Prof. Jayanth R. Varma’s Financial Markets Blog

A blog on financial markets and their regulation

IPO Quiet Periods

There has been a lot of discussion in the press about the reported
move by the Securities and Exchange Board of India to introduce a
“quiet period” prior to public offering of
securities. Ajay Shah blogged in support of this idea here.
The financial press in India also seems to have been largely
supportive. Sandeep Parikh provides links to several press reports in his
blog.
Sandeep Parikh himself has been supportive
of the quiet period.

The quiet period is a long established practice in the United
States though as Sandeep Parikh points out, US regulations have been
dramatically liberalized this year. The purpose is clearly to ensure
that securities are sold using a carefully written prospectus and not
on the basis of advertisements and other marketing
material.

While the goal may be laudable, I think that the quiet period is
basically a bad idea. First of all, I am very sceptical about any
restraints on the freedom of speech. To my mind, free speech comes
much higher in the hierarchy of rights than the right to
property. Therefore, if somebody’s free speech conflicts with
somebody else’s property rights, I would think that normally it
is the free speech that must prevail. I can understand the desire to
ensure that any advertising is not misleading, but I cannot understand
a ban on general corporate advertising.

Secondly, in practice, the ban extends only to written
material. The SEC has now clarified that written
material includes videos placed on
a website but it excludes communications that are carried live and in
real-time to a live audience. This is immensely anti competitive and
benefits only a cosy club of investment banks and other financial
intermediaries. What it means that an issuer can carry a
“soft” advertising message to the investor only through
road shows to investor groups. Typically, it is only an investment
bank that can organize these road shows. All that the SEC is doing is
helping these banks collect their rents. To understand the
implications of this, let us take this out of the securities
setting. Imagine a rule that said that soft drinks cannot be advertised
but live road shows to live audiences are allowed. The Cokes of the
world would then have to pay the Walmarts to do road shows in their
various retail stores and the Walmarts would surely lobby vigorously
for such a rule to be kept in place. Or imagine a rule that said that
election meetings and door to door campaigns are allowed but no
election related advertising is allowed. Cadre based parties would
love this because it increases the entry barrier for new political
formations.

These general principles applies to the securities industry as to any
other industry. Restrictions on advertising are anti competitive. They
favour incumbents. They allow intermediaries to earn
rents. Unfortunately regulators are captured by these intermediaries
and it is often this regulatory capture that leads to such anti competitive
regulations. Sadly, all this is done in the name of consumer protection
or investor protection.

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