Grey Market Premium (GMP) in IPOs: What It Means and How It Works

This blog will tell us about a second market that we previously mentioned.

What is Grey Market

Grey market is an informal, closed and unofficial market without any general rules. The IPO GMP is based on the principle of trust. It is not regulated.

The grey market is not a formal exchange. It is an unofficial and therefore not regulated market. Transactions are private. Investors are responsible for all risks involved in trading on such a market. Unregistered dealers are used to assist in the trading. IPO GMP/GMP should be a concept that you understand if you’re interested in IPOs. Learn about the grey-market premium.

What is a Grey Market Premium?

IPO GMP is the premium at which shares can be traded at in the IPO gray market. It is the stock traded in the secondary or primary market after a company has launched its IPO.

We will use an example to better understand the GMP for IPOs. Imagine a company called X Ltd. launched its IPO at Rs 200. The grey market premium is Rs 10 When the IPO period ends, it is presumed that the shares will be listed at Rs 210. It may not always work this way.

How does the Grey Market Work?

You can earn money on the grey market in two different ways:

• You can trade shares in the gray market before they are listed on the stock exchange.
• Your IPO application can be sold to earn money

Let us discuss each of these methods separately.

Grey market trading types

Buying/Selling IPO Shares in the Grey Market before they are listed on the Stock Exchange

• You can apply for the shares that are offered at the IPO. When you apply for the IPO, you take on certain risks. You may not receive any shares or they may be listed below the issue price. You are referred to as a seller.
• Let’s say that your friends believe the shares are worth more than their original issue price. Your friends will begin to accumulate these shares before the allocation of IPO shares. Your friends are called buyers in this situation.
• Your friends will order IPO shares with the help of dealers on the grey market. Your friends want to  pay a premium for the IPO shares.
• The dealers on the grey market then contact you. You may be asked to sell your shares at a certain premium.
• Say you’re not prepared to take on the risks associated with an IPO. You’re tempted by the high premium that is offered. You decide to sell the shares to the dealer. You record your gains. You will need to agree on a price with the seller before you can book the deal.
• You have now given the dealer the information. He will tell your friends about it. He will tell them that he bought a certain number of shares.
• The allotment is now complete. You might or might not be allocated any shares based on the IPO allotment status.
• If you received the shares as part of the allocation process, the dealers on the grey market may contact you.
• You may be asked to sell shares at a certain price. You may also be asked to transfer your shares onto someone else’s Demat Account.
• The settlement for your sale of shares may be determined by two factors. You can choose between 1) the profit or loss that you have incurred 2) the GMP where you and your friends are transacting
• Let’s imagine that you didn’t get any shares at allotment. No settlement can be made. This is how the IPO gray market trades shares.

Grey market IPOs: Buying and Selling IPO Applications

• The same as the trading of Initial Offering’s applications, both buyers and sellers are involved. You and your friends.
• You and your friends will determine the price of the application based on market conditions.
• You may receive a call from a friend who says they are interested in purchasing your Offerings app for a certain amount or premium.
• You can sell your application at a premium to any of your friends through a grey-market dealer if you want to be secure.
• You don’t have to worry about getting shares in an IPO. You will still receive the GMP if your application is not approved during the allocation process.
• You will need to send an application form. The dealer will tell your friend that you sold him the application at a certain premium.
• You may or may be able to get shares at the time of allotment.
• Imagine you receive shares as part of the allocation process. You will have two choices. You might be asked to transfer your shares to someone’s Demat or to trade them at a certain premium.
• The settlement of shares is based on gains or losses.
• If you did not receive any shares, then the deal is automatically cancelled.
• You can still  get the premium you received when you exchanged the application.

This is how the grey market operates.

How does GMP work for IPOs?

Calculating GMP is not difficult. Let us say the price of XYZ’s IPO was Rs 900 per share. The GMP is 100 Rs. The shares of the organization are then expected to be listed at Rs 1000. The value of the GMP varies every day depending on the demand for shares.

We can therefore calculate the value of an share’s GMP by: GMPR = Grey Market premium * number of shares

Final Words

The grey market premium is a way to determine the performance of an IPO after its listing. It is only a guide and not a guarantee of accuracy. It would be helpful if you took into consideration that the activities are very risky. You should only engage in these activities after thorough research and analysis.

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