In recent years, more and more people have rushed to invest in initial public offerings (IPOs) to benefit from the listing day gains. Many IPOs in 2024 have provided investors with good returns. However, gaining a subscription to highly demanded IPOs is often a matter of luck.
This is why many investors turn to the grey market to ensure they don’t miss out on opportunities with fundamentally strong companies going for listing. In this blog, we will discuss what the grey market is and explain what the grey market premium in IPO means.
What is Grey Market?
To understand the grey market in simple terms, let’s approach it from the perspective of the general market rather than the stock market.
The grey market is the legal yet unauthorised, unintended, or informal trade of goods outside official channels. Unlike black markets, grey markets operate within the law, but they often sell products at prices lower than those set by authorised dealers.
Grey markets usually result from substantial price differences for identical products in diverse regions. Traders buy products in bulk from cheaper regions and sell them in more expensive regions, often bypassing official distribution channels. This can lead to issues such as a lack of warranty, support, or authenticity verification for the buyer.
What is Grey Market in IPO?
The grey market in upcoming IPOs refers to the unofficial market where shares of a newly listed company are bought and sold before the official listing date. These transactions occur outside the stock exchanges and are often at a discount or premium to the issue price based on investor demand and market speculation.
What is GMP in an IPO?
The Grey Market Premium in an IPO shows the extra price investors are ready to pay for shares before officially being listed on the exchange. This premium here is set in the grey market.
The GMP is calculated as the difference between the grey market price and the IPO issue price. For example, if the IPO issue price is ₹100 and the grey market price is ₹150, the GMP is ₹50. This suggests that investors anticipate the shares will debut at a price higher than the issue price.
To illustrate this, let’s take a hypothetical example of the IPO of XYZ Company Limited. The IPO issue price was ₹350 per share. In the grey market, shares were trading at a premium of ₹120, meaning the grey market price was ₹470 (₹350 + ₹120). This suggested strong demand and a positive outlook for the company.
Factors Affecting Grey Market Premium in IPO
The grey market premium of the IPO and how it will keep changing until the listing depends on many factors; a few are discussed below.
Market Sentiment
How investors perceive the current market plays a decisive role in determining the GMP. If investors are optimistic and the overall market shows a bullish trend, the IPO will likely exhibit a higher GMP. Remember, positive sentiment encourages higher demand for new listings, which ultimately pushes up the GMP.
Company’s Financial Health
Before investing in any IPO or in the secondary market through a trading app, investors must thoroughly review the company’s financials. For example, suppose the company is experiencing year-on-year or quarter-on-quarter growth in revenue and profit and is effectively managing its debts. In that case, the chances of such companies having a higher GMP before listingcan be high. However, this can be one of the factors, but you must look at other factors before investing.
Industry and Sector Performance
The performance of the industry or sector in which the company operates also influences the IPO’s GMP. For example, if the company about to list on the exchange belongs to the information technology sector but has been underperforming in recent months due to the global crisis and the increasing impact of artificial intelligence, it may not perform well. In such a situation, even with decent financials, the IPO may have a lower GMP and may also list at a lower price than anticipated.
Macroeconomic Factors
Global and national economic conditions can also influence IPO GMP. Factors such as inflation, interest rates, and GDP growth can profoundly impact investor behaviour. For example, high inflation or increasing interest rates may lead to a more cautious approach, reducing the IPO’s GMP.
The Pricing of the IPO
The offer price set for the IPO can significantly impact its GMP. If the IPO is attractive, it can be perceived as undervalued, high in demand and reasonably priced compared to similar companies; and hence, the GMP can be positive. Conversely, if the price is considered too high or overvalued, it may lead to a lower GMP as investors may not be willing to pay a premium.
How Does IPO Trading Work in the Grey Market?
IPO applications in the grey market work similarly to trading IPO shares, with buyers and sellers engaging in transactions. Here is how they work:
- Buyers set the price of an application according to market trends and expectations. Depending on the trend, they may offer a premium to the seller.
- To ensure security, sellers may opt to sell their applications via a grey market dealer.
- Sellers are guaranteed the premium, regardless of whether they receive their share allotments.
- Sellers share their details with the dealer, who then informs the buyer about the transaction.
- The registrar decides how shares are allocated, and there is a chance that the seller may or may not get the allotment.
- If shares are issued, sellers can choose to transfer them into a Demat account or sell them at the agreed-upon price.
- If allocation does not occur, the transaction closes without settlement, but the seller is still awarded the premium.
Note: When trading in an IPO through GMP, the person who takes on the risk of price fluctuations on the listing day is considered the seller.
Conclusion
To wrap up, GMP is a valuable indicator that reflects the market’s sentiment and investor interest in an upcoming IPO. A positive GMP often signals strong demand, while a negative GMP could point to caution. However, it is not a guarantee of future performance, and you, as an investor, should combine GMP with a detailed analysis of the company and market conditions before making any investment decisions.
Now that you are aware of the GMP, you can open Demat Account and start your investment journey today!