Retail investors raise bets on penny stocks despite high investment risk

The value of equity can get wiped out as some the companies will be going through legal proceedings for debt recovery

Retail investors are placing heavy bets on penny stocks as they see limited downside on these counters. Analysts, on the other hand, warn that such bets may backfire as the value of equity in such firms could erode further due to the large quantum of debt they have.
 
“Some of these firms will be taken through legal proceedings by lenders for debt recovery. In such a scenario, the value of equity can get wiped out,” said Abhimanyu Sofat, head of research at IIFL. Penny stocks are those that trade at a market price of under Rs 10.
 
An analysis of data showed that in the June quarter, retail investors (holding share capital of up to Rs 2,00,000) added to their positions in 54 penny stocks. The number could go up as more companies disclose their June-quarter shareholding on the exchanges.
 
MTNL, which is trading at Rs 6.8 per share and reeling under a debt burden of Rs 20,000 crore, is among those that have witnessed high retail interest. In the June quarter, retail investors added 8.2 million shares to their position, which took their June-end holding to 81 million or 13 per cent stake.
 
Sintex Industries also saw retail investors adding 5.8 million shares, taking their total shareholding to 297 million or 50 per cent stake. The textile player was also among the favourite penny stocks in the previous quarter as retail investors added 7.8 million shares to their position.

Adlabs Entertainment, which runs Adlabs Imagica theme park, saw retail investors add 1.5 million shares, taking June-end shareholding to 16.8 million; at 19.17 per cent stake. In the March quarter, retail investors had increased their position by 1 million shares. 
 
Incidentally, all these companies have faced troubles in repaying their debt obligations.
 
Market experts say some retail investors have taken informed investment decisions after considering the risks, but a majority haven’t.
 
“Some investors know that the risks of losing investment capital are high but feel the upside can be even larger in case a debt-resolution is put in place. However, a majority of small investors wrongly correlate valuation with the stock price. Lower share price does not necessarily mean cheap or attractive valuation in terms of price-to-earnings,” said Amar Ambani, head of research at YES Securities.
 
Analysts say the universe of penny stocks is likely to get bigger with institutional investors curbing interest in mid- and small-cap companies and fundamentals of these firms worsening due to large debt burden on their balance sheets.
 
“After the re-categorisation norms, MFs have been reducing exposure to mid- and small-cap companies. Also, debt troubles and corporate governance concerns are pushing more companies into the penny-stock universe,” Soufat added.
 
A recent example is Cox & Kings, which has seen its share price correct from Rs 164 at the beginning of the year to Rs 16, falling 90 per cent in the year-to-date period. High levels of promoter pledging and debt issues have been major concerns weighing on the stock, according to analysts.
 
“Changes in the economy can also widen the pool of penny stocks. In the past, many firms managed to survive just by manoeuvring their balance sheets and avoiding tax liabilities. However, after the introduction of GST and the government’s drive towards getting more companies into the formal economy, it has become difficult for such companies to avoid tax liabilities,” Ambani added.