Indians just don't trust the stock markets

The investor is voting for safe investment avenues and is not impressed by the lucre promised by Dalal Street, says Mahesh Vyas.

Why do households prefer to invest much smaller amounts in shares of listed companies compared to other savings options?

Prithvi Haldea and Joseph Massey discussed this issue on this page last week and came up with several interesting insights. Prithvi's candid explanation that the retail investor is wary of the markets because there are too many instances of scams, should not surprise anyone.

Yet, this is an issue that is rarely spoken of. The markets have not been able to generate the trust that nationalised banks have been able to create.

Both, Prithvi and Massey emphasised the need to increase financial literacy. Prima facie, this suggestion is incontrovertible. Spreading literacy is a noble act worthy of praise, and financial literacy is almost a necessity in the modern world.

There is never an end to learning and Indian households will have a lot to learn to manage their finances better.

However, I find specious the argument that lack of financial literacy is what is keeping households out of the equity markets. There are at least three reasons why I believe this to be the case:

First, it is almost ironical that in spite of nearly two decades of pioneering efforts by the best minds in the country to modernise the equity markets, we still worry about the level of financial literacy in the land.

Modernisation has increased transparency and speed of execution; it has reduced the risks involved in the execution of trades and has minimised transaction costs dramatically.

Thanks to this transformation, the equity markets are no longer a mysterious maze with layers of intermediaries and opacity that only the determined with specialised skills could enter. Such a dramatic transformation of the equity markets has not gone unnoticed by households.

Second, during the recent past, there has been a tremendous mushrooming of financial educational institutions in the country. Business schools that essentially specialise in teaching modern finance have sprung up all over the country.

The two major exchanges run several educational programmes and so does the Association of Mutual Funds in India (Amfi). Commerce education is in and science education is on the wane. Even engineers land up learning commerce after their engineering. Financial literacy is increasing at a rapid pace.

Third, the financial media today is almost as popular as entertainment media.

Pink papers in the mornings, business channels throughout the trading sessions, sms alert services and investor websites for after-hours ensure that households are never away from the financial world. The media has tremendous reach and it plays its own role in spreading financial literacy.

It is worth highlighting here that Indian households have increased their savings and investments. But, these increased savings do not go to the equity markets in spite of the improved conditions listed above.

If households with increased savings and increased financial literacy decide to not invest in the equity markets, what is the end objective of the proposed financial literacy campaign?

Is it proposed that we 'educate' the investors till they decide to part with their money for the equity markets that Prithvi calls the casino? I think we need to do a lot more introspection here and listen to what the households are voting for with their money.

The investor is voting for safe investment avenues and is not impressed by the lucre promised by the Street.

According to Consumer Pyramids, a quarterly survey conducted by CMIE on a panel of about 140,000 randomly picked households, investment in listed shares is the least preferred investment option of households.

Over 72 per cent of households invested in some security. But, only 0.39 per cent of the households had outstanding investment in listed shares as of the quarter ended December 2009. Only 6.6 per cent of the households in Mumbai and 4.5 per cent of the households in Delhi reported that they had outstanding investments in listed shares. These cities do not lack financial literacy.

The performance of mutual funds is only slightly better with 0.87 per cent of the households stating that they had outstanding investments in these.

On the other hand, 19.5 per cent of the households invested in fixed deposits with banks and 9.5 per cent placed their monies in post office savings.

This is the safe choice being made by the households of India. This is in spite of the aggressive marketing by intermediaries.

During the quarter ended March 2009, the first Consumer Pyramids survey, we had asked households if they had ever invested in listed shares.

And, a large proportion  --  7.7 per cent of the households  --  had responded in the affirmative. Then, in the subsequent quarters, we asked if they had outstanding shares in listed shares, and the proportion dropped dramatically to less than 1 per cent.

The problem (and it is a problem because, if used correctly, investment in the equity markets yields superior results compared to other instruments, and so households should be investing more here than they currently do) is not in the basic education but in the marketing by the financial market participants and in the gullibility of the investor to buy a story that promises to beat the market.

Fat marketing margins and layers of intermediation perpetuate this scam. Transparency is buried deep inside thick legalese and your user-friendly relationship manager 'helpfully' discourages you from reading it.

We need to learn from the recent global crisis when the best brains in AIG insured (the credit default swaps) billions of dollars of worthless papers (the collateralised debt obligations) that global rating agencies called triple-A securities, which Goldman Sachs engineered to earn fat fees on.

No one in this financial market circus in America lacked financial education. Most of the players were from Ivy League schools.

And, they collectively brought the world to its knees  --  ironically, by literally spreading the risks. There was no transparency and investors suspended their education.

Investors need more transparency, not more education. And Sebi needs to work harder to disintermediate investments from the army of relationship managers who helpfully ask us to suspend our education and sign on the dotted lines.

And if after this the investor decides to give the equity markets a pass, let us accept the decision and not stress the households.

The author is managing director and CEO, Centre for Monitoring Indian Economy