What is Grey Market Premium (GMP) in IPO?

Key Takeaways

• Grey market premium acts as an indicator of investor sentiment and expected listing performance. It tracks the IPO demand and provides insight for listing gains.

• GMP is derived from the trading process happened in the unregulated grey market.

• The difference between the unlisted share price and the official IPO issue price is GMP.

• When the GMP is high, IPO is expected to list above the issue price, and when the GMP is zero, IPO is expected to list flat, near the issue price.

For the investors in the share market, Grey Market Premium acts as a sentiment indicator that hints at expected IPO listing gains. However, while GMP can provide insights into the demand and hype around the Initial Public Offering (IPO), it is not an official or regulated metric.

This article explains everything about Grey market premium, including how it works, how it is calculated, how to analyse it, and e, the risk involved.

Before going into detail about the Grey Market Premium, let’s first understand the grey market.

What is Grey Market?

The grey market is an unofficial and unregulated market where IPO shares are traded before their official listing on the stock exchange.

Unlike the stock market, which operates under strict regulations by the Securities and Exchange Board of India (SEBI), the grey market functions through informal networks of dealers and brokers.

In simple words, the grey market exists outside the NSE and BSE. Trades take place before the IPO is listed, and there is no legal backing or investor protection.

Despite being unofficial, the grey market and Grey Market Premium (GMP) play a significant role in shaping investor sentiment toward IPOs.

How Does Grey Market Work?

The grey market starts functioning as soon as an IPO opens for subscription and continues until the shares are listed on the stock exchange.

Here’s how it works:

• Investors place bids in the IPO through official channels.
• Simultaneously, they can trade their IPO applications or expected allotments in the grey market.
• Prices in the grey market fluctuate based on demand, subscription levels, and overall market conditions.
• Once shares are allotted, deals are settled based on actual allotment and listing price.

For example, if an IPO has a strong subscription, the grey market premium (GMP) tends to rise, indicating potential listing gains.

Types of Trading in the Grey Market

There are mainly two types of trading in the grey market:

• IPO Shares Trading

In this type, investors buy or sell IPO shares before listing. The transaction is based on expected allotment and listing price.

• IPO Application Trading (Kostak Deals)

Here, investors sell their IPO application itself at a fixed price, regardless of whether they receive allotment or not.

Example:

If someone pays a Kostak of ₹3000 for your application, they are buying your application form. If you get an allotment, they will take the shares at issue price; if not, then ₹3000 is their loss and your profit.

What is Grey Market Premium (GMP)?

The grey market premium (GMP) is the extra price at which IPO shares are traded in the grey market over and above the issue price.

Example:

IPO issue price = ₹200 GMP = ₹50 Expected listing price = ₹250

It shows the IPO demand is high and investors are expecting listing gains of ₹50 per share over the issue price.

The GMP can be positive, negative, or zero:

• A positive GMP represents that IPO demand is high and investors are bullish on the stock. It shows investors are willing to pay an extra premium over its issue price and expect positive listing gains.

• A negative GMP indicates that IPO demand is low and investors are not very interested in this IPO.

• A zero GMP represents investors expecting a flat IPO listing near its issue price.

In the share market, IPO GMP is widely tracked to predict the listing gains. However, it is important to note that GMP is unofficial and not always accurate. It can change rapidly based on market conditions.

How to Calculate IPO GMP?

IPO GMP can be calculated when the company announces the final IPO issue price. We have to compare the unlisted trading price of the stock with the official issue price.

The formula to calculate IPO GMP = Unlisted price - Official Issue Price.

Suppose:

XYZ official IPO price band = ₹100 to ₹105. Unlisted price of XYZ company trading in the grey market = ₹125. Therefore, GMP = 125 - 105 (upper price band) Final GMP = ₹105.

How To Check IPO GMP?

Since IPO GMP is unofficial, there is no centralised platform like NSE or BSE to check it. However, you can track GMP through IPO tracking websites and different news portals.

Factors Influencing IPO GMP in Grey Market

Several factors influence the GMP number:

• Company fundamentals
• Market sentiment
• Subscription data of Qualified Institutional Buyers (QIB) and High-Net Worth individuals (HNI).
• Sector performance.

What is Kostak Deals?

A Kostak deal is a type of grey market transaction where an investor sells their IPO application at a fixed price before allotment.

In this deal:

• The seller receives a fixed premium (Kostak rate) for giving up their application.
• The buyer takes the risk of allotment and potential profit or loss.
• The deal is settled irrespective of whether shares are allotted or not.

For example, if the Kostak rate is ₹500, the seller gets ₹500 for their IPO application, regardless of the outcome.

Kostak deals are popular among investors who want to secure a fixed return without taking listing risk.

Difference Between GMP and Kostak Rate

GMP shows the extra price investors are willing to pay for the IPO. Whereas the Kostak rate is the price mutually agreed upon by both parties for the trade of the IPO application.

A few more differences are as follows:

• Grey market premium shows the price of a single share, whereas Kostak states the price of the entire lot.

• GMP price fluctuates based on unlisted share price movements, whereas Kostak is fixed; it does not fluctuate.

• GMP fluctuations are also based on the demand and supply of shares in the pre-ipo phase. The Kostak price is fixed after negotiation between buyers and sellers.

Benefits of Tracking Grey Market Premium

Here are some of the common benifits of tracking IPO GMP:

• Early Price Discovery:

GMP helps in estimating IPO listing price before it’s opening tick in NSE or BSE.

• Market Sentiment Indicator:

GMP shows the demand for the IPO in the stock market.

• Helps in Decision Making:

Investors can decide whether to apply for an IPO or avoid it based on GMP trends. If GMP is high, it shows a huge investor's interest.

Limitations of Grey Market Premium

Despite various benefits, GMP comes with several risks:

• Unregulated Market:

GMP is derived from grey market trading, which is not governed by SEBI or any other regulatory body.

• Manipulation Risk:

GMP can be artificially overpriced by the operators to show high IPO demand.

• No Guarantee of Listing Price:

Actual listing price may differ significantly from the GMP expectations.