Black Monday in India (engineered collapse of financial market)


Jan Slakov

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Date:          Mon, 16 Nov 1998 23:06:00 
Subject:       "Black Monday",REDACTION
Organization: Public Interest Research Group, N.Delhi

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October 5, 1998: "Black Monday" in Indian Financial Markets

By Kavaljit Singh

October 5, 1998 will be remembered as "Black Monday" in the history 
of Indian financial markets, particularly in the context of post-
globalisation phase. On this day, the Bombay Stock Exchange 
Sensitivity Index (Sensex) recorded a sizeable fall of about 224 
points (nearly 7.20 per cent). This fall was second only to the crash 
of 570 points on April 28, 1992 and the biggest in a single day in 
1998. The steep fall on October 5, 1998 has caused ripples in the 
subdued Indian financial markets.1

In the history of global financial markets, the October 19, 1987 is 
popularly known as "Black Monday" because on this day the financial 
markets of U.S., Europe and Asia witnessed biggest one-day drop since 
the days of Great Depression of the 1930s. Since, at that time, the 
Indian financial markets were not globally integrated, the global 
fall had no impact at all. However, the fall of October 1998 reveals 
the inherent dangers of unbridled globalisation of financial markets 
in India. It also reveals the nefarious role of foreign institutional 
investors (FIIs)- who are also known as international fund managers - 
in creating an artificial crisis in the financial markets.  

Reasons of Collapse: Economic Fundamentals or FII-led "Bear Cartel"? 

What were the reasons behind this fall? Did the economic fundamentals 
changed drastically overnight to warrant such a fall? Or some 
powerful lobbies in the form of "bear cartel" were at work?  
On a prima facie basis, it appears that efforts were made by a 
powerful FII-led "bear cartel" to create panic in the markets and 
thereby benefit from its collapse. It also appears that after 
suffering heavy losses in the Hong Kong during the months of August-
September 1998 when the Hong Kong Monetary Authorities (HKMA) 
intervened heavily in the markets, the "bear cartel" has shifted its 
activities to Indian markets. The fact that FII-led "bear cartel" was 
responsible for this steep fall is well documented in a note 
submitted by a financial institution to the Indian government.2  

The Modus Operandi

To understand the real causes of steep fall in the Indian financial 
markets, it is important to know how the "bear cartel" operates. The 
"bear cartel" consists of fewer players (as compared to bull which 
are usually very large in numbers) and therefore, they can better act 
in tandem. The "bear cartel" operates on short selling (in simple 
terms, short selling means selling the stocks even without owning 
them).  In order to make profit, the cartel is dependent on a fall in 
the market so that they can buy their positions at lower prices. 
Therefore, their profits are dependent on fall in the markets and 
erosion of share values. To achieve the fall in the markets, a number 
of strategies are used. For instance, rumours are spread to create 
panic and simultaneously short selling is introduced to create an 
impression that rumours are correct. As financial markets are more 
prone to "herd behaviour" and panic can spread out quickly, a crisis-
like situation is artificially created by a handful of unscrupulous 

The Events

In the first week of October, the attack was launched by FII-led 
"bear cartel" on India's domestic financial institutions, 
particularly the government-owned Unit Trust of India (UTI). The UTI 
is the India's first and largest mutual fund, with assets worth more 
than Indian Rupees (Rs.) 600 billion (approx. US $14 billion) and 
investors base of 25 million. It is the biggest player in the Indian 
financial markets. The UTI's popular scheme, US-64, alone has a 
corpus of Rs. 220 billion ( $5 billion).3 

On Tuesday, September 29, 1998, reports appeared in the media that 
the reserves of US-64 had turned negative because it had a very low 
net-asset value (NAV).4 There is no doubt that UTI has been operating 
without much transparency, public scrutiny and accountability. Quite 
often, the political masters have misused UTI to prop up the markets 
to depict a rosy picture of Indian economy. Its over exposure to 
equity in a falling market has brought US-64 to a bad state. Besides, 
lobbying and pressure by business groups, bureaucrats and political 
masters have also forced UTI to acquire low-performing equities over 
the years. As a cumulative impact of these developments, the 
proportion of equity vis-a-vis debt and other assets of US-64 had 
changed from 28:72 in 1991-92 to 64:36 in 1997-98. 

On October 2, 1998, the UTI's chairman, P.S. Subramanyam announced 
that it would reduce the proportion of equity in the next few years, 
to overcome the problem. Since the markets were closed till Monday, 
the statement by chairman had no impact but it prompted the FII-led 
"bear cartel" to start short selling. On Monday, October 5, 1998, 
when the markets opened, Morgan Stanley, the largest FIIs in India 
with a large exposure in the Indian markets and second only to UTI, 
resorted to large scale selling of stocks. On this day, FIIs were net 
sellers of stocks worth Rs.1360 million ($32 million) while Morgan 
Stanley alone sold stocks Rs.940 million ($22 million) during October 
5-8, 1998.5 The purchase by Morgan Stanley during this period 
amounted to just Rs.36.9 million ($0.8 million) while the sale 
amounted to Rs.971 million ($23 million).  

Further, the data shows that Morgan Stanley was the largest net 
seller among the FIIs - the next in line were Pictet & CIE and 
Fleming. (see Table 1). Surprisingly, Morgan Stanley, just a week 
ago, had bought stocks worth Rs.2000 million ($47.6 million) in 
response to upgrading of India in their index. 

The attack on US-64 was launched at two levels. On one level, an 
impression was created through spreading rumours and planting stories 
in the media that investments in UTI's US-64 scheme are risky because 
reserves have turned negative. This prompted ordinary investors' to 
redeem their units. In the first four days (October 5-8, 1998), over 
Rs. 5500 million ($131 million) worth of units were redeemed. On the 
other level, the stocks in which US-64 had investments were 
selectively hammered down. With the help of a sophisticated tool 
called programme trading6 (which is banned in several countries), the 
FII-led "bear cartel" succeeded in creating disproportionate fall in 
the stock prices as well as in the Sensex.  

In this fiasco, the role of the media, particularly the business 
media, has been very negative. Certain newspapers were used by the 
"bear cartel" to spread rumours while others remained silent on the 
role of FII-led "bear cartel". In fact, one business daily, The Hindu 
BusinessLine in its editorial titled, "Don't see demons" justified 
the selling decision of Morgan Stanley and criticised the government 
for summoning it for an explanation.7  

The Response of Indian Authorities

Perhaps for the first time ever since the process of global 
integration of Indian financial markets was initiated in mid-1990s, 
the Indian authorities are facing a situation under which not only 
its financial markets but also its own financial institutions are 
under attack. Anticipating that any action against the "bear cartel" 
will send a negative signal to FIIs who may further desert the panic-
ridden markets, the Indian authorities have failed to impose strict 
penalties on them. This failure is seen as a major victory by "bear 
cartel" while the ordinary investor is helplessly witnessing a 
complete meltdown of his wealth by a handful of unscrupulous 

On the receipt of note from a financial institution, the Securities 
and Exchange Board of India (SEBI) has launched investigations to 
look into the role of FII-led "bear cartel".8 In this regard, the 
chief of Morgan Stanley in India, Vikram Gandhi, was summoned by SEBI 
and finance ministry to explain the rationale behind the sale. 
However, Vikram Gandhi denied any role in working in collusion with a 
"bear cartel" and linked the large sales to "certain redemption" in 
Thailand.9 The investigations by SEBI are going on and much awaited 
in the market circles.

Lessons to be Learnt

The Indian authorities can learn two important lessons from this 
fiasco. Firstly, the functioning of UTI need to be improved. The 
management of UTI should be given complete autonomy in decision-
making process and no bureaucratic and political pressures should be 
allowed. Like any other mutual fund, the UTI should also be brought 
under the same regulatory scrutiny. For instance, the UTI should 
regularly disclose its NAV of various unit schemes. The standards 
related to disclosures, transparency and accountability should also 
be applied to it. 

Secondly, the regulatory authorities will have to devise new 
mechanisms to control the activities of "bear cartel". There is a 
growing feeling among many market analysts that the system works in 
favour of the bears.10 They argue that stock exchange authorities 
impose margins and other penalties when the market goes up while no 
margins are imposed when the markets crash. It is very rare that 
margins are imposed on short sellers who deliberately manipulate the 
prices down. The authorities will have to take notice of "bear 
cartel". Illegal practices such as short selling should be 
immediately banned on the down tick as in the case of mature markets 
of US and Hong Kong.

If situation arises, the Indian authorities should not abdicate its 
responsibility of intervening in the markets. Not long ago, even the 
laissez-faire Hong Kong authorities intervened to protect its markets 
from the "bear cartel". Recently, the US authorities also intervened 
in bailing out the hedge fund, Long-Term Capital Management (LTCM). 
In the long run, the Indian authorities will have to remove loopholes 
from its financial system and strictly enforce regulations consisting 
of better disclosure standards, stiff penalties for violators and 
measures to curb programmed trading, insider trading and other 
illegal practices. 

It is high time that the Indian authorities realise the importance 
and relevance of strict regulations and controls, especially in the 
context of financial deregulation and globalisation. Otherwise, the 
nefarious activities of "bear cartel" and others may cause an 
irreparable damage to Indian financial system. A serious rethinking 
on the so-called benefits of opening up the domestic financial 
markets to global finance capital is needed.

Table 1: Top 10 FII Sellers
(From October 5-7, 1998) (in Rs. million)

FIIs                Sales            Purchases  
Morgan Stanley      971.8               36.9
Emerging Markets    413.5               229.6
PICTET & CIE        281.7               0
ACM                 26.4                58.3
Fleming             246.4               17.3
Schroders           23.1                75.8
GMO Trust           197.7               0
General Electric    100.8               0
Capital             100.9               179.9
Pioneering          99.6                0
Source: Investor's Guide, The Economic Times, October 19-25, 1998.

Notes and References:

1.  Unlike the financial markets of the U.S., Japan, and Hong Kong, 
    the Indian markets are well known for prolonged bear phases and 
    short-lived bull phases. Even the biggest booms in the Indian 
    markets (e.g. in 1992 and 1994) were short-lived whereas the 
    downtrend, which followed, lasted for many years.
2.  This note purported to be submitted by a financial institution 
    (name not disclosed) was published in The Economic Times, October 
    19- 25, 1998. 
3.  R. Padmanabhan and V. Sridhar, "Coping with the markets," 
    Frontline, November 6, 1998.
4.  Net assets is the sum total of the market value of all 
    investments plus accured income minus the liabilities and 
    expenses. Net asset value represents the net assets on a per unit 
    basis. It is equal to the net assets divided by the number of 
    outstanding units.
5.  "Morgan sparked the Monday tumble," The Economic Times, October 
    9, 1998.
6.  The program trading is a sophisticated tool in which a computer 
    floppy is used to give simultaneous instructions for selling a 
    chosen set of stocks. The instructions are so given that in a 
    span of 1 minute these chosen stocks drop sharply together as if 
    some new development has occurred in the market. A series of 
    unverifiable rumours are immediately circulated in the market 
    giving the justification of the fall. The stop-loss limits 
    existing in the computers get activated which further lengthen 
    the fall. In effect through a program trading prices are hammered 
    down without reason and they do not bounce back because the 
    market is dazed by the gravity of the fall and rumours cannot be 
7.  "Don't see demons," editorial in The Hindu Business Line, October 
    21, 1998.
8.  "Sebi to probe role of bear cartel," The Financial Express, 
    October 8, 1998.
9.  "Morgan Stanley's Gandhi clears air on Black Monday," The 
    Economic Times, October 17, 1998; and "Morgan Stanley links 
    offloading to redemption pressure in Thailand," The Financial 
    Express, October 16, 1998.
10. Puneet Jain,"Dancing with the bear," Investor's Guide, The 
    Economic Times, October 19-25, 1998.

Kavaljit Singh is the coordinator of Public Interest Research Group. 
He is author of A Citizen's Guide to the Globalization of Finance 
(Madhyam Books, Delhi and Zed Books, London, 1998). His forthcoming 
publications include Regulating Global Capital Flows: Policy 
Challenges and Alternatives.

The author can be contacted at the following address:
Public Interest Research Group 
142, Maitri Apartments
Plot # 28, Patparganj
Delhi- 1100 92
Ph: 2221081, 2432054
Fax: 2224233
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