How strictly should the Indian stock market’s 25% free-float rule be enforced? Under this basic norm, meant to assure every traded stock sufficient liquidity for trading, at least a quarter of every listed company’s equity must qualify as its ‘free float’ portion, as distinct from the stake held by its promoters.
It’s back in the news because five state-run banks—Uco Bank, Central Bank of India, Punjab & Sind Bank, Bank of Maharashtra and Indian Overseas Bank—still have public shareholding levels of only 1.8% to 13.5% and must raise it to 25% by 1 August. As Mint reported, while the Centre plans institutional placements to comply, these banks have sought another two years for it from the regulator, Securities and Exchange Board of India (Sebi).
If the odds seem to favour their wish being granted, pin it on a trend of rule relaxations. An exception was made for companies holding a public issue that would lead their market value to exceed ₹1 trillion, with such cases given two years more than the usual three to touch the quarter mark.
This had suited Life Insurance Corporation of India (LIC), in which the government wanted to offload a 10% stake in parts without subscribers falling short. In 2022, LIC raised over ₹20,500 crore from 3.5% of its equity and has since been granted leeway till 2032 to comply fully.
Private lobbying for relief has been active too. Last year, Sebi eased its policy, letting stock options be counted as free float, for example, within a 2% limit. Institutional ownership always qualified as free float, even though such shares aren’t always traded actively, a point that came up in a controversy over the Adani Group’s free-float adequacy.
The burden of rule-making includes the need to review rules from time to time. However, the question to ask today is not how doing business is getting easier, but also whether the rule is meeting its aims. Let’s turn to first principles. The basic rationale of a 25% float is to ensure every listed stock sees enough trading for apt price discovery.
Plentiful shares available on stock exchanges usually means one-off deals can’t distort its market value, thus also making the stock price harder to manipulate. It’s an ideal that stems from the very idea of an open market, its efficiency driven by a blend of diverse views held by a disparate crowd on what listed assets are worth.
The prices of widely traded stocks tend to reflect their true value better, which in turn helps sustain investor confidence. To satisfy this aim, though, equity held by financial institutions should ideally not count as free float.
Back in 2010, when this rule kicked in for all listed firms, markets had sparse retail participation, so its definition was kept broad. Today, the post-pandemic retail boom has weakened that logic. To uphold the 25% rule in its best spirit, it may well be time to exclude equity that’s not widely dispersed.
Corporate governance is another reason why markets prefer wide dispersal of ownership. It invites wider public scrutiny, after all, reducing scope for the whim of promoters to trump the will of other investors. Since it takes a quarter-plus of all corporate votes to block a special resolution, 25% may sound like the right slice to pry out of promoter hands.
Yet, this cuts it so close that 75%-stake owners may still exercise their whims. For public shareholders to register dissent in defence of their interests, they would together need over 25%. A policy reset to 28%, say, might help. Tighter rules aren’t always bad.