By Sukumar Agarwal
‘Z’ Category Stocks:
Companies trading on NSE, BSE and other stock exchanges in India are categorized in different segments ranging from ‘A’ to ‘Z’ segment. The ‘Z’ category of stocks is the least traded segment among the listed categories. The stocks listed in this group have low share prices and novice investors get attracted to such group for investments.
Stock exchanges in India have different listing norms and agreements for shifting, retaining companies to/in ‘Z’ Group. Generally, when a company fails to comply with the guidelines and listing requirements as provided by a particular exchange board, the exchange may shift it to ‘Z’ Group, may suspend its trading or may even remove it from the ‘Z’ Group. To cite a few norms; companies, failing to submit annual listing fees, yearly annual reports, failing to make demat arrangement with both the depositories; are placed under ‘Z’ Group. NSE has stringent listing rules apart from other exchanges in India.
According to sources at the Bombay Stock Exchange, the maximum companies that do not exist or simply vanish are listed in the ‘Z’ category.
Penny or Micro Cap Stock:
The term “penny stock” and “micro cap” stock have been used to describe a particular segment of the securities market. As both terms suggest, these stocks are generally low-priced securities issued by small companies. A penny stock is an equity security, not listed on NASDAQ (National Association of Securities Dealers Automated Quotation System) and has a price per share that is less than $5. “A true penny stock will have less than $4 million in net tangible assets and will not have a significant operating history. (In other words, if a company has real assets, such as equipment and inventory, and is engaged in some real business, such as manufacturing, then the Division does not consider the stock to be penny stock even though the shares are low-priced.)” . In India, we can attribute such penny stocks to the stocks listed in ‘Z’ Group.
Penny Stocks have long been the attraction of a lot of investors because of the tremendous returns that these stocks can generate in a short period of time. When interest is shown in such stocks and people start investing, witnessing the low share price; the sudden spurt in volume of stocks leads to a high rise in price and that is where the danger exists while investing in these stocks. The promoters and brokers in their interests generally manipulate these stocks and the investors, not well informed of such manipulations are the losers in the game.
Legitimate penny stocks: “There are legitimate companies whose securities trade in the pink sheets (Pink Sheets contain securities lists and price information where securities to be quoted has lowest level of requirements in the market other than the NYSE and NASDAQ) at very low prices. Investment in such a company, held through the company’s formative years, can pay off well.” Such an astute investment requires three things: the ability to choose the right company, the capital to invest and hold the investment, and luck.
Perceiving all the above traits, we can analyze the interdependence of all the three requirements and thereof, sufficing only one aspect of such astute investment would not serve the purpose of investing in such volatile stocks. All three traits have to go hand in hand to be a successful investor in legitimate penny stocks.
Why not invest in Z Group?
On the opening day of trading of a scrip (marketable security of any company) post the revocation of its suspension, there are no price bands in order to allow the market to discover the price of the scrip. Therefore, it becomes difficult to ascertain the rise and fall of the share value. In such situations, many a times the gullible investors buy shares in such scrip’s without knowing the company and studying the market. It is here, where the unscrupulous promoters and brokers through their high-pressure tactics and fabricated information attracts the investors before and after buying of shares and thereby manipulates the price in the market.
Adding to this, it is an accepted fact that the sudden unrealistic price rise of the shares of penny stocks indicates the price manipulations.
The BSE media has urged, “The investing public is requested to note the quality of companies, especially the group in which the scrip is placed at the Exchange before dealing in such scrips. If a sudden spurt in the volume/price is noticed, please exercise caution while dealing in such stocks”
What are these manipulations?
Manipulations are such type of rigging which may be small and large in scale. The purpose of rigging is to entice outside investors who perceive a chance to make quick money in some previously unknown stock.
‘Pump and dump’ method
“By influencing investors with misleading data on a company, fraudulent brokers or companies can hype up the price of a stock, then sell their own shares once the price reaches a certain level. This scam, known as ‘pump and dump’, is practically as old as the stock market.”
Such type of rigging affects the investors. They become victims of such manipulations and lose their money in the deal. Manipulations can happen any time but it is easier when there is all round euphoria.
How rigging works? – The process
The modus operandi is very simple.
An individual or a group generates fake interest in a particular penny stock. Suppose they hold majority of stocks in a company. They will start selling the stock in the open market and at the same time, they will buy stocks over a period of days at progressively high price so that the price accelerates very slowly. Now when they have with them certain amount of shares, they will use high-pressure sales techniques, where they will spread rumours about the company, sending false newsletters and by other viable means create interests among the ordinary investors.
The ordinary investors may, on the merit of the information provided start buying shares of the company. The key of such manipulation is to get large number of buyers and then play the “Pump and dump” method.
When a real demand for the stocks of the company in the market increases, and the share prices shoots up, doubling the amount previously held; the unscrupulous group or an individual sell off chunks of shares at these propped up higher prices. Thus, the gullible investors who did not realize the trick played by the manipulators lose all their money and luckier ones who sell off his/her shares before this scam actually takes place, becomes a part of the tale of hidden riches. But for every miracle, there are thousands of losers.
When there are few or only one ‘market maker’ , penny stocks are susceptible to price manipulation.
The Pump and Dump of companies stocks has grown in number recently, mostly because of the Internet. The Internet has provided a vehicle for the communication of stock or company information at very low costs to large numbers of people. In chat rooms, these scams takes place so frequently that the buyers lose their money in minutes. A classic example is here forth-
“A press release was posted to the room and a wrong stock symbol was posted as if it was the company mentioned in the release. The release spoke of some kind of big order from a major company. The stock of the company whose symbol was wrongly posted in the chat room began to see buyers. The stock ran from around $2.00 to over $4.00 in about five minutes. Then someone posted to the chat room that the symbol was wrong and yep! The stock price plummeted back to below $2.00 in less than a minute. There were many who made money and many more who had big loses.”
Who makes easy money?
A common and easy manipulation is for a broker-dealer to gather a large holding of a penny stock at a very low price. “With high-pressure sales techniques, they hype the stocks and stirs up demand, which seemingly justifies the continual rise in prices given by the broker-dealer (which is probably also the only market maker). The price continues to rise until there are no more investors who will buy, and then the bottom falls out and the price plummets.” Here, the broker-promoter nexus plays the role of rigging. The bottom falls out when both of them start disinvesting; steadily sending the share’s price downwards and there, they make a killing by selling high and buying back the shares when the share price hits the bottom. This is a neat way promoters have come up making money in the penny stocks.
‘Z’ group investors –
Investors should exercise caution while investing in the same and do some basic research before jumping into such penny stocks, which promise to triple in a month just because they have doubled in the last month.
A leading stockbroker from Surat said, “Investors should keep a close watch on fly-by-night operators especially falling in the Z category. They should wait for some time and watch the market carefully before investing.
Brokers are a fruitful source of information. If such person’s interests rests on rigging, then the investors should avoid such brokers who may guide them in investing in capricious small cap sectors. Investors should understand that the brokers are the principal ones in making business. In such situations, it is expected that the investors would do basic research before investing in any stock.
Investment in a legitimate emerging company is long-term. A good little company is not going to skyrocket in a couple of weeks. Building a sound company takes years; you have a few days or weeks to decide whether the investment is right for you. Investors have to understand this phenomenon. Sudden increase in share price of a company does not conclude the soundness of such company. It only construes the rigging played by some market makers.
Kirit Somaiya, President of Investors’ Grievance Forum, warns investors against ‘Z’ Group companies. He affirms, “Investors who invest in capital markets should be beware of companies whose stock prices have seen a steep rise within a few weeks. They should not invest into such companies falling in the Z category of BSE.”
Leaping over another facet of penny stock investment; in the US, “penny stocks are considered as a separate category and there are specialists in penny stocks who considered it as a different mode of investment altogether. These specialists do research on penny stocks and then try and sell the idea to investors, showing how their investments can yield high returns in a short time.”
Such investments do require much awareness and such rigging requires stringent actions to be taken by the stock exchanges and SEBI. The mere presence of these ‘Z’ category stocks is a menace and their removal would naturally curb speculations. SEBI officials are in the process of delisting ‘Z’ category stocks from the market but are facing many other difficulties regarding the delisting norms, rights of the existing shareholders if removed, mismatch between new and current listing norms, stock exchanges not penalizing companies committing lapses of listing requirements and many more.