BUSINESS
Investors, who were punting in real estate stocks in the last few months and had chosen to hang on to them, would have been badly hit over the past month.
MUMBAI: Investors, who were punting in real estate stocks in the last few months and had chosen to hang on to them, would have been badly hit over the past month. Some real estate stocks fell by as much as 42% during the period. Simple mathematics tells us that a 42% loss would have wiped out a 75% gain. Losing that kind of money in a month can be marauding.
A direct impact of this would be a slowdown in expensive real estate initial public offerings hitting the street. Also, real estate stocks won’t find favour with the street anytime soon.
But, this is not the first time real estate stocks have gone from boom to bust. As Dwijendra Tripathi points out in his book, The Oxford History of Indian Business, “It is nothing but an irony of history that with one of the schemes of beautification and development of the city started a process that eventually led the Bombay business into an unprecedented chaos. The scheme aimed at reclaiming land from the foreshore. The population of the city as well as its trade and commerce had been expanding for the last few decades, rendering grossly insufficient the available space in the islands. Reclaiming land from the sea was the only solution to the growing problem of congestion”.
On this premise, one Premchand Roychand, in 1864, promoted the first land reclamation company in Mumbai, the Back Bay Reclamation Company. Roychand was essentially a broker of bank shares.
As Tripathi writes “Premchand must have done very well in this field, for he was among the few brokers, barely about half a dozen, in Bombay during the 1840s whom the banks and the merchants recognised. Very soon, however, he left his competitors far behind and established a near monopoly on brokering of bank shares. By the end of 1850s, he was counted among the lakhpatis (possessor of Rs 100,000) of the city.”
Soon, the government recognised his importance and governor Frere appointed him a director of the Bank of Bombay. “Frere also encouraged Premchand to launch the Back Bay Reclamation Company, and even proposed to buy 400 shares to make sure that his government had a voice in the management of the new enterprise. However, the Government of India rejected Frere’s proposal, as this ran counter to the free trade principle.”
The shares of Rs 5,000 face value each, were then put on an auction and sold for Rs 26,500 per share, a premium of Rs 21,500 per share. The 400 shares sold yielded an amount of Rs 1.06 crore in total, a huge amount in those days.
This money was then deposited with the Asiatic Banking Corporation, who were appointed as bankers to the Back Bay Company. Asiatic Banking Corporation was founded by Roychand himself, and he had total control over its management.
Cotton traders at that point of time were flush with money they had made through the unprecedented rise in the price of cotton and were looking for an opportunity to park their surplus money and make more money on it. As Tripathi writes, “The reaction to the Back Bay shares showed an easy way to fortune and triggered off the worst kind of speculation. Premchand himself, in association with others, floated a number of companies, the shares of which were sold at a high premium. In many cases, the prospective investors received advances on Premchand’s recommendation, from Bank of Bombay and Asiatic Banking Corporation in order to acquire shares in companies promoted by him. Like the proverbial Midas touch, his association with a firm was sufficient to turn a scrip into instant wealth.”
Taking lead from here, a large number of joint stock financial companies also joined the party floating land reclamation companies and adding to the speculation.
As Tripathi writes, “To quote a competent observer, “it practically became the fashion among the prominent financers of the day that the most influential bank should have at its elbow an equally influential financial company and that as a corollary or appendix to both, there should be a powerful reclamation company.” The shares fetching very high premiums, served to perpetuate the process to no end.”
The game went on for sometime. “Ridiculously high premium for the shares of formidable as well as of more modest concerns was only distinguishing feature of the speculation of 1860s. ‘Time bargain’ was another. Convinced that the share price would continue to escalate, many, ‘for the most part, hitherto nameless’ persons entered into agreements to effect the sale or purchases of shares, at prices fixed far above their current value, after an agreed upon interval of three or even six months”, writes Tripathi.
But all good things come to an end. Any market works on cues that keep coming in. And the cue this time came from the end of the civil war in America. Cotton prices had been rising as Britain was sourcing cotton from India for its Lancashire mills due to the civil war in America.
The civil war ended and the news reached Mumbai on May 1, 1865. Traders realised that Britain would go back to sourcing cotton from America. This created a panic in the market and investors rushed to sell off the shares of reclamation companies, only to find that there were no buyers. This news was the needle that burst this bubble.
All this while, there were enough cues warning traders that the party won’t go on forever. But they refused to listen. “Even though the price of cotton in the Bombay market fell whenever prospects of peace in America appeared bright, the speculators refused to heed the implicit warning, and merrily went on with their share gambling mania as if the good times would last forever,” writes Tripathi.
At its peak, the share price of Backbay was quoted at Rs 55,000 - a record that probably still stands. Investors saw this as an opportunity to get rich quick and kept buying these highly overvalued shares.
Some of the speculators would have understood that the overvalued shares of land reclamation companies couldn’t keep going up. But they still bought on the pretext that some greater fools could be depended on to enter these stocks after they had and this would give them handsome returns on their investments.
Guess something similar happened to some speculators holding onto real estate stocks in the last one month. History, as they say, repeats itself, but by the time we figure out, it’s too late.
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