The regulating authorities are, however, concerned with excessive volatility as it can lead to settlement problems and also cause disillusionment among the investors who can lose their hard earned savings because of such volatility.

Checks and balances necessary: Checks and balances need to be evolved to reduce volatility to the least possible extent. While doing so, care has to be taken to ensure that entry and exit routes never remain closed. The wisdom of putting curbs on movement of prices, by way of daily and weekly limits, is, therefore, doubtful. These limits can cause tremendous harm to the operators who may find themselves caught with outstanding commitments in a frozen market. This isprecisely the reason why in a few markets of the world where limits on price fluctuations have been prescribed, they are far too wide and hardly ever come into operation. For example, at the Tokyo Stock Exchange, the limits on daily price rise or fall as compared to the previous day's closing price is 30 yen in respect of a share whose quotation is less 100 yen (i.e. 30 per cent or more depending on the quotation) and this limit gets progressively reduced percentage-wise with a rise in price.

In the United States, while there are no limits on fluctuations in prices of individual scrips, the circuit breakers are designed for the market as a whole. The circuit breakers that have been in operation since April 1998 require stoppage of trading for the rest of the day only if there is a 30 per cent fall (and not rise) in the Dow Jones Industrial Average, while 10 per cent and 20 per cent declines (not appreciations) would result in only temporary trading halts. The circuit breakers that have been evolved afterthe crash on October 19, 1987, when the Dow Jones fell by 508 points i.e. by 22.6 per cent, were in operation only once on October 27, 1997, when the Dow Jones fell by 554.26 points i.e., by 7.17 per cent.

Additional volatility margins: Margins have two major objectives. The first one is to act as a safeguard against likely adverse movement of prices. This has to be reasonable, normally not more than 10 per cent particularly in the context that mark-to- market margins are now collected on a daily basis. The second objective is to serve as a price corrective measure. In other words, the objective is to reduce volatility by restraining the deals. The decision of Sebi to impose additional volatility margins at rates of five per cent, 20 per cent, 30 per cent and 40 per cent at the price variation levels of 16 per cent or more, 24 per cent or more, 32 per cent or more and 40 per cent or more respectively is precisely designed to achieve this objective and is, therefore, welcome.

The rate of margin incase of a price rise needs, however, to be enhanced from 40 per cent if the appreciation exceeds say 100 per cent while the rate of margin in respect of a price fall can remain at 40 per cent to be operative at declines of 40 per cent or more as price falls can never exceed 100 per cent.

The decision to make volatility margins operative only till the first two days of the subsequent trading cycle also needs to be modified. There may be a need to continue the volatility margins for one or two more settlements even if there is no further rise or fall in prices depending upon the outstanding position in the market. There should, therefore, be no automatic withdrawal of volatility margins after the second day of the subsequent trading cycle. The authorities should review the opposition and continue these margins, if need be.

Volatility margins, to be really effective, need to be collected entirely in cash and not by way of securities, bank guarantee and fixed deposits as is permitted at present.

Dailyprice band: The daily price band which has been reduced from 10 per cent to eight per cent needs to be done away with as has been done in the case of 25 per cent weekly price band. Instead, whenever prices fluctuate beyond the stipulated limit, volatility margins can be made operative. Any fluctuation beyond say 10 per cent in a day can attract volatility margins. Such a stipulation will ensure that the market does not remain closed at any point of time.

Further corrective measures: Stock exchange authorities have in their armoury a number of other corrective instruments to control and regulate excessive speculative activities in the market. Important among these instruments are dealt below. First, differential making-up prices, one for the buyers and another for the sellers, need to be fixed in a market subject to volatile conditions. In a sharply rising market, making-up prices for the buyers can be lower while for the sellers, they can be normal. Thus, buyers are permitted to encash theirprofits partially while sellers are required to pay the losses fully. Similarly, in a steeply declining market, the making-up prices for the sellers can be fixed higher while they can be normal for the buyers. As a result, sellers are allowed to realise only a part of their profits but buyers are required to pay losses fully.

Secondly, whenever there are apprehensions of a corner in a share, buying-in provisions against a seller failing to deliver shares can be suspended and compulsory carry-over of all the outstanding positions ordered with carry-over charges being fixed. Similarly, in case of a bear raid or of reckless heavy sales in a share, selling-out provisions against a buyer unable to take delivery of shares can be suspended and compulsory carry-over of all outstanding positions ordered at fixed carry-over charges. Thirdly, short sales in an acute bear phase can be prohibited as was recently ordered by Sebi. Long purchases in a period of sustained boom can also be banned. These measures help themarket in resiling from the continuing trend it is asserting itself into.

Fourthly, there should be a limit on the carry-over of aggregate outstanding position in the market which may be five per cent of the equity capital of the company or 10 per cent of the floating stock, whichever is lower. This should act as the plimsoll level as excessive outstanding position can endanger the safety of operations in the market. Whenever such levels are touched, further dealings in the share should be permitted only on a spot delivery basis. Normal dealings may be resumed after contraction of the outstanding position to manageable proportions. Occasionally, compulsory contraction of the outstanding carry-over business from one settlement to another by say 10 percentage points or so needs also to be ordered. Mere imposition of incremental margin of 10 per cent as has recently been imposed by Sebi on incremental outstanding position above three per cent of the equity capital of the company for every increase of one percent may prove to be inadequate to combat the speculative pressures in the market. Fifthly, no single party, whether a member of a stock exchange or not, should be permitted to acquire, directly or indirectly, an outstanding position of more than 10 per cent of aggregate outstanding position or 0.5 per cent of the equity capital of the company, whichever is lower.

Finally, off-the-floor (over-the-counter) transactions beyond the officially fixed trading hours need to be prohibited in times of emergency as these transactions can and do often aggravate the bearish or bullish sentiment in the market, as the case may be.

Buffer stock operations: The above mentioned measures will certainly help reduce the volatility. Volatility can be reduced further by financial institutions and mutual funds by effecting timely largescale purchases in a declining market and sales in a rising market. Needless to add that this operation, if judiciously undertaken, will help augment the income of these institutions. Infact, in quite a few countries, special funds are set up to act as market stabilisers. In Japan, till recently, public money used to be utilised to support the stock market. All these efforts are necessary to combat the instability that is being caused to the Indian stock markets by the operations of the foreign institutional investors bereft of any concern to the stability of the market.

Conclusion: No market can function without some speculative transactions. Such transactions can be considered to be beneficial as long as they generate adequate liquidity and do not lead to excessive volatility. There is, however, no way by which the requisite percentage of speculative deals can be prescribed. Strangely, a high percentage of speculative transactions can result in a stable market while a low level of speculative deals can lead to sharp oscillations in prices. What is, however, needed is not just the safety and integrity of the market. It is here that the various instruments mentioned above, includingmargins and buffer stock operations, have a crucial role to play. The corrective measures that need to be taken have necessarily to be proactive and not reactive, to be effective. A close and continuous vigil on market operations followed by timely and effective action is, therefore, called for on the part of authorities.

(The author is the former ED of BSE)