SEBI stress tests: ‘Spooking the markets..’ Expert DECODES

3 months ago
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Sandeep Parekh, former executive director and prominent legal expert at SEBI, asserted that the stress tests imposed by SEBI on different small-cap and mutual fund schemes are causing undue alarm in the market. He highlighted that the calculations conducted by fund houses lack a scientific foundation.

According to a report from ET, Parekh on his X handle stated that, “The analysis assumes liquidity to remain constant at best and extends past trends into the future at worst. However, if liquidity suddenly disappears in a specific stock, it can vanish instantly rather than over a period like 6 days or 14 days, as suggested by certain metrics. Extrapolating analysis may or may not be effective. While liquidity tends to increase with higher volatility, it is not guaranteed.”

He emphasized that predicting market levels or liquidity is not within the regulator’s purview, regardless of how well-intentioned or accurate the predictions may seem. “Attempting to forecast market overvaluation or liquidity disappearance can become a self-fulfilling prophecy,” commented Parekh, who leads the Finsec Law Advisors firm.

He further suggested that such predictive tasks are better suited for academic papers rather than regulatory endeavors.

“The markets exhibit significant second and third-order consequences. Attempts to manage immediate impacts could inadvertently affect other stocks and broader economic activities. It is advisable to adhere to the principle of full disclosure and have faith in the process,” stated the former Executive Director of SEBI and head of the Legal Affairs and Enforcement departments.

In response to SEBI’s directive, mutual funds have commenced disclosing the outcomes of stress tests in small and midcap funds to assess their ability to handle substantial redemptions during a market downturn.

According to a report by ET, Ashwini Kumar from ICRA Analytics believes that investors are keen on striking a balance between risks, and they will pursue opportunities wherever there is value.

He mentioned, “While large-cap stocks will continue to be favored by the market, investors will also seek to include small and mid-cap companies in their portfolios, provided they exhibit inherent strength, aiming to enhance the value of their investments.”

Small and mid-cap funds have demonstrated superior performance compared to large caps over various timeframes, including 1-year, 3-year, 5-year, and 10-year periods, as of February 29, 2024.

Speaking from a macro perspective, Ashwini Kumar emphasized the importance of intrinsic strength for sustainable growth in a country. He stressed that superficial growth is inadequate and that policies implemented by regulators and the government are focused on fostering intrinsic growth. These policies include initiatives to bolster smaller companies, establish robust governance frameworks, and promote financial literacy.

As a result, value creation in small and mid-cap companies is on the rise. Kumar expressed confidence that such measures will attract more retail investors who are increasingly well-informed due to enhanced access to information and research. Consequently, he believes that value investment in small and mid-cap stocks will persist.…Read more by ET Now Digital

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