MC Explains: How do changes in shareholding mix influence stock price movements?

ITC and HDFC Bank are two big names among ‘over-owned’ stocks.

Market participants and trackers regularly hear of “over-owned” and “under-owned” stocks. The meaning of these terms is clear but how do they affect share price moves?

To understand it, Moneycontrol spoke to Shyam Sekhar, noted value investor and founder of ithought Financial Consulting. Edited excerpts of the conversation:

How does a stock go on to become over-owned? The number of outstanding shares issued by the company remains the same, don’t they?

Shareholding patterns, in terms of the type of investors and the number of shareholders, are steady for long periods.

But, when a few people become more convinced about a company, they then buy shares from more people. The ownership then becomes concentrated. This causes the share price to rise and more people come to buy when they realise that some reputed investors have increased their holdings.

So, the shareholding pattern sees an increase in the number of shareholders. And when that happens, the share is owned not just by these few people in a large number but by many others in numbers proportionate to the size of their portfolio. At that point, the stock becomes over-owned, meaning everybody owns that stock.

Can you give some examples of stocks that are over-owned?

Two come to mind immediately — ITC and HDFC Bank. Not only institutions but a large number of retail investors to own the stocks.

How does a stock become under-owned?

When the stock price stagnates for a long time, people slowly lose interest. Except a few long-standing shareholders, new investors don't buy the shares of this company. This causes some of the existing shareholders to sell the shares.

The shares are bought by another set of existing shareholders. Sometimes the company does a buyback. Sometimes the promoter hikes stake through open market purchases. The stock then starts getting owned more by the same people and less by a broader spectrum of investors. Slowly, the company goes only into a few strong hands, with the promoter being the main strong hand and with others being those who always believed in this company and now all the more so, when others fail to show confidence. Then the stock becomes under-owned.

Any examples?

During the Covid downturn, Reliance was under-owned. Not many institutions owned it, PMS (funds) and retail too did not own it much. The only people owning it were the management and those who have been long-standing shareholders of Reliance by habit and those who regularly owned like LIC. As a result, the Reliance stock became under-owned at that point. Today I would think that even Bharti Airtel is in the same place, it's under-owned.

Is it a good thing or bad thing for a stock to be over-owned?

The reasons for over-ownership or under-ownership are what determine if it is good for the company or not. Rarely is a company being over-owned a good thing because there is too much onus on the company to live up to the expectations of a large number of shareholders. If the company fails to do that, there will be huge fluctuations in the stock price.

Under-ownership also can be a bad thing because sometimes the company's fortunes improve quickly, and this can change the perception dramatically.

When that happens, fewer people owning that stock works against a fair discovery of valuation and leads to a very rapid reset. That is what happened in many IT companies post-Covid.

What is the good part of a stock being over-owned?

Over-ownership is not a bad thing in times of an extended boom when companies deliver on expectations for years together. But those are rare instances.

I would think Infosys is the only example of a company that consistently lived up to expectations of over-ownership. The HDFC group was another. Even MNCs have failed there.

When a stock is over-owned that also means more analysts tracking it. How does that influence management behaviour and stock price moves?

When a stock is over-owned, the way companies guide, the way they deliver on guidance and the way they change the guidance, all those things come into play.

That is why analysts struggle with over-owned companies. HDFC Bank is one example. Normalising a merger and correcting the liability side of a book is something that will take two years. Everybody knew this. Why did they overreact when the merger was announced and why are they overreacting now?

Both ways, it is an overreaction because they are not able to deal with gestation. So over-ownership plus gestation can work very adversely.

When the HDFC Bank CEO meets an FII brokerage and talks to them and gives a very clear indication of what they want to hear, see how things normalise.

The analyst community doesn't want uncertainty in an “over-owned stock” because they have to answer to so many people.

Disclosure: Moneycontrol is a part of the Network18 group. Network18 is controlled by Independent Media Trust, of which Reliance Industries is the sole beneficiary.