When Investor Protection Prevents Investors From Selling

Shares of Rajesh Exports have stayed locked for six straight sessions at the lower circuit since SEBI's interim order raised questions about the company's financial reporting. Sellers figured out what they wanted to do on day one. Many shareholders still have not managed to do it.

That does not meet the stated purpose of investor protection.

Investors who wanted to sell after reading the regulator's findings found themselves trapped in an exit queue. The stock remained available for sale, but for many shareholders it was effectively unavailable for selling. The market remained open throughout, but many shareholders found that the practical ability to exit had disappeared. Every lower circuit told investors the same thing – more shareholders wanted out and hardly anybody wanted in.

Lower circuits are in place to contain disorderly trading and give investors time to absorb information. Exchanges, brokers and clearing corporations all benefit from orderly markets. Sharp intraday moves create operational stress and increase settlement risks. Slowing the process makes markets easier to manage.

The framework works best when investors disagree. Rajesh Exports became problematic once almost everyone agreed.

By the second or third lower circuit, investors were not debating valuation. They are counting how many sellers stood ahead of them. The market had already formed a view. Yet lower circuits restricted how quickly that adjustment could occur. By the sixth lower circuit, investors did not need another lesson in valuation. They want the investment off their books.

Investors may ultimately lose the same amount of money whether a stock falls 40% in a single day or 5% over eight sessions. What changes is their ability to respond.

Lower circuits assume slower declines produce better outcomes. That is not always the case. A stock that falls 40% in a day allows everyone to transact. A stock that falls 5% over eight sessions allows only a fraction of investors to do so.

Rajesh Exports is not unique. Governance failures, accounting concerns, regulatory actions and promoter disputes frequently create one-sided markets. Lower circuits do not remove those imbalances, but spread them over time.

The beneficiaries are exchanges who gain orderly markets, clearing corporations face fewer operational pressures and regulators avert the optics of abrupt collapses. The costs is borne by minority shareholders who are left checking the sell queue every morning and wondering whether today is finally the day they get out.

Other markets generally favour temporary halts followed by unrestricted trading. Prices may move sharply once trading resumes, but buyers and sellers can meet and establish a clearing price. The objective is not to stop a stock falling. It is to find the clearing price and move on. India's framework places greater weight on controlling the speed of adjustment than on accelerating market clearing.

Rajesh Exports is unlikely to be the last company facing serious regulatory scrutiny. If similar episodes continue, investors may begin paying closer attention to liquidity risk rather than price risk alone. A stock's valuation may matter less than an investor's ability to act when that valuation suddenly changes.