done with an eye on the long term are likely to fetch better returns. Many IPO stocks in 2022 such as Fusion Microfinance (up 65 per cent), Ethos (up 75 per cent), Prudent Corporate Advisory (up 97 per cent), and Rainbow Children’s Medicare (up 91 per cent) have had negative listings but thereafter have risen to give handsome gains. Investors can consider investing in offerings such as Edelweiss Recently Listed IPO Fund, which follows the investment theme of investing in recently listed 100 companies or upcoming IPOs.

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