Santosh Tiwari: The government's ETF conundrum
The government hopes to get Rs 30,000 crore from disinvesting shares in public sector enterprises this financial year. This is widely considered a challenging target because of the lacklustre nature of the stock markets to begin with. That challenge may just have become tougher because of the alternate route the finance ministry has chosen: the Central Public Sector Enterprises Exchange Traded Fund (CPSE-ETF).
Although the department of disinvestment has gone ahead and appointed ICICI Securities as advisors to the process, the CPSE-ETF has very few takers. It has its catalyst in a recommendation by a committee on fiscal consolidation set up under former Finance Commission Chairman Vijay Kelkar.
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The committee’s report had suggested there are around 50 government-owned companies (all listed) that could be bundled into an ETF. This would help retail investors, who cannot afford to use their meagre resources, to acquire a diversified portfolio.
How? That’s because an ETF is a security comprising stocks from various companies bundled into a hybrid share, a bit like a mutual fund. So, each ETF could comprise stocks from blue-chip public sector companies like ONGC (Oil and Natural Gas Corporation), Bhel (Bharat Heavy Electricals), NTPC, and so on.
The report also says there is an upside in that the costs of distribution and processing of ETFs would be much lower and the reach wider. Investors, thus, could benefit from these savings in the form of lower processing costs.
Market experts, however, think ETF is just a new way of packaging the sale of government stakes in CPSEs and is unlikely to find buyers, unless the product is attractive. In fact, the department of disinvestment does not appear to be entirely convinced of the efficacy of the ETF route either. Documents inviting bids for selecting the advisor has categorically mentioned that the government may decide not to introduce the product at all.
So, why is the government going down this road? Part of the reason has to do with the fact that the government is yet to open its account on disinvestment this year and the sluggish market is forcing it to consider various ways to attract investor interest.
It has also been encouraged by the performance of ETFs on the Indian markets, since the introduction in 2001 of the Nifty BeES, a mutual fund that tracks the S&P CNX Nifty Index. According to a finance ministry study, ETFs have grown substantially in India since then. At present, there are 33 ETFs in the market with assets under management (AUM) of close to Rs 11,500 crore held by 620,000 investors.
The finance ministry study also points out that globally, ETFs have been growing at a rapid pace with an annual growth rate of over 34 per cent in the last decade, with an AUM of $1.5 trillion at present. By 2015, this number is expected to be between $3.1 trillion and $4.7 trillion in 2015.
Perhaps the government has been encouraged in its efforts by the performance of the first disinvestment programme when an average of eight per cent of the shareholding in 30 CPSEs was sold. The attempt here was not quite the same as launching an ETF, but close to it in that shares were offered in bundles classified as “very good", “good" and “average". These were offered exclusively to financial institutions, mutual funds and banks. Against a modest target of Rs 2,500 crore, the government managed to get Rs 3,037.7 crore over two auctions. It was no secret that the success was mostly on account of the buyers being government-owned institutions like Life Insurance Corporation, General Insurance Corporation and Unit Trust of India.
Since then, and as the market for disinvestment was widened, the government has consistently under-performed targets that grew progressively ambitious (see chart).
The crux of the problem with ETFs is the age-old one of governance, which has plagued the disinvestment programme right from the start. “It can’t work. Whatever you do in terms of packaging, only good products sell. There is conflict of interest. The government wants to sell the asset and also to keep control. This makes CPSE stocks unattractive," Dhirendra Kumar, CEO of Value Research, points out.
Certainly, recent government decisions on major listed stocks, Coal India and the three oil-marketing companies (IndianOil, Hindustan Petroleum and Bharat Petroleum), are unlikely to boost investor confidence. In Coal India’s case, the government rolled back an important price rise. Then, it directed Coal India to sign stringent penalty-linked supply agreements with power producers, a move that has attracted legal challenge from a US-based minority investor, The Children’s Investment Fund. As for the oil marketers, their fortunes are entirely linked to government-administered pricing, a political decision that mostly lags global oil pricing and piles on their under-recoveries.
So, any adverse reaction to an event associated with a major company within the basket or concerning the sector can jeopardise the short-term trading of ETFs. A major price dip in the stocks of big CPSEs from say, the oil or mining businesses could trigger the sale of the entire CPSE-ETF.
With the overall perception about CPSEs in India already low, ETFs created with their participation may prove to be another trap for the small investors.
Given these inherent constraints, Prithvi Haldea, chairman and managing director of Prime Database, suggests that a better idea for the government would be to stick to the conventional mode of divesting CPSE stakes directly through the stock market and ensure interventions in their management to a bare minimum, so that investors are genuinely attracted to those stocks.
“Why go for different methods. If you price it right, people will come," he points out, adding, “Give it to retail investors at a discount. Market exists all the time if the offering is good. There have been IPOs [initial public offerings] in the past that have seen very good response from retail investors."
If the government decides to go ahead with the proposal, an asset management company (AMC) will need to be created that will, in turn, develop an ETF based on a specified basket of securities. It is not clear, though, whether the government will create a new AMC or hire private AMCs. In fact, a proposal to turn the department of disinvestment into a holding company that will manage the government’s assets in CPSEs was discussed last year, but was not passed by Cabinet.
Either way, with more than half the financial year over, the government has little time to tap the market for revenue that it badly needs to bridge a ballooning fiscal deficit.