4 - 6 minutes readGMP and its effect on IPO listing

The Grey Market Premium (GMP) is the difference between the issue price and the premium paid by investors. The issue price is the price at which the shares will be made available for purchase prior to their formal IPO listing on the stock exchange.

The grey market premium for IPOs is quite substantial. The IPO grey market is an unofficial market where IPO applications or shares can be purchased and sold before they are officially traded on a stock exchange.

The grey market premium for an IPO, like stock prices, is determined by the stock’s demand and supply. The GMP will be lower if the number of subscriptions for a given IPO is smaller than the number of shares offered in the IPO. The GMP, on the other hand, will be larger if the number of subscribers exceeds the number of shares offered in the IPO.

GMP and its effect on IPO Listing

For example, Pharm-Me, a pharmaceutical firm, has opted to go public in order to generate funds for expansion. As part of the IPO, it is offering 10,000 shares. It does, however, attract 9,000 share subscriptions. The GMP will be lower in this case. The GMP would be higher if it had received over 10,000 share subscriptions, say 13,000 shares.

What impact does GMP have on IPO listings?

The grey market premium, which can be positive or negative, is used to gauge investor interest in a particular IPO.

Like stock prices, the grey market premium for an IPO is determined by the stock’s demand and supply. If the number of subscribers for an IPO is less than the number of shares issued in the IPO, the GMP will be lower. If the number of subscribers outnumbers the number of shares issued in the IPO, the GMP will be higher.

What is the procedure for settling trades?

You might also match transactions with a specific counterparty with whom you’ve entered into an off-market contract when total market volumes were low.

However, due to the current high liquidity of the market, matching trades with your desired counterparty is challenging. As a result, grey market trades are settled in cash, with the pre-open price fixed by the call auction process.

What is the significance of GMP?

According to retail investors, GMP is a very good predictor of whether or not an IPO will succeed.

  • The Kostak rate is the price at which you might sell an IPO application for a fixed amount, regardless of whether you get allocation or not.
  • The GMP is what decides how interested investors are in an IPO.
  • The Grey Market Premium, on the other hand, cannot guarantee that the listing price will be precisely predicted. However, it is one of the instruments to use before investing in an initial public offering.

In most cases, trades are honoured, which is why the grey market continues to function efficiently today.

How does the grey market work?

There are two ways to make money in the grey market. The first option is to buy and sell IPO shares in the grey market before they are publicly traded. The second option is to sell your initial public offering application for a certain price.

You may also read about: Difference between IPO and FPO

Let’s look at each option separately.

Grey Market Trading of Initial Public Offering (IPO) Shares:

  • IPOs allow investors to apply for shares. They face a financial risk since they may not be allotted any shares or may be allocated shares but the price of the shares may fall below the issue price. Sellers are the people that do this.
  • There are a few people who believe the stock is worth more than it was when it was first issued. They begin collecting these shares even before the IPO allotment procedure is completed. Buyers are the people who do this.
  • Buyers contact grey market dealers to make an order to purchase IPO shares at a particular premium.
  • The dealer then contacts the sellers who applied for the IPO and asks whether they are willing to sell their IPO shares at a premium now.
  • Meanwhile, if the sellers do not want to accept the risk of a stock market listing but still want to benefit, they might sell the IPO shares to a grey market dealer. The seller, on the other hand, must complete the transaction with the grey market dealer at a specific price.
  • The dealer receives the application details from the seller and notifies the customer that he purchased a particular number of shares from the grey market sellers.
  • The allocation has been completed, and sellers may or may not receive a share allotment.
  • If the investor is allotted shares, he may receive a call from the dealer asking him to sell them at a specified price or transfer the shares to a Demat account.
  • If the investor sells the shares, the settlement is based on the profit or loss as well as the grey market premium at which the buyers and sellers agreed.
  • If the sellers are not assigned any shares, the agreement is cancelled without a settlement.

Trading Initial Public Offering (IPO) Applications in the Grey Market:

  • Even IPO applications feature sellers and buyers, similar to IPO stock trading.
  • The price of an application is set by buyers based on a variety of assumptions and market factors. They make the sellers an offer that they will buy an IPO Application for a specific premium.
  • To be safe, sellers may sell their application to a buyer through a grey market dealer for a higher price.
  • There is no need for the seller to be concerned about IPO share allotment. Even if he did not receive an allotment, he is entitled to the grey market premium he received when he sold his IPO allocation.
  • The seller sends the dealer the detailed form. Furthermore, the dealer informs the buyer that he purchased an IPO application from sellers on the grey market at a specified price.
  • The issuing registrar oversees allotment. An allocation of shares may or may not be received by the application seller.
  • If shares are allocated to the sold application, the dealer may contact either seller to request that the allocated shares be transferred to a Demat account or sold at a specific price.
  • When selling shares, the profit or loss is used to determine the settlement.
  • The agreement is said to be over without a settlement if no shares are allotted to the sellers. The seller, though, keeps his premium because he sold his application.