Project

Report on
the Indian
Capital
Market
 An exclusive project report on the Indian Capital
Market. This report will help you to learn about:- 1.
Meaning of Capital Market 2. Featurtes of Indian Capital
Market 3. Instruments 4. Working 5. Reforms 6.
Importance or Functions 7. Defects 8. Suggestions for
Improvement.
Contents:
1. Project Report on the Meaning of Capital Market
2. Project Report on the Features of Indian Capital Market
3. Project Report on the Instruments of Indian Capital
Market
4. Project Report on the Working of Indian Capital Market
5. Project Report on the Reforms of Indian Capital Market
6. Project Report on the Importance or Functions of
Capital Market
7. Project Report on the Defects of Indian Capital Market
8. Project Report on the Suggestions for Improvement of
Indian Capital Market
1. Project Report on the Meaning of Capital Market:
The capital market is a market which deals in long-term
loans. It supplies industry with fixed and working
capital and finances medium-term and long-term
borrowings of the central, state and local governments.
The capital market deals in ordinary stock is, shares and
debentures of corporations, and bonds and securities of
governments.

The funds which flow into the capital market come from
individuals who have savings to invest, the merchant
banks, the commercial banks and non-bank financial
intermediaries, such as insurance companies, finance
houses, unit trusts, investment trusts, venture capital,
leasing finance, mutual funds, building societies, etc.

Further, there are the issuing houses which do not

provide capital but underwrite the shares and
debentures of companies and help in selling their new
issues of shares and debentures. The demand for funds
comes from joint stock companies for working and fixed
capital assets and inventories and from local, state and
central governments, improvement trusts, port trusts,
etc. to finance a variety of expenditures and assets.

The capital market functions through the stock

exchange market. A stock exchange is a market which
facilitates buying and selling of shares, stocks, bonds,
securities and debentures. It is not only a market for old
securities and shares but also for new issues shares and
securities.

In fact, the capital market is related to the supply and

demand for new capital, and the stock exchange
facilitates such transactions. Thus the capital market
comprises the complex of institutions and mechanisms
through which medium-term funds and long- term
funds are pooled and made available to individuals,
business and governments. It also encompasses the
process by which securities already outstanding are
transferred.

2. Project Report on the Features of Indian Capital

Market:
The capital market in India consists of unorganised and
organised markets. The unorganised sector, also known
as the informal sector, comprises indigenous bankers,
moneylenders, etc. who operate in the small industry
sector, in trade and agriculture.

A large part of private savings are invested by people in

their own businesses. Many people invest in the
enterprises of their relatives and friends. Large chunks
of black money and wealth flow freely between the
unorganised and organised sectors. Thus the
unorganised capital market in India is unsystematic
with no uniform policy relating to interest rate charged,
maturity of financial assets, etc.

It is free from any regulation and control though efforts

have been made towards this direction by the
Government of India and the Reserve Bank. On the
other hand, the organised capital market comprises a
variety of financial institutions which mobilise private
savings in various ways and provide long-term funds to
the capital market.

They are – UTI, IFCI, ICICI, IDBI, IRBI, LIC, GIC, SIDBI,
State Financial Corporations, State Industrial
Development Corporations, commercial banks,
merchant bankers, leasing companies, venture capital
companies, mutual funds, housing finance banks, Stock
Holding Corporation of India, and Discount and Finance
House of India. The organised sector of the Indian
capital market is regulated by the Securities and
Exchange Board of India (SEBI).

3. Project Report on the Instruments of

Indian Capital Market:
The Indian capital market deals in a variety of securities
or instruments to serve the requirements of borrowers
and investors of funds. These differ in nature, maturity,
interest rate, dividend, liability, ownership, voting’
right, etc.

The various capital market instruments are the

following:
(1) Corporate securities which include preference,
bonus and rights issue shares, stocks, bonds,
convertible and nonconvertible debentures, etc., and
PSULs (public sector undertaking) bonds.

(2) Shares issued by mutual funds under their income,

growth and tax planning schemes such as UTI Master
Shares, UTI Master Growth, Canshare, Cangrowth, SBI
Magnums, GIC Growth Plus, Gold share, Starshare, etc.

(3) Government bonds and securities issued by the

Central and State Governments and local bodies. They
are also known as gilt-edged securities. Recently, a
variety of innovative and hybrid instruments have been
introduced to attract more investors for new issues like
warrants attached to convertible and non- convertible
debentures, secured premium notes attached with
warrants, deep discount bonds, accident insurance
attached with warrants and non-convertible debentures
with sale of khokhas to banks, zero-coupon bonds, zero-
Interest bonds, etc.
Security Market:
On the basis of instruments or securities, the capital
market in India is divided into the gilt-edged market and
industrial security market.

(1) Gilt-edged Market:

It is the market for Government securities. Central and
State Governments and local bodies sell long-term
bonds or securities to the public, banks and financial
institutions. These bonds are backed by the Reserve
Bank. They carry lower interest rates than bonds issued
by companies. But they attract more investors because
they carry a variety of tax incentives and rebates on
income tax and wealth tax. They are less risky, more
safer and more liquid than industrial securities.

(2) Industrial Security Market:

This market deals in a variety of new and old shares and
debentures of commercial, financial and industrial
concerns. It is divided into the primary market and the
secondary market.

(a) The Primary or New Issues Market:

The primary capital market is for new issues by public
limited companies in the form of new capital issues
directly to the public in the form of shares, fully
convertible debentures, non-convertible debentures,
preferential issues of shares and debentures, and rights
issues at par or at a premium.

Capital is also raised by companies in the primary

market by private placement whereby shares are sold to
specific group of investors such as relatives, friends, and
holders of shares of the same industrial group or house.
Merchant bankers, mutual funds, commercial banks
and other financial institutions operate as underwriters
and lead managers. They help in mobilising the savings
of the public in new issues market and channelising
them into productive uses by trade and industry.

(b) The Secondary Market:

It is the market which deals in shares and debentures at
the stock exchanges. Such a market is also known as the
stock market where various types of shares and
debentures are actively traded by brokers, mutual funds
and NBFIs like the UTI, GCI, etc. Presently, there are 22
recognised stock exchanges operating in the secondary
market in India.
4. Project Report on the Working of Indian Capital
Market:
India is one of the few countries among the developing
nations where the Bombay Stock Exchange began to
function as early as in 1874, where the Government
securities and bonds issued by Port Trust Municipal
Corporation, etc. were traded. At the time of partition in
1947, there were nine stock exchanges on the Indian side
at Mumbai, Kolkata, Chennai, Ahmedabad, Delhi,
Kanpur, Hyderabad and Bangalore. They traded in
ordinary and preference shares of the British Managing
Agency houses and of Indian companies such as the Tata
Iron and Steel Company, in addition to Government
securities.

In the early 1950s, the capital market in India helped to

mobilise financial resources for the corporate sector.
But with the nationalisation of insurance companies in
1956, the State Bank of India in 1955, the establishment
of development banks like IDBI, ICICI, IFCI, etc., and
the nationalisation of 14 commercial banks in 1969, the
capital market suffered a setback, because subsidized
credit was available to trade and industry from these
institutions. Consequently, companies had to issue
equities at a discount substantially below market value.

With the amendment of the Foreign Exchange

Regulation Act (FERA), the expansion of foreign owned
and controlled companies was limited. Accordingly, the
FERA companies were required to dilute their capital by
issuing new capital either at par or at an approved
premium to the Indian shareholders. This led to the
issue of 40 per cent of their shares at low prices to
Indians.

The capital market continued to grow substantially

during the 1980s as various measures were taken to
stimulate both demand and supply in the capital market.
The Government gave a number of incentives to equity
and debenture issues such as reducing the corporate tax
rate for listed companies and allowing higher interest
rate for debentures above that for fixed deposits but
below that for bank loans. Besides, the companies were
authorised to use cumulative and convertible preference
shares and equity-linked debentures, and investors were
given tax incentives in new issues.

Thus the Indian capital market was undeveloped till the

1970s. For instance, during the Fifth Plan (1974-79), Rs.
551 crores were raised from the primary market. The
secondary market was also very small with only 8 stock
exchanges, 1203 listed companies, Rs.2600 crores of
market capitalisation which was 7.6 per cent of GDP and
with less than one million investors. Since the 1980s
both the primary and secondary capital markets have
been showing remarkable growth. In 1995-96, 1704
companies raised Rs. 22,918 crores from the primary
market.

The secondary market had a phenomenal growth. At

present there are 22 stock exchanges in India with over
6,500 listed companies, thus putting India a little behind
the United States. There are 15 million shareholders, the
second largest in the world after the United States.

The total market capitalisation of the Indian stock

market is $ 138.6 billion. The Indian capital market has
thus emerged as one of the important markets in the
world. It has been identified as the primary source of
finance for the private and public sectors in the Eighth
Five-Year Plan, in which it was estimated to raise Rs.
50,000 crores.

Despite the rapid growth of the capital market in the

1980s, a number of abuses existed such as insider
trading, price rigging, inadequate, vague and misleading
prospectuses of companies, delays in share allocation
and in issuing refund orders and manipulation of prices
in stock exchanges. The capital market was less liquid
and lacked in transparency thereby providing little
protection to investors.
5. Project Report on the Reforms of Indian Capital
Market:
On the recommendations of the Narasimham
Committee and other committees and groups appointed
by the Government of India from time to time, a number
of measures have been taken up to reform the Indian
capital market.

These are listed below:

(A) Securities and Exchange Board of India (SEBI):
On 31 March, 1992, the Securities and Exchange Board
of India was established as an autonomous and
statutory body. With the repeal of the Capital Issues
Control Act, 1947 in May 1992, the office of the
Controller of Issues was abolished from 29 May, 1992.

The SEBI is the regulatory authority to oversee the new

issues, protect the interests of investors, promote the
development of the capital market and to regulate the
working of stock exchanges. It has initiated a number of
measures in these directions such as registration of
intermediaries, strict disclosure norms, regulations on
insider trading and inspection of the functioning of the
stock exchanges and mutual funds, etc.

These and other measures explained below are Likely to

impart confidence in investors.
(B) Primary Market Reforms:
The following measures have been taken up to reform
the primary or new issues capital market in order to
remove the inadequacies and deficiencies in the issue
procedures.
(1) The control over price and premium of shares has
been removed. Companies are now free to fix the price
and premia of shares and debentures after clearance
from the SEBI. Vetting of offer documents is not done by
the SEBI.

(2) Companies issuing shares and debentures in the

primary market are required to disclose all material
facts and specific risk factors associated with their
projects. They are also required to disclose the basis of
calculation of premium on equity issues.

(3) The minimum percentage of securities to be issued

to the public has been fixed at 25 per cent.

(4) Minimum subscription for public issue has been

fixed at Rs. 2000 in the case of an individual w.e.f.
1.11.1996.

(5) The SEBI has ensured through an advertisement

code that advertisements do not contain such
statements which may mislead the investors.

(6) The allotment procedure requires that shares are

allotted on a pro-rata basis and mutual funds and
foreign institutional investors (FIIs) are allowed firm
allotment in public issues.

(7) A SEBI representative supervises the allotment

process in the case of oversubscribed public issues.

(8) Bonds of Public Sector Undertakings (PSUs) have

been brought under the regulatory authority of the
SEBI.

(9) NRIs and overseas companies are free to invest in

the Indian capital market without the prior approval of
the RBI.

(10) FIIs have been allowed to invest in the capital

market on registration with the SEBI and foreign
brokers are allowed to assist them on the same
condition.

(11) The stock exchanges have been directed by the SEBI

to collect from companies making public issues a
deposit of one per cent of the issue amount which is
liable to forfeiture in case the companies do not comply
with the listing agreement, and do not despatch the
refund orders and share certificates by registered post
within 3 months of allotment.
(12) The company is required to complete the allotment
of shares within 30 days of the closure of the issue.
Thereafter it is required to pay interest at the rate of 15
per cent per annum.

(13) Banks have been permitted to operate in the

secondary market since November 1996.
(C) Secondary Market Reforms:
The SEBI has also introduced a number of regulatory
and supervisory measures for intermediaries in the
secondary market. Specific rules and regulations have
been laid down for intermediaries in the secondary
market. They are the merchant bankers, portfolio
managers, underwriters, registrars, brokers and sub-
brokers, and share transfer agents.

They are required to adhere to specific capital adequacy

norms, meet certain eligibility criteria and follow a code
of conduct towards investors.

They also provide for action by the SEBI in case of

default. Some of these are as under:
(1) All brokers are required to register themselves with
the stock exchange in which they wish to operate.
(2) The capital adequacy norms laid down by the SEBI
for stock brokers are: 3 per cent for individual brokers
and 6 per cent for corporate members.

(3) Stock Exchanges have been directed to ensure that

contract notes are issued by brokers to clients within 24
hours of dealings. Time limit has been laid down for
payment of sale proceeds and deliveries by brokers and
payment of margins by clients to brokers. Penalties have
been provided for default.

(4) To control rigging of prices and other malpractices

in the stock exchanges, the SEBI has introduced such
measures as penal margin on net undelivered portion at
the end of the settlement, special margin for buyers in
case of rise in share prices, joint suspension of trading
by stock exchanges in case of price stipulation, etc.

(5) To bring greater transparency in transactions,

Brokers are required to maintain separate accounts for
clients and for themselves. The contract notes issued to
clients must contain the transaction price and brokerage
separately.
(6) Share jobbers have been introduced in the stock
exchanges who simultaneously display buying- selling
rates of scrips in which they are doing jobbing.

(7) Stock brokers are required to have their books

audited, and audit reports are required to be filed with
the SEBI every year.

(8) The SEBI has broad-based the governing boards of

the stock exchanges and has changed the composition of
their arbitration, default and disciplinary committees.

(9) The SEBI has started the inspection of the working of

stock exchanges.

(10) The trading in the stock exchanges has been fixed

for three hours instead of the earlier two-and-a- half
hours.

(11) Failure to comply with the instructions issued by the

SEBI on the working of stock exchanges, will invite
penalties including fines and suspension from trading.

(12) Screen-based on-line trading has been introduced

by NSE, OTCEI, and major stock exchanges like
Mumbai, Delhi, etc.
(13) Efforts are being made to revamp the operations of
stock exchanges in India. The lead has been given by the
Bombay Stock Exchange which has introduced several
changes to revamp its operations such as making the
BOLT system operational for all the scrips, regrouping
of shares, and introduction of weekly settlements for A
and B group shares, dealing in odd lot shares, etc.
(D) Institutional and Market Development:
Besides the establishment of SEBI, the Government has
initiated the following steps for institutional and market
development.

(i) Market Makers:

Steps have been taken to promote the emergence of
market makers. Since in the stock exchanges not more
than 20 per cent of the scrips are actively traded, the
holders of the majority of other scrips do not find
sufficient liquidity. The institution of market makers is
meant to rectify this lacuna.

The market maker is required to make a market for a

minimum of, say, five scrips (equity shares) which are
not included in group A traded shares at a stock
exchange. Market makers are required to offer two-way
quotes for a minimum period of 18 months from the
date on which the securities (shares) are admitted for
dealing.

The minimum quantity offered or bid for at any price

has to be three times the market lot (either 50 or 100).
Moreover, the bid-ask spread (difference between
quotations for sale and purchase) cannot exceed 10 per
cent. Unlisted companies planning public issues below
Rs5 crores are required to appoint market makers on all
stock exchanges where the share is proposed to be
listed.

To ensure that market makers are able to impart

liquidity to scrips and reduce volatile movements in
share prices, the RBI issued guidelines on 5 August,
1993 regarding bank financing of their operations.
Market makers require financial support from banks
like other traders.

Banks have been permitted by the RBI to exercise their

commercial judgement in determining the working
capital requirements of market makers which are
different from those laid down for traders. Market
makers are approved by the SEBI on the
recommendations of the stock exchanges.

(ii) Foreign Institutional Investors (FIIs):

FIIs such as pension funds, mutual funds, asset
management companies, investment trusts, nominee
companies, and incorporated or institutional portfolio
managers have been allowed to operate in the Indian
capital market. The SEBI has simplified the common
application forms for registration with it by FIIs.
Foreign brokers have also been allowed to assist FIIs
and operate on their behalf to buy and sell scrips in the
Indian stock exchanges.

They have been permitted to open bank and custodial

accounts. Foreign firms have also been allowed to set up
joint ventures in the financial sector. Portfolio
investments by FIIs are subject to a ceiling of 24 per cent
of issued share capital for the total holdings of all
registered FIIs in one company. To attract FIIs to
participate in the Indian capital market, a number of
concessions have been provided to them.

They have the right of repatriation of capital, capital

gains, dividends, and income received by way of
interest. They have been given tax concessions at a flat
rate of 20 per cent on dividend and tax rate of 10 per
cent on capital gains. The cumulative net FII investment
was more than 47 billion on 31 March, 2003

(iii) Selling in Global Markets:

There has been globalisation of Indian equity with the
selling of scrips by Indian companies in the
international capital markets. During 2002-03, Indian
companies had raised Rs. $ 600 million by issuing
foreign currency convertible bonds and shares through
the global depository receipts (GDRs) mechanism. The
selling of scrips in global markets and the entry of FIIs
in the Indian capital market reflect the confidence of
international business community in India’s sound
financial system.

(iv) Over-the-Counter Exchange of India (OTCEI):

Over-the-counter exchange of India has been promoted
jointly by ICICI, UTI, IDBI, IFCI, GIC, L1C, SB1 Capital
Markets, and Canbank Financial Services. It has been
registered as a stock exchange with the SEBI and has
commenced its operations from 6 October, 1992.
Its main aim is to provide small and medium companies
an access to capital market in order to raise capital in a
cost effective manner. It is also meant to provide a
convenient and efficient avenue for investors in the
capital market. OTCEI is a ring-less, electronic and
national exchange which trades in selected scrips and
debt instruments. It is a regulatory body which
supervises, monitors and controls the trading activity at
OTC (over-the-counter).

It is a national stock exchange in the sense that all the

scrips listed with the OTCEI are traded over its counter
throughout the country. No separate listing at different
places is needed unlike the regular stock exchange.
Companies can make public offer in two ways. In the
case of a new issue, a company can offer its shares
directly to the public through a sponsor. But in the case
of a secondary issue, the company may first offer its
shares to the sponsor who can make a public offer later
on at a convenient time. This is the “indirect offer”
where the pricing of the shares is done by the sponsor as
per SEBI guidelines.

The OTCEI listed share-issue application forms are

similar to the normal public issue forms of companies.
But it has the name of the sponsor who is solely
responsible for appraising the company, to its listing
and to trading. In the event of under-subscription, he is
responsible for putting in the required money.

The OTCEI approves the allotment of shares with the

Registrar to the issue and takes it for listing with itself.
All refund/allotment letters are issued to subscribers
within 28 days of the closing of the issue. All share
certificates remain with the Registrar and are not sent to
the shareholders. The shareholders are issued Counter
Receipt (CR) which is a tradeable document.

The shareholder wanting to sell his shares has to give

the CR and the transfer deed at the OTC. He receives in
exchange a sales confirmation slip. After verification
from the Registrar, the seller receives the sale note and
the cheque from the OTC. The OTCEI operates at
Bombay with regional windows at other metropolitan
cities and representative offices in a few major cities.

The OTC scan screens display selling and buying prices

of OTCEI listed shares and debentures at which market
makers are willing to buy and sell. The exact transaction
price is displayed at the OTC computer. The
Infrastructure Leasing and Financial Services (ILFS) is
the compulsory market maker for debt instruments in
which the OTCEI deals in. For scrips, there are separate
market makers appointed by it.

(v) National Stock Exchange of India (NSEI):

The NSEI has been jointly promoted by IDBI, ICICI,
IFCI, GIC, LIC, SBI Capital Markets, SHCIL (Stock
Holding Corporation of India Limited) and ILFS as a
limited company. It has been recognised by the
Government of India from 26 April, 1993. Its main
objective is to have a comprehensive nationwide trading
facility in scrips, debentures and PSUs bonds to
investors through electronic screen-based trading, post-
trade clearing and settlement.

It is an order-driven system where there are neither

jobbers nor market makers. It operates in two
segments: in wholesale debt instruments and in capital
market instruments. In the first segment are included
such instruments as Government securities, PSUs
bonds. Units 64 of UTI, CDs, CPs by banks, institutions
and brokerage houses, etc. The second segment includes
equity and corporate debt instruments traded by the
financial companies and individuals.
The capital market segment follows a weekly settlement
cycle with all settlements completed within seven days
of the last trading day of the cycle. The NSEI is an on-
line, screen-based and scrip-less trading exchange
which enables buyers and sellers to operate from
anywhere in India. In its effort to further improve the
settlement system and minimise risks associated
therein, the NSEI has set up a subsidiary, the National
Securities Clearing Corporation (NSCC). It guarantees
settlement of trades executed and settled through it.

(vi) National Securities Depository Ltd. (NSDL):

On 8 November, 1996, India’s first depository, the
National Securities Depository Ltd. (NSDL) was started.
It has been jointly promoted by the IDBI, UTI and NSEI.
Initially, it will start dematerializing the shares of ten
companies. They are ACC, BPCL, Cnsil, LML. HDFC,
ICICI, L&T, RIL, TISCO and Siemens. The depository
participants of the NSDL are SCHIL, NSCC, IDBI, ILFS,
Global Trust Bank, HDFC Bank, IIT Trust Corporate
Services, Citibank, Morgan Stanley Custodial, SBI, and
Standard Chartered Bank.

A depository is a bank for share certificates. The

investor operates his account in the depository in the
same way as a bank account. Shareholders have the
choice of continuing with the share certificates or opt
for the depository mode. Those opting for the latter will
send the share certificates through the “participants”
which will be “dematerialized” and the names of the
owners would be registered in the electronically
operated registers of the depository or participants.

The NSDL will enable investors to settle “paperless”

transactions through electronic book entry adjustment.
It will, thus provide an alternative to the paper-based
system of settling of shares.

It will do away with risks associated with paper-based

settlements such as delays in transfers, loss or theft of
shares in transit and fear of certificates tearing or
catching fire. The transfer of ownership of shares
through the depository will be exempt from payment of
stamp duty. The companies, investors, transfer agents
and brokers will be able to save on space in the
depository system because there will be no need to store
share certificates.

It will take 15 days for the registrar to dematerialise the

shares before they can be sold whereas it takes 40 days
at present. The Depository will charge a nominal
custodial fee for holding the share certificates. Thus in
the paperless depository system, settlement problems
will be simplified, trading costs will be reduced, and the
volume of trade and returns will improve. Moreover, it
will encourage FIIs to participate more in the Indian
capital market.

6. Project Report on the Importance or Functions of

Capital Market:
The capital market plays an important role immobilizing
saving and channel is in them into productive
investments for the development of commerce and
industry. As such, the capital market helps in capital
formation and economic growth of the country. We
discuss below the importance of capital market.
The capital market acts as an important link between
savers and investors. The savers are lenders of funds
while investors are borrowers of funds. The savers who
do not spend all their income are called. “Surplus units”
and the borrowers are known as “deficit units”.

The capital market is the transmission mechanism

between surplus units and deficit units. It is a conduit
through which surplus units lend their surplus funds to
deficit units. Funds flow into the capital market from
individuals and financial intermediaries which are
absorbed by commerce, industry and government.

It thus facilitates the movement of stream of capital to

be used more productively and profitability to increases
the national income. Surplus units buy securities with
their surplus funds and deficit units sells securities to
raise the funds they need. Funds flow from lenders to
borrowers either directly or indirectly through financial
institutions such as banks, unit trusts, mutual funds,
etc. The borrowers issue primary securities which are
purchased by lenders either directly or indirectly
through financial institutions.
The capital market prides incentives to savers in the
form of interest or dividend and transfers funds to
investors. Thus it leads to capital formation. In fact, the
capital market provides a market mechanism for those
who have savings and to those who need funds for
productive investments. It diverts resources from
wasteful and unproductive channels such as gold,
jewellery, real estate, conspicuous consumption, etc. to
productive investments.

A well-developed capital market comprising expert

banking and non-banking intermediaries brings
stability in the value of stocks and securities. It does so
by providing capital to the needy at reasonable interest
rates and helps in minimising speculative activities.

The capital market encourages economic growth. The

various institutions which operate in the capital market
give quantities and qualitative direction to the flow of
funds and bring rational allocation of resources. They
do so by converting financial assets into productive
physical assets. This leads to the development of
commerce and industry through the private and public
sector, thereby inducing economic growth.
In an underdeveloped country where capital is scarce,
the absence of a developed capital market is a greater
hindrance to capital formation and economic growth.
Even though the people are poor, yet they do not have
any inducements to save. Others who save, they invest
their savings in wasteful and unproductive channels,
such as gold, jewellery, real estate, conspicuous
consumption, etc. Such countries can induce people to
save more by establishing banking and non-banking
financial institutions for the existence of a developed
capital market. Such a market can go a long way in
providing a link between savers and investors, thereby
leading to capital formation and economic growth.

7. Project Report on the Defects of Indian Capital

Market:
Despite these reforms, there are many defects in the
working of the Indian capital market which are
discussed as under:
(i) Poor Liquidity:
The Indian capital market does not possess sufficient
liquidity. A recent study shows that only 20 per cent of
the scrips are traded everyday arid that too of Group
“A”. Another 20 per cent are traded 2 to 3 times a week
and 10 per cent once in a fortnight. Thus 50 per cent
scrips listed on the Bombay Stock Exchange, the biggest
in the country, have very poor liquidity. At other stock
exchanges two-thirds of the scrips listed are not traded
at all.
(ii) Delay in Delivery:
There is unusual delay in the delivery of scrips and
settlement or payment of transactions. The delivery of
scrips usually takes 3 to 4 months and payments range
between 2 to 3 months. Bad deliveries mainly due to the
verification of signatures of sellers further lengthen the
period and complicate the problem.

There are also delays in payments which usually range

between 1 to 2 months. Often delays in payments and
deliveries lead to suspension of stock exchange
operations.
(iii) Insider Trading:
The Indian capital market has been plagued with
fluctuations due to insider trading. Persons working
inside a company often buy or sell shares on the basis of
the expected profitability or losses of the company. This
brings about price fluctuations in the scrips of the
company thereby adversely affecting the interests of the
small investors. Some big industrial houses also resort
to transactions in the shares of group companies
thereby accentuating this problem of insider trading to
the detriment of ordinary shareholders.
(iv) Inadequate Market Instruments:
The capital market instruments in India are confined
primarily to shares and debentures which are
inadequate for the proper functioning of a capital
market. The newly introduced warrants, zero-coupon
bonds, etc. are not yet popular with the investors.
(v) Inefficient Banking and Postal Services:
Banking and postal services are inefficient which add to
the woes of the small investors. Refunds, dividend
warrants and interest payments are sent by companies
to the small clients by ordinary post which often do not
reach them. Some dishonest postal and bank employees
often collaborate and pocket such cheques through
fraudulent means and dupe the small investors.
(vi) Stock-invest not Popular:
The stock-invest instrument has been virtually cornered
by big investors. The non-availability of stock-invests of
small denominations, procedural difficulties and high
bank charges have kept the small investors away from
this instrument.
(vii) Existence of Grey Market:
The unofficial unregulated market before the listing of
shares, called the grey market, attracts and misleads
gullible investors. They are also led to invest in new
shares by financial analysts who are neither fair nor
objective in their analysis. They often mislead investors
at the instance of companies. Consequently, the small
investors suffer the most.
(viii) Vague Prospectus:
Despite SEBI’s guidelines, the prospectuses issued by
individual companies do not contain all the information
and are vague. Free pricing norms laid down by the
SEBI are not strictly followed. Premium fixing is also
not fair. As a result, many companies dupe the investors
outright and close down without any trace.
(ix) Stock Broking System Defective:
The system of stock broking continues to be defective.
The brokers have their sub-brokers and sub-brokers, in
turn, have their own sub-sub-brokers who manipulate
prices and cheat the sellers and buyers of shares and
debentures in the secondary market.
(x) Lacks Transparency:
Trading transactions in stock exchanges still lack
transparency. Buyers and sellers of scrips are at the
mercy of brokers and sub-brokers who often quote the
lowest traded rate of a scrip to the sellers and the
highest to the buyers. Thus they pocket the maximum
fraudulent gain on both the transactions besides their
brokerage.

There is also no uniformity in charging brokerage from

clients by them. They do not maintain proper accounts
and manipulate them.
(xi) Inadequate Protection to Investors:
The protection given to clients in case of default by
brokers and sub-brokers is inadequate. The protection
given to an individual shareholder under the
Consumers’ Protection Fund set up at each stock
exchange is limited to Rs.40,000 in case of a defaulting
broker. This limit is very low because it may be the cost
of one lot of a high priced share.
(xii) Odd Lot Shares Problem:
Despite SEBI’s instructions regarding the non-issuing of
odd lot shares by the companies, bonus shares and
rights issue shares are being allotted in odd lots.
Nothing has also been done for small investors who
already hold odd lot shares issued prior to the
instructions of the SEBI.

The holders of odd lots have to pay brokerage up to 15

per cent while buying and selling odd lot shares. The
efforts of the BSE, UTI and GIC to buy and sell odd lots
at fair brokerage are limited only to selective and good
scrips.
(xiii) Defective Operations of Stock Exchanges:
The stock exchanges in India continue to be defective in
their operations. They do not have proper
infrastructure. They lack adequate space for the stock
brokers to operate efficiently. They do not possess
adequate telecommunication and computerisation
facilities. Old trading practices are still followed.

All these defects deter trading of listed shares in the

majority of stock exchanges in India. This has led to
great rush at the Bombay Stock Exchange with its
consequent delays in transactions, deliveries and
payments.
(xiv) Inadequate Stock Exchanges:
With the phenomenal increase in the number of
companies being listed every month and in the number
of shareholders, the existing stock exchanges
numbering 22 with Mumbai having three, are
inadequate. This has resulted in the mushrooming of
un-authorised and unregistered private stock exchanges
all over the South. These share trading “houses” and
“associations” indulge in speculative transactions.
(xv) Fragmented Market:
The secondary capital market is fragmented into the
ring operated stock exchanges and ring-less OTCEI. It
has further fragmented with the operation of the on-
line, screen-based and scrip-less NSEI. All this has
confused the ordinary buyers and sellers of scrips with
the multiplicity of brokers and sub- brokers already
duping them. This has the effect of reducing liquidity.
8. Project Report on the Suggestions for
Improvement of Indian Capital Market:
In the light of the defects noted above and the reform
measures already adopted by the Government to
streamline the working of stock exchanges and to rectify
the defects of the Indian capital market, the following
suggestions are made to improve upon them:
(i) Improving Liquidity:
The distinction between Group A and Group B shares
should be removed in order to enhance liquidity in the
capital market. There should be limited carry-forward of
shares and all sales should be for delivery.
(ii) Streamlining the Working of Stock Exchanges:
For removing delays in transactions, delivery of scrips
and transfer of shares, to increase liquidity further, and
to improve the working of stock exchanges, a number of
suggestions have been made.

First, there should be computerisation at all stock

exchanges so that trading becomes automatic and
transparent. This step will also help in removing other
defects of stock exchanges and streamlining their
operations.

Second, the transfer of scrips and debentures should be

done through book entry without the movement of
share/debenture certificates.

Third, the shareholders should be issued Counter

Receipts (CR) in lieu of share certificates, as has been
done by the OTCEI. The share certificates should remain
with the Registrars. Fourth, to eliminate trading by
illegal trading houses, registration of spot transactions
should be made compulsory.
(iii) Controlling Insider Trading:
To control insider trading and manipulation of prices,
strict regulatory and punitive measures should be
adopted by the SEBI and stock exchanges. Companies
and brokers engaged in unlawful activities should be
severely punished by fines and legal actions.
(iv) Devising New Market Instruments:
New market instruments should be devised to mobilise
larger capital resources. They should have liquidity,
safety and fair return. They should attract rural
investors, be of small lots, be able to buy goods and
services, and banks and post offices should deal in them.

Besides, such instruments as convertible cumulative

preference shares, non-voting shares for NRIs, risk-free
instruments by banks and merchant bankers, etc.
should be introduced. The recently introduced new
instruments like warrants of a variety of types, deep
discount bonds, zero-interest bonds, etc. should be
made popular for investors by highlighting their merits
in comparison to traditional instruments.
(v) Banning Grey Market Operations:
To stop operations in the unofficial and unregulated
grey market, the publication of unofficial quotations in
newspapers and magazines should be declared illegal
and the sale of shares before acquisition by buyers
should be banned. The SEBI should also lay down
guidelines and a code of conduct for financial analysts.
(vi) Transparency in Prospectus:
Companies which do not follow the guidelines in
supplying the required information in their
prospectuses at the time of public issue should be
penalized through legal action against them. There
should be full transparency in the prospectus for the
benefit of investors before the SEBI gives its permission
for the public issue.
(vii) Streamlining the Stock Broking System:
‘The system of appointing sub-brokers should be
dispensed with. But this is not possible till the offices of
brokers and stock exchanges are fully computerised and
automatic trading is introduced, till then, the activities
of sub-brokers should also be regulated by the SEBI and
the stock exchanges should be authorised to deal with
them as in the case of brokers. The operation of illegal
trading houses should be declared illegal.
(viii) Protecting Investors and Brokers:
To protect the interests of small investors from the
fraudulent devices of some dishonest postal and bank
employees, the SEBI has already instructed the
companies to ask for the bank account numbers of the
share/debenture holders to be indicated on the refund
orders, dividends and interest warrants.

The companies should be instructed to strictly adhere to

them. The best course would be for the companies to
direct the Registrars to deposit the amount direct into
the bank accounts of investors under intimation to
them.

This will also discourage benami or bogus deals. The

maximum limit of Rs. 40,000 to be paid to an individual
client in the case of a defaulting broker out of the
Customers’ Protection Fund at the stock exchanges
should be raised to Rs.1 lakh. A similar fund should be
created for the brokers when some clients default by not
making payments for deals to brokers.
(ix) Disposal of Odd Lots:
A separate trust should be formed to dispose off odd lots
held by millions of shareholders in India. It should
purchase odd lot shares from holders, get them
converted into marketable lots from the companies and
then sell them in the market at a profit. To solve the
problem of odd lots permanently, companies should be
instructed by the SEBI not to issue rights and bonus
shares to small shareholders in odd lots but compensate
them by offering cash incentives.
(x) Opening More Stock Exchanges:
Keeping in view of the large number of listed shares and
listing of fresh shares every month at the stock
exchanges, their number should be increased in the
country. This is essential to deal with a large number of
operators in stock trading and to enhance liquidity in
the capital market. This will also eliminate to some
extent the mushroom growth of illegal trading houses.
(xi) Regulating the Activities of Intermediaries:
For the proper functioning of the secondary capital
market, the operations of such intermediaries as sub-
brokers, underwriters, registrars, transfer agents,
portfolio managers, merchant bankers and other
intermediaries should be regulated by the SEBI. It
should lay down rules for their proper functioning in the
capital market.
(xii) Coordinating the Activities of Stock Exchanges:
To avoid confusion among the investors, there should be
proper coordination among the three types of stock
exchanges in India, viz. the traditional stock exchanges,
the OTCEI and the NSEI. There should not be any
overlapping in their areas of operations.
(xiii) Giving Tax Concessions:
To encourage the market, more tax concessions should
be given to investors by abolishing double tax on
dividends and by increasing the minimum tax-free levels
of dividends and capital gains.