Grey Market for IPOs in India: Its Trading Mechanism and Implications

for IPO Underpricing

Jaclyn J. Beierlein*
Assistant Professor of Finance
East Carolina University
beierleinj@[Link]

Libison K.B
Research and Teaching Assistant
School of Management Studies
Indira Gandhi National Open University (IGNOU)

Prof. N. V. Narasimham
School of Management Studies
Indira Gandhi National Open University (IGNOU)

Electronic copy available at: [Link]

 Grey Market for IPOs in India:
Its Trading Mechanism and Implications for IPO Underpricing

Abstract
The purpose of the present paper is to analyze the influence of grey market premiums for
IPOs in India. As an unofficial market, grey market exists in India for a long time and
influence IPO trades in the official market. The interesting part of grey market trading is that
there is no system in place to have legal recourse if there are violations in the grey market
trading as it is totally illegal market. Still, large numbers of investors are active in the grey
market. A detailed discussion is made to explain how the grey market mechanism works as a
system for IPOs. By dividing IPOs in to high and low gmp IPOs, the analysis is carried out to
know whether there are any significant differences between them. By and large there are no
significant differences between high and low gmp IPOs as far as offer related characteristics
are concerned. When it comes to the degree of underpricing, there are contrasting results for
low and high gmp IPOs. It was found that high gmp IPOs experience high level of
underpricing than low gmp IPOs. In the light of analysis, it is accepted that grey market
premiums are unbiased predictors of underpricing or listing day prices and high gmp IPOs
have better explanatory power.
1 Introduction
Parallel to book building process for Initial Public Offerings (IPOs), which is an official
mechanism for getting bids for shares from different categories of investors, there exists
illegal market where an investor can buy or sell shares. Shares are priced in terms of either
premium or discount well in advance, before the listing of IPO shares. Till recently, the
illegal market for IPOs has not received much attention. The excessive demand for IPO
shares and easy availability of information on prices in the pre-IPO markets contribute to the
development of illegal market for IPOs which is popularly called as ‘IPO Grey Market’. This
illegal market is active and even there are situations in which institutional investors get
desired volume of IPO shares indirectly from large scale speculators in the IPO grey market.
In an ever growing Indian financial market, information has become one of the tools of
competitive advantage. The information creation based on the listing day performance
expectation in advance decides the trades in the grey market. For instance, the FMCG firm
Bajaj Corporations Ltd offered shares through IPO book building process in the price band of
Rs. 630-660. But in the illegal market there are investors to buy the same shares with a

Electronic copy available at: [Link]

premium range of Rs. 85-901. Each and every IPO has its own grey market investors trading
in the illegal market. If there is less demand for an IPO, instead of premiums, IPOs will have
quoting at discounts in the grey market.
The price formation in the illegal market is increasingly affecting the prices of shares in the
official market. Prices indicated in grey market for IPOs have become very valuable
information for anticipating listing day prices. In order to address underpricing puzzle,
Loffler et al. (2005) use pre-IPO prices and explain that prices in the pre-IPO markets are
highly informative. Their study could establish a strong relationship between pre-IPO market
prices and listing day prices for IPOs. Aussenegg et al. (2006) studied the usefulness of prices
quoted in the German pre-IPO market and found that prices in the grey market reveal relevant
information for pricing IPOs. Cornelli et al. (2006) tried to proxy grey market prices as proxy
for small investors’ valuations in European IPOs. What is relevant from their findings is the
evidence to show that high grey market prices are a very good predictor of first-day after
market prices, while low grey market prices are not. Analysis in the present paper tries to
look at the difference in the characteristics of low and high grey market premium IPOs. The
analysis utilizes grey market prices reported for each IPO for three selected time periods in
order to know what extend these prices explain IPO performance in the secondary market
especially in the first day of listing. The paper also illustrates the different ways through
which trades and unofficial contracts are happening in the grey market.
2 IPO Grey Market: Shopping before the Store has Opened
As the IPO Grey Market is totally unofficial and illegal, the term ‘shopping before the store
has opened’2 is aptly correct for representing the transactions happening in the grey market.
Grey market transactions are simply forward trades or bets (not having legal validity) on the
first day prices of the IPOs. Investopedia defines Grey Market as an unofficial market where
new issues of shares are bought and sold before they become officially available for trading
on the stock exchange. There are no regulatory bodies to control the activities in the grey
market. Therefore the scope for the price momentum is limitless in the market. There are no
circuit filters to control. Grey market trading typically starts on the day an IPO firm publishes
its book building price band within which different categories of investors are expected to bid
for the issue. Usually grey market trading for an IPO concludes the day before listing of the

1
See Economic Times August 8, 2010, Successful IPOs lead to grey market premium on retail shares.
2
The expression is taken from a Dutch Newspaper which had given the heading relating to grey
market. See De Volkskrant, March 9, 2000 as shown in Renneboog Luc and Spaenjers Christophe
The Dutch Grey Market, ECGI Working Paper Series in Finance, 2008.

2
IPO in the stock exchange. Figure 1 depicts in detail how the grey market prices are quoted
during the entire process of an IPO.
Figure: 1
Time period of Grey Market Trading for an IPO

Availability of Grey Market Premium quotes

Subscription period High level of The day before The listing
GM activity the listing of IPO day
Couple of days
Beginning of
before the start
book building End of book
of book building period/
building period
after the fixation of price period
band for the issue

(Source: Compiled by the researcher)

3 The ways of Trading in the Grey Market
3.1 Selling of IPO Application
An Investor makes an application for shares through an IPO. After making the application the
investor faces two particular situations. Either investor may not get allocation of shares due to
high demand for shares or he receives the shares which may post listing price below the offer
price. To avoid the risky situation of not getting returns out of the IPO investment, the
investor may be willing to somehow dispose the shares from the hand. Such investors can be
called ‘Sellers’ in the grey market. Few investors anticipate good prospects for IPO shares
after listing in the market. These investors are willing to grab the IPO shares well before the
allotment process. They do not concern about the availability of shares legally through Stock
Exchanges. They are the ‘Buyers’ in grey market.
Buyers contact local brokers and convey the willingness for buying shares with a premium
before the allotment process. Local brokers who involve in grey market are highly active in
the cities like Ahmedabad, Delhi, Jaipur, Kolkata, and Rjkot. Since brokers are aware of
investors who applied for IPO shares, they contact them and inform the facility for selling the
IPO shares. At this time brokers will inform the prevailing grey market premium for the IPO.
If the seller wants to avoid risk of not getting desired returns on listing, he will convey the
willingness for selling the shares if he gets the allotment.
Broker finalizes the grey market transactions between seller and buyer by word of mouth.
Transaction is purely based on the mutual trust between the parties. As soon as the
transaction finalizes, broker takes the application number and other details from the seller and
notify the same to the buyer. When allotment of shares is done, sellers may or may not get

3
allocation of the shares. In case shares are allocated, broker asks the seller to transfer the
shares to demat account details given by the broker or sell the shares at certain prices. In the
case of selling settlement happens on the basis of profit or loss of transactions and the grey
market premium at which parties made the deal. If the seller gets no shares through the
allotment process the deal automatically get cancelled without any further communication.
The question of seller avoiding the transaction, even after getting the allotment of shares can
be ruled out since the seller cannot hide the shares as the IPO application details are given to
the broker at the time of making the deal.
3.2 Grey Market Operations by Large Scale Speculators
Sometimes, certain IPOs experience extra ordinary subscription from all categories of
investors. So the chances of getting high allocation of shares are a rare possibility. Qualified
Institutional Investors (QIBs) would be interested to own more of some selected IPOs. In
such a situation they approach Sattoriyas (the large scale speculators) to corner shares out of
retail investors who would get allocations in small quantities. Regional brokers do the job of
cornering shares with the help of sub-brokers who deal with the retail investors. The
transactions happen in large scale in which retail investors are asked to bid for the maximum.
That is to say, retail investors need to bid for Rs. 100000/- which is the maximum limit for
them to bid. Premiums quote for Rs. 100000/ application. This is technically called ‘Kostak’
rates in the grey market. The term ‘Kostak’ (price of application) refers to the premium
amount in rupees at which IPO applications trade in IPO Grey Market. It is said that over
25% of the turnover on the newly listed stock is on account of settlement of these kostak
transactions.3 Usually ‘Kostak' value is defined as the premium of a maximum lot for retail
application in an IPO. ‘Kostak' trading facility in the grey market is helpful for those IPO
investors who do not want to take risk with IPO allotment or listing gains.
3.3 Grey Market Trading without IPO Application
There are people who involve in IPO grey market without making any application for the
IPO. It is some sort of pure speculation or betting. These are the people who blindly follow
market sentiments to do grey market transactions. Such people are highly active when market
is in bull phase. The example of reliance Power is an apt case in point. It was the second
largest IPO happened in India in terms of size after Coal India IPO. The hype around the IPO
was huge which resulted in exorbitantly high grey market premiums. The issue price for the
reliance Power IPO was Rs. 450/ share and the grey market premium during the beginning of

3
[Link]
market_198090.html

4
the book building was around Rs.450/share. That means the value of an IPO share of
Reliance Power traded in the grey market for Rs. 900/share. Huge level of such grey market
premiums quoted because of the presence of people who traded in the grey market without
making IPO application. Based on the market rumors and sentiments they get into the grey
market trades. It was evident when the value of the share slipped to 32% on the day of listing.
The way of their grey market trading is simple. Suppose you make a purchase of 500 shares
of company 'XYZ' from grey market without actually applying for the IPO well before it is
being listed. The grey market premium which you agreed upon was Rs 100/ share. After
listing, the profit/loss would be calculated and settlement would be done. This is just like a
short position investors make in the secondary market. The specialty is that everything
depends on the trust and the confidence in the promise made by the parties involved in
transactions. The gross value of the transaction would be calculated as follows:

Gross Value = (Listing Price x 500) (Offer Price x 500 + (100x500)).

3.4 The Risk of Default in the Grey Market Transactions

In practice, it is likely or it is possible that once the trade has been arranged between the
parties to the grey market, one party may “break” the trade. Normally it happens due to a
sharp price movement in the grey market after the deal is made. In such a case, there is no
legal recourse for the other party. Presence of defaulters is a regular issue in the grey market.
Unofficially there is only one system prevails in the market to counter the risk of not
performing the promise by either the parties. It is to have a third persons’ guarantee for the
transaction. But this facility is in place only when the transaction is bigger. Therefore people
enter in to grey market deal if they have enough trust between them. They have to be sure
that either the parties would not cheat each other. Again Reliance Power IPO is good
example. There was large number of defaulters in the grey market for the IPO. It is said that
the grey market could not come back into full action since the collapse of Reliance Power
IPO. Many people lost huge money due to defaults in the grey market. The listing day of
Reliance Power is called ‘Black Monday’.4
4 Data and Methodology
The data set of the analysis consists of 85 IPOs happened during the years of 2009 and 2010.
There were 65 IPOs in 2010 and 20 IPOs in 2009. Grey market rates are collected (Premium
or Discount) for all IPOs. Grey market trading is not valid under law and there is no official

4
See the link [Link] ‘Grey market premiums on
recent IPOs fall’

5
data base to track grey market rates for IPOs. But trading in grey market is a reality. Financial
dailies like economic times and Business Line often report news from grey market.5 Grey
market rates are available through local brokers involved in grey market and also up-to-date
information on grey market rates are posted in websites exclusively for the purpose. The
major sources for collecting grey market rates are three websites which post grey market
rates for IPOs regularly. Following are the websites from which grey market rates for IPOs
are tracked: [Link] , [Link] and [Link]. The
Grey Market Premium (GMP) is defined as the ratio of offer price and grey market price.
Grey market price is the price over the offer price prevailing in the grey market. For the
purpose of analysis data on grey market premiums calculated for three dates for all IPOs.
Data collected for these three important dates help to understand how prices in the grey
market change over time towards the date of listing.
Three dates are: 1) The first day of book building. 2) Last day of book building. 3) The day
before listing. IPOs with grey market premium higher than median value are classified as
high grey market premium (GMP) IPOs. IPOs with grey market premium equal or lower than
the median value are classified as low grey market premium (GMP) IPOs. For the purpose of
analysis grey market premiums are classified as high or low GMP for three dates viz. the first
day of book building period, last day of book building and the day before listing.
5 Testable Hypotheses
H1 – There is no significant difference in offer related characteristics of low and high
grey market premium (GMP) IPOs based on first day of book building, last day of
book building and the day before listing.
H2 – High grey market premiums (GMP) based on first day book building, last day of
book building and the day before listing do not significantly predict underpricing
phenomenon
H3– Low grey market premiums (GMP) based on first day book building, last day of
book building and the day before listing do not significantly predict underpricing
phenomenon.
6 Empirical Results
6.1 Descriptive Statistics for Variables
Table 1 presents descriptive statistics of selected variables for the whole sample considered
for the study. The average offer size is Rs. 682.97 Crs. and the median value is Rs. 178.20

5
See the following link for selected news from IPO grey market in Economic Times.
[Link]

6
Crs. Similarly, average values for offer price, firm age, subscription level and listing day
trading volume are calculated and presented in the table. The level of underpricing for the full
sample IPOs stands at 14.14% consistent with results reported in the IPO literature that on
average IPOs are underpriced or there are high positive returns on the listing day.
Table: 1
Descriptive Statistics for all sample IPOs (for the period 2009 and 2010)
Variables Mean Median Std. Dev.
Number of IPOs (N) 85 85 85
Offer Size (Rs. Cr.) 682.97 178.20 1822.78
Age (Years) 19.12 15 19.77
Offer Price (Rs.) 196.98 125.00 217.93
Grade (on a scale of 1 to 5) 2.84 3 0.91
Underpricing on listing (%) 14.14 6.05 30.72
Overall Subscription (times) 15.16 7.48 18.98
Subscription QIBs (times) 16.96 4.47 25.71
Subscription NIIs (times) 30.90 10.70 45.75
Subscription RIIs (times) 6.49 3.12 8.46
Listing Day Trading Volume 3,15,96,020 1,99,17,851 3,55,68,864
(Number of Shares)
(Source: Calculation based on the sample data)
6.2 Grey Market Premiums in Different Time Points and Offer Characteristics
This section explains the relation between three grey market premium quoting days and PO
characteristics. Previous studies focused the role of grey market premiums which are taken
only for day before listing. Krishnamurti et al. (2010) Vishwanath and Singh (2011)
documented relationship between grey market prices with offer and firm characteristics of
sample IPOs considered for the study. Their grey market prices come only from day before
listing of IPOs. The key finding of their studies is that grey market prices could explain after
market prices for IPOs. Present study differs from previous studies as it looks at three
important dates on which grey market prices are reported in the grey market and its relations
with offer and firm characteristics.

6.3. A) IPO Size

Table 2 presented grey market prices for three selected time periods in relation with offer
size. On the first day book building, average offer size of high gmp IPOs greatly differ from
low gmp and discount IPOs. When it comes to the day before listing the difference among
three categories of IPOs become not much significant. It is evident that well known
companies which are going for IPOs attract high premiums in the grey market in the initial
day of book building. This advantage may not be sustained in the grey market as soon as

7
more information and investors reach in the grey market. Grey market prices move largely
with the market sentiments than the merit of IPOs. As a result of it, the difference in the offer
size premiums for high and low gmp as well as discount IPOs do not differ much towards the
listing date.
6.3. B) Firm Age
Table 3 presented the relation between age and high and low gmp as well as discount IPOs.
Age of the firm making the IPO does not differ between low and high GMP IPOs as well as
discount IPOs on the first day of book building in the grey market. But, on the day before
listing, the story changes altogether. Grey market prices are higher in favor of
older firms than younger firms on the day before listing. Discounts reported in the grey
market for younger firms as the average age for the discount IPOs is 13 years where as for
high GMP IPOs is 22 years.
6.3. C) Offer Price
Table 4 gives a description of relationship between offer price and high and low gmp IPOs.
Offer Price does not seem to be different among low and high gmp IPOs across all time
points. Average offer prices for low and high gmp IPOs for the considered time periods are
Rs. 203.05, Rs. 209.68, Rs.214.17 and Rs. 200.14, Rs.195.71, Rs.196.32 respectively.
However, Discount IPOs reported low offer prices throughout the three time periods.
However, average offer price for discounts IPOs moves up from Rs.104 on the first day of
book building to Rs. 161 on the day before listing. On the last day of book building average
offer price for discount IPOs reported as Rs. 148.77.
6.3. D) IPO Grade
Market regulator SEBI made it mandatory to have grading for an issue for firms seeking fund
raising through IPOs since May 2007. It is meant to be a certification mechanism for IPOs
based on its fundamentals made by approved credit rating agencies. The major credit rating
agencies doing assessment for IPOs are CRISIL, ICRA, CARE, FITCH and Brickworks. IPO
grade is an important variable for which grey market is supposed to give due consideration.
Table 5 examines how grades differ for high and low gmp IPOs as well as for discount IPOs.
Grades do not seem to be different in grey market for all time points considered.
6.3. E) Analyst Recommendation
Financial dailies regularly report their views on IPOs which are a major source of
information for investors. These views usually appear before the book building period for
IPOs. Since grey market investors are searching for information to decide up on grey market
rates, these expert views may influence the grey market rates. Table 6 compiled the data and
8
presented the analyst views on IPOs reported in the public domain. Recommendations
appeared in ‘Business Line’ are considered for the analysis. Recommendations are usually in
the form of invest or subscribe and avoid the IPO. As observed from the table, around 75% of
low gmp IPOs and 69% of discount IPOs got avoid recommendation. Major portion of high
GMP IPOs received invest or subscribe recommendation from the analyst. It shows that high
gmp IPOs in the grey market enjoy favorable views from analysts.
6.3. F) Subscription by Categories of Investors or Investor Demand
During the book building period, three categories of investors bid for shares. They are: QIBs
(Qualified Institutional Investors), RIIs (Retail Individual Investors) and NIIs (Non-
Institutional Investors). Table 7, 8 and 9 show how the subscription level and grey market
prices are related right from the first day of book building to the day before book building.
Subscription for low gmp IPOs does not change for different time points. High gmp IPOs got
increased level of subscription from the first day of book building towards the day before
listing. Discount IPOs received decreased level of subscription for the time points considered.
The data again reflect the fact that demands for the shares will increase the level of prices for
IPOs in the grey market.
6.4 Test of Significance for Low-High GMP IPOs
T-test has been done to understand whether there is any significant difference in offer related
characteristics between low and high GMP IPOs. T-test has been done for the variables as
discussed in the previous section for the tree time points viz. based on first day book
building, last day of book building and the day before listing. The null hypothesis is
formulated and tested as mentioned below:
H0 – There is no significant difference in offer related characteristics of low and high
grey market premium (GMP) IPOs based on first day of book building, last day of
book building and the day before listing.

9
 Table: 2
Grey Market Premium/Discount and Offer Size
Offer Size (Rs. Cr.)
Low GMP IPOs High GMP IPOs Discount IPOs
Mean Median Std. Mean Median Std. Mean Median Std.
Dev. Dev. Dev.
The day before listing 474.04 165.00 702.17 939.69 144.62 2758.03 594.46 332.23 702.88
First day of Book Building 530.75 259.03 679.78 789.25 128.16 2524.62 1115.72 925.00 1151.98
Last day of Book Building 648.63 364.01 785.36 733.89 110.00 2600.51 612.92 200.00 856.14
(Source: Calculation based on the sample data)
Table: 3
Grey Market Premium/Discount and Firm Age
Age (Years)
Low GMP IPOs High GMP IPOs Discount IPOs
Mean Median [Link]. Mean Median [Link]. Mean Median [Link].

First day of Book Building 19.32 15.00 18.18 18.90 14.00 21.88 19.50 17.00 15.96
Last day of Book Building 19.57 14.50 18.36 19.42 15.00 22.59 16.00 14.00 13.03
The day before listing 19.37 15.00 18.40 21.67 15.00 23.91 13.18 10.50 10.46
(Source: Calculation based on the sample data)
Table: 4
Grey Market Premium/Discount and Offer Price
Offer Price (Rs.)
Low GMP IPOs High GMP IPOs Discount IPOs
Mean Median [Link]. Mean Median [Link]. Mean Median [Link].
First day of Book Building 203.05 122.50 224.67 200.14 128.00 222.63 104.00 103.00 24.53
Last day of Book Building 209.68 119.00 232.44 195.71 122.50 228.64 148.77 127.00 60.33
The day before listing 214.17 110.00 248.44 196.32 126.50 225.58 160.81 126.00 109.64
(Source: Calculation based on the sample data)

10
 Table: 5
Grey Market Premium/Discount and IPO Grade
IPO Grade (In a scale of 1 to 5)
Low GMP IPOs High GMP IPOs Discount IPOs
Mean Median Std. Mean Median Std. Mean Median Std.
Dev. Dev. Dev.
First day of B.B 2.85 3.00 0.89 2.87 3.00 0.97 2.50 2.50 0.57
Last day of B.B 3.05 3.00 0.80 2.73 2.50 1.05 2.44 2.00 0.52
Dday before listing 2.85 3.00 0.87 3.00 3.00 1.04 2.50 2.00 0.63
Table: 6
Grey Market Premium/Discount and Analyst Recommendation
Low GMP High GMP Discount
Frequency Percentage Frequency Percentage Frequency Percentage
Invest 9 25.70 22 64.70 5 31.20
Avoid 26 74.30 12 35.30 11 68.80
Total 35 100 34 100 16 100
Note: Calculations based on the grey market prices on the day before listing.
Table: 7
Grey Market Premium/Discount and Subscription level based on the first day of B.B.
Number of times Subscribed
Low GMP IPOs High GMP IPOs Discount IPOs
Mean Median Std. Mean Median Std. Mean Median Std.
Dev. Dev. Dev.
QIBs 9.05 3.22 13.30 25.71 9.95 32.57 6.23 5.23 5.88
NIIs 20.05 6.09 28.19 42.02 13.91 57.01 25.32 7.15 40.46
RIIs 5.40 2.81 6.87 7.68 3.46 10.04 5.17 4.87 3.33
Table: 8
Grey Market Premium/Discount and Subscription by Investors based on the last day of B.B
Number of times Subscribed
Low GMP IPOs High GMP IPOs Discount IPOs
Mean Median Std. Mean Median Std. Mean Median Std.
Dev. Dev. Dev.
QIBs 10.71 2.71 17.06 26.60 16.69 31.99 2.63 1.48 2.69
NIIs 9.34 5.19 10.77 59.23 43.14 55.98 2.02 1.96 1.09
RIIs 2.62 2.31 2.43 11.74 8.53 10.24 0.67 0.61 0.47
Table: 9
Grey Market Premium/Discount and Subscription level based on the day before listing
Number of times Subscribed
Low GMP IPOs High GMP IPOs Discount IPOs
Mean Median Std. Mean Median Std. Mean Median Std.
Dev. Dev. Dev.
QIBs 9.31 4.52 12.50 31.99 26.89 33.39 1.75 1.40 1.31
NIIs 11.48 5.76 12.90 64.01 48.63 56.90 3.00 3.08 2.00
RIIs 3.70 2.64 4.08 12.03 8.81 10.45 0.81 0.43 1.03
Note: Data on number of times subscribed taken on the basis of status at the last day of B.B.
(Source: Calculations based on the sample data

11
Table 10 presented the details of independent samples t-test for the significance of low and
high GMP IPOs. It is interesting to note that except for subscription level other variables do
not show significant difference. T- test is significant only for overall subscription level and
also for different categories of investors viz. QIBs and NIIs. Since the p-values for most of
the variables are beyond 0.05, the null hypothesis that there is no significant difference in
offer related characteristics of low and high grey market premium (GMP) IPOs based on first
day of book building, last day of book building and the day before listing is accepted.
Table: 10
Results of independent Samples t-test for Low-High GMP IPOs
Panel A: Based on first day of book building
t-test for Equality of Means 95% Confidence Interval
of the Difference
Variables t df Sig. (2- Mean Std. Error Lower Upper
tailed) Difference Difference
Offer Size -.626 79 .533 -258.50160 413.11010 -1080.77668 563.77347
Firm Age .094 79 .925 .42256 4.47732 -8.48933 9.33445
Grade -.135 79 .893 -.02805 .20843 -.44293 .38683
Offer Price .058 79 .954 2.90366 49.70281 -96.02731 101.83463
Subscription QIBs -2.999 79 .004* -16.65929 5.55499 -27.71622 -5.60236
Subscription RIIs -1.186 79 .239 -2.27421 1.91681 -6.08952 1.54110
Subscription NIIs -2.190 79 .031* -21.97110 10.03344 -41.94216 -2.00005
Overall Subscription -2.724 79 .008* -11.25760 4.13272 -19.48356 -3.03163

Panel B: based on the last day of bookbuilding

Offer Size -.193 74 .847 -85.25500 440.67745 -963.32399 792.81399

Firm Age .033 74 .973 .15789 4.72385 -9.25458 9.57037

Offer Price .264 74 .792 13.97368 52.89227 -91.41646 119.36382

Grade 1.466 74 .147 .31579 .21545 -.11350 .74508

Subscription QIBs -2.700 74 .009* -15.88368 5.88198 -27.60379 -4.16358
Subscription NIIs -5.395 74 .000* -49.89368 9.24870 -68.32212 -31.46525
Subscription RIIs -5.338 74 .187 -9.11605 1.70773 -12.51877 -5.71334
Overall -4.256 74 .000* -17.19132 4.03927 -25.23974 -9.14289
Subscription
Panel C: based on the day before listing
Size -.967 67 .337 -465.64405 481.40283 -1426.52812 495.24002
Firm Age -.449 67 .655 -2.30504 5.12951 -12.54360 7.93351
Offer Price .312 67 .756 17.84790 57.18017 -96.28420 131.98000
Grade -.615 67 .540 -.14286 .23217 -.60627 .32056
Subscription QIBs -3.758 67 .000* -22.68383 6.03649 -34.73272 -10.63494

12
Subscription NIIs -5.316 67 .000* -52.52959 9.88227 -72.25467 -32.80450
Subscription RIIs -4.386 67 .090 -8.33396 1.90011 -12.12660 -4.54131
Overall -4.954 67 .000* -20.37398 4.11260 -28.58276 -12.16521
Subscription
Note: Values with * indicate significant difference since the P-value is less than 0.05

6.5 Low and High Grey Market Premium and IPO Underpricing
There is evidence in the literature that high grey market prices predict listing day returns
more significantly than low grey market prices. Cornelli [Link] (2006) found that high grey
market prices are a very good predictor of first day aftermarket prices while low grey market
prices are not. We also test this argument with our data and obtained the results which are
also consistent with the results as reported by Cornelli [Link] (2006). For the purpose of
analysis two null hypotheses are formulated and tested as mentioned below:
H0 – High grey market premiums (GMP) based on first day book building, last day of book
building and the day before listing do not significantly predict underpricing phenomenon
H0 – Low grey market premiums (GMP) based on first day book building, last day of book
building and the day before listing do not significantly predict underpricing phenomenon.
Table 11 reports the results of regression analysis for low and high gmp IPOs in different
time points and IPO underpricing. It is observed that for all time points high gmp IPOs
predict IPO underpricing which are highly significant while low gmp IPOs do not show any
prediction. Moreover, high gmp IPOs for the day before listing shows higher co-efficient.
Therefore, high grey market prices reported just a day before listing IPOs are informative
than any other grey market prices reported in different time points.
The null hypothesis that high grey market premiums (GMP) based on first day book building,
last day of book building and the day before listing do not significantly predict underpricing
phenomenon is rejected and the alternative hypothesis that high grey market premiums
(GMP) based on first day book building, last day of book building and the day before listing
significantly predict underpricing phenomenon is accepted. The null hypothesis that low grey
market premiums (GMP) based on first day book building, last day of book building and the
day before listing do not significantly predict underpricing phenomenon is accepted since p-
values for all three time points related to low grey market premiums (GMP) are beyond .05.
6.6 Determinants of IPO Underpricing: Multivariate Analysis
Discussion in the previous section indicated that in the univariate regression grey market
premium could significantly explain IPO Underpricing. In order to understand whether the

13
predicting power of grey market premium reduces with the inclusion of other important
independent variables, multivariate regression analysis is done.
Table 12 presents the results of multivariate regression analysis. IPO offer characteristics,
Firm Characteristics, grey market premium for different time points and level of subscription
by different categories of investors are used as independent variables in regression models.
The explaining power of grey market premium does not reduce in the multivariate regression
framework. Instead, Model 2 and 3 produced good R2. Three models report significant beta
coefficients for grey market premium.
Table: 11
High and Low GMP IPOs for estimating IPO Underpricing
Adjusted R Std. Error of Durbin-
Model R R Square Square the Estimate Watson
1 .358 .128 .106 32.67 2.41
2 .263 .069 .044 24.79 1.82
3 .411 .169 .146 32.24 1.73
4 .074 .006 -.022 22.45 1.96
5 .598 .357 .337 25.56 1.79
6 .270 .073 .045 26.91 1.84

Model 1 Coefficient Std. Error t-Statistic P-Value

Constant 3.44 9.44 .365 .717
High GMP on first day
.882 .368 2.39 .021*
of book building
Model 2
Constant 22.347 9.527 2.34 .024
Low GMP on first day
-2.703 1.611 -1.678 .102
of Book Building
Model 3
Constant 7.12 9.029 .78 .435
High GMP on the last
.888 .328 2.70 .010*
day of book building
Model 4
Constant 8.103 9.517 .851 .400
Low GMP on the last
-.844 1.891 -.447 .658
day of book building
Model 5
Constant .876 7.874 .111 .912
High GMP on the day
1.054 .250 4.219 .000*
before listing
Model 6
Constant -4.838 -4.838 -.495 .624
Low GMP on the day
2.627 2.627 1.614 .116
before listing
Note: * Denotes significance at 5% level. Dependent variable is IPO underpricing

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 Table: 12
Determinants of IPO Underpricing
Model R R Square Adj. R Square Std. Error Durbin-Watson
1 .426 .181 .037 30.49 2.01
2 .552 .305 .172 28.43 1.78
3 .633 .401 .273 26.32 1.98
Model 1 Coefficient Std. Error t-Statistic P-Value
Constant 23.97 14.786 1.621 .110
GMP on First Day of BB .367 .297 2.967 .004*
Offer Price .113 .018 .892 .376
Firm Age .094 .199 .736 .464
Grade -.246 4.949 -1.657 .102
Offer Size .068 .002 .552 .583
Subscription QIB -.041 .202 -.240 .811
Subscription RII -.021 .636 -.116 .908
Subscription NII .107 .137 .523 .603
Analyst Recommendation -.121 7.362 -1.027 .308
EPS -.155 .206 -.867 .389
RONW .021 .268 .157 .875
NAV .022 .030 .119 .906
Model 2
Constant 21.08 13.424 1.570 .121
GMP on Last Day of BB .475 .265 3.848 .000*
Offer Price .098 .017 .780 .438
Firm Age .092 .189 .748 .027*
Grade -.211 4.507 -1.544 .128
Offer Size .005 .002 .037 .971
Subscription QIB .070 .169 .487 .628
Subscription RII -.004 .586 -.027 .978
Subscription NII .050 .126 .262 .794
Analyst Recommendation -.228 7.428 -1.920 .039*
EPS .037 .172 .235 .815
RONW -.086 .239 -.729 .469
NAV .138 .028 .830 .409
Model 3
Constant 20.92 12.298 1.546 .128
GMP on Day before listing .607 .226 5.071 .000*
Offer Price .068 .002 .557 .580
Firm Age .141 .170 1.208 .032*
Grade .153 .016 1.265 .211
Offer Size -.198 4.327 -1.473 .146
Subscription QIB -.078 .164 -.540 .591
Subscription RII .203 .136 .949 .047*
Subscription NII -.142 .603 -.821 .015*
Analyst Recommendation -.147 8.083 -1.120 .026*
EPS -.196 .206 -1.270 .209
RONW -.071 .226 -.615 .541
NAV .181 .034 1.492 .041

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Note: * Denotes significance at 5% level, dependent variable is IPO underpricing

Grey market premium on the first day of book building, last day of book building and day
before listing used as independent variables in model 1, 2 and 3 respectively. It was seen that
grey market premium in different time points could make better predictions than any other
variables to explain underpricing in the regression models. Model 3 which used grey market
premiums on the day before listing explains 61% variance in the model while in model 2 grey
market premiums predicts 48% variance.
Firm age is another independent variable with significant p-values in model 2 and 3. Age of
the firm is perceived to be risk reducing factor and influencing the IPO underpricing. The
older the firm which is issuing an IPO, the uncertainty associated with the firm tends to be
lower. Analyst recommendation is a dummy variable with value 1=Subscribe or Invest and
0=Avoid. In model 3, Analyst recommendation takes a negative coefficient with a significant
p-value. It implies that the IPOs with analyst recommendation to subscribe or to invest
generated less underpricing than IPOs with avoid recommendations.
Subscription level of retail and non-institutional investors are the two independent variables
which generated significant coefficients in the third model. It implies that underpricing would
be more as the level of subscription by retail and non-institutional investors increases. The
point to note here is that the model generated significant p-values for level of subscription,
only when gmp on the day before listing is used as independent variable. It is an indication
that higher gmp on day before listing together with subscription level of retail and non
institutional investors can largely predict underpricing for IPOs.
6.7 Grey Market Premiums and IPO Underpricing - Longer Time Windows.
It was seen that Grey Market Premium is a good predictor for first day listing prices.
To check whether the predictability sustains for a longer time period in the secondary market
or is it temporary momentum only for the listing day, we used closing prices for the longer
time periods to assess the degree of underpricing and its relationship with Grey market
premium. We computed underpricing of IPOs using the following function.

Underpricing (Rj) = Pij - Pio

------------------------
Pio
Where, Pij is the closing price on the trading day j and Pio is the initial offering price of the
firm i. We used 1-week, 2-week, 4-week, and 8-week time window returns to measure the
short-run performance.

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 Table: 13
Secondary market performance of IPOs (for the period 2009 and 2010)
Average Returns (%)
Mean Median Std. Dev
1-day 13.62 6.10 28.12
1-week 10.22 4.09 38.28
2-week 7.27 3.38 39.83
4-week 7.92 3.68 49.97
8-week 1.17 -9.18 54.25
No. of IPOs 69 69 69
(Source: Calculation based on the sample data)
Note: Returns measured using only GMP IPOs based on day before listing

Table 13 reports that the returns declines on continuous basis for IPOs right from first day to
8-week time window period. Median value for the eighth week is negative indicating that
there is a steep decline. This evidence is consistent with the findings of earlier studies
reported in the IPO literature that first day returns will disappear as the IPO shares started
trading in the secondary market and the information asymmetry related to IPO shares will be
reduced to the minimum. Listing day performance of IPOs is largely predicted by grey
market premium as we have seen in the earlier discussions. To know whether this
predictability could be extended for longer time windows, Bivariate correlation analysis is
done. Correlation analysis is made using grey market premium (day before listing) and
returns for different time windows. Returns for time windows considered could not produce
any significant correlation. Rather, the correlation values take negative sign.
It is just clear here that apart from acting as early indicators of the listing day prices, the grey
market premiums do not serve any other purpose. Grey market premium can only make early
indications for first day listing prices. Its ability to predict the secondary market prices for
other time windows is very less. Grey market premium can only be considered as an
unofficial information source to see the listing day prices of IPOs which is a product of
market sentiment and other factors which are not fundamental factors determining the
performance of shares in the secondary market. This results contradict with the results
reported by Krishnamurti [Link] (2010) that grey market prices possess strong prices first day
listing information content regarding future stock price after listing. They found that the
informativeness of grey market prices sustains when they used 2,5,10 and 20 closing prices to
measure underpricing. The time windows 1-week, 2-week, 4-week and 8-week considered
for our analysis does not generate such results. However, the results found for the listing day
prices are in conformity with their results.

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 Table 14
Correlation matrix for Grey Market Premium and Underpricing for different time windows
GMP 1 -week 2 -week 4- week 8-week
GMP 1
1-week -.006 1
**
2-week -.068 .924 1
** **
4-week -.143 .649 .837 1
** ** **
8-week -.087 .583 .713 .903 1
Note: Returns measured using only GMP IPOs based on day before listing
**. Correlation is significant at the 0.01 level (2-tailed).

8 Conclusion
The purpose of the present paper was to analyze effectiveness of grey market
premiums/discounts for predicting secondary market prices of IPOs. A detailed discussion
was made to explain how the grey market mechanism works as a system for IPOs in India.
There are different players in the grey market and the role of saatoriyas (large scale
speculators) is important in determining grey market premiums. In the light of analysis, it is
accepted that grey market prices are unbiased predictors of listing day prices. However, the
predictability of the grey prices beyond listing day is ruled out. Analysis is made by taking
grey market prices for three important time points as reported in the grey market. Though, it
is unofficial to trade in the grey market, it is quite rampant in place such as Gujarat, Mumbai
and Rajasthan. It is said that over 25% of the listing trading volume is on account of
settlement for transactions in the grey market.

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