Investors didn’t buy Adani’s ‘attack on India’ story

It has been two and a half months since Hindenburg Research published a negative report on the Adani Group, where it alleged that Adani had “engaged in a brazen stock manipulation and accounting fraud scheme over the course of decades”. As a reaction to the report, the stock prices of the group’s listed companies fell. In fact, they are still quoting at significantly lower levels compared to where they were before the report was published.

Take the case of Adani Enterprises, the flagship company of the group. On Thursday, it closed at Rs 1,753 (the stock market was closed on Friday), at around half of where it was on

January 24, when the report was published.

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In response to the Hindenburg report, Adani had alleged that “this is not merely an unwarranted attack on any specific company but a calculated attack on India, the independence, integrity and quality of Indian institutions, and the growth story and ambition of India”.

That statement was hardly surprising, given that any conglomerate accused of fraud would try to protect its reputation. The funny thing was that many influencers and investors also started propagating the Adani narrative. They also urged investors to go out and buy Adani stocks.

The thing to recognise here is that Hindenburg Research is basically a short-seller, and it did not hide its intentions of being just that at any point of time. As it had said in its report: “After extensive research, we have taken a short position in Adani Group Companies through US-traded bonds and non-Indian-traded derivative instruments.”

Short selling is an investment strategy where the investor is betting on the fall in price of a financial security and in the process profiting from it. It involves the investor borrowing that financial security – bonds or shares.

The investor then sells these bonds or shares at the prevailing market price. Now, the investor needs to return the borrowed shares or bonds. The investor’s bet is that the price of the bond or share would fall before they need to be returned. Once the price falls, the share or the bond can be bought back at a lower price in comparison to the price it was sold at. A profit is made in the process.

By short-selling, an investor takes a huge risk, given that the price of the security being shorted can go up instead of going down. If that happens a short-seller can end up with losses, instead of the expected profit.

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Also, it’s worth remembering that in the normal course of things, the price of a financial security cannot fall below zero. At the same time, in theory, there is no upper limit to how high the price of a stock or bond can go. So, the point is that while the possible profits on short-selling are limited, the possible losses can be very large. Hence, a serious short-seller has a huge skin in the game and can’t be frivolous because they run the risk of getting totally wiped out.

Now, on March 23, Hindenburg issued another research report against the American technology company, Block. Hindenburg said that the “magic” behind Block’s business has not been disruptive innovation but rather its willingness to facilitate fraud against consumers and the government, avoid regulation, dress up predatory loans and fees as revolutionary technology, and mislead investors with inflated metrics”. On the basis of its analysis, Hindenburg had shorted the shares of Block and expected that the share price would fall anywhere between 65% to 75%.

As of Thursday, the stock had fallen by 6.3% to $68.1, from a close of $72.65 as of March 22. Clearly, the trade isn’t working out as forecast. Interestingly, no one saw this as an attack on America, calculated or otherwise.

Short-sellers have been around since stock markets have been around. Of course, given that they make money when everyone else is losing, they tend to be a rather hated lot. But it’s worth remembering that they play an important role in the stock market by ensuring that valuations of stocks don’t go totally out of whack. It’s worth remembering that for any market to function well, it needs both buyers and sellers.

This brings me to the final point I wanted to make. The price of the Adani stocks continues to remain much lower than what they were on January 24. What this tells us is that most investors haven’t bought into the “attack on India” story, because if they had then they would have gone out and bought the stocks and the prices would have risen, instead of falling.