Falling volumes make trades in mid-cap stocks expensive

MUMBAI: Traders are finding it increasingly unviable to take short-term bets on shares of mid- and small-cap companies as declining volumes have made trades expensive.

Analysts said impact cost - the difference between the bid-ask or buy or sell quotes for a stock - of many stocks has widened due to the dip in activity.

Shares that have high impact costs include BEML, Abbott India, Motherson Sumi Systems and Reliance Mediaworks among others, said analysts.

"We have witnessed impact costs of non-large cap shares rising recently, as there haven't been adequate buyers in these shares," said Dipen Shah, head - research at Kotak Securities.

"This is a phenomenon we see in times of low interest in the stock market, especially in mid- and small-cap shares that lack depth," he said.

For liquid securities, the spread is extremely low - around 0.05 - due to the presence of quotes at multiple prices. Thus most frontline stocks ha-ve managed to keep the impact costs low despite the fall in overall volumes in the market.

According to exchange data, impact cost of Infosys, Reliance, SBI, ITC and Hind Unilever has been 0.05-0.07. On the other hand, the impact cost of BEML, Abbott India, Motherson Sumi Systems and Reliance Mediaworks is almost 0.5.

The turnover in domestic markets has declined in April compared with last month as foreign institutional investors ( FIIs) await clarity on the General Anti-Avoidance Regulations (GARR), which seeks to tax their trading gains once the Finance Bill is passed.

Exchange data shows that the average daily turnover in April is almost 26% below that in March. The rise in impact costs is accentuated by the lower free float of these shares compared with the larger ones.

"There is a possibility for the bid-ask spread to widen in stocks where the free float is low, because of low liquidity. This may also happen when there is low volume in a particular stock on a particular trading day," said Dharmesh Pancholi, senior manager advisory (equity) at Sharekhan.

Derivatives analysts said the rising impact cost in stocks due to the widening bid-ask spreads is having a spillover effect on futures too. Costs also rise when most of the bets in illiquid futures are in the same direction, usually caused by an absence of a contra-call, or opposing trading idea.

"Because of higher bid-ask spreads in stocks, a large number of orders in the derivatives are incurring higher cost," said Amit Gupta, head - derivatives at ICICIDirect. com.