What is Grey Market? Types and How Does it Work?

Introduction to What is Grey Market

In the vast landscape of financial markets, there exists a dimension that defies conventional boundaries—a realm known as the Grey Market. Much like the enigmatic Twilight Zone, which is the middle ground between light and shadow, the Grey Market occupies the space between unofficial and legal trading.

The intriguing nature of the grey market has captured your attention, hasn't it? You might be wondering, what is the grey market? How can the grey market be unofficial but not illegal? Are the perks offered by such a market worth the pitfalls? Let's delve into these questions by understanding what it is and how it operates.

What is the Grey Market?

Simply put, the grey market is an unofficial trading space where investors can get a sneak peek into upcoming IPOs or stocks before they are officially listed. Grey market trading usually occurs when new securities are bought and sold before official trading begins. Grey markets can also refer to products that are sold via alternative retail channels.

Grey markets operate when IPO products are distributed outside the regulated platforms, often through informal networks or specialised brokers who deal in these early-stage investments.

What is the Significance of Grey Market in Trading?

The IPO grey market provides a unique opportunity for investors to gain early access to investment opportunities. By accessing these early opportunities, you can potentially capitalise on market movements before they become widely known or priced into the official markets. This can be particularly appealing if you are an investor looking for early entry points or seeking to ride the initial momentum of new listings.

However, entering the grey market comes with its own set of risks. Unlike regulated markets, the Grey Market lacks the same level of consumer protection and regulatory oversight. This means that while you may gain early access to investment opportunities, you also expose yourself to higher levels of uncertainty and potential volatility.

Read more: What is GMP in IPO

How are Grey Market Products Distributed Outside

In a grey market, products and securities are traded via unauthorised distribution channels, often outside the purview of the company’s planned distribution network. The goods are distributed by entities who may or may not have any relationship with the company. 

For example, if ABC is an investor expecting huge profits from the upcoming IPO of XYZ. Since ABC is aware of XYZ’s good market reputation, he invests in the IPO grey market of XYZ, with a broker selling 50 shares at a grey market premium of Rs. 500. 

When the shares are listed, the price is Rs. 15 per share, from the estimated grey market pricing of Rs. 10. 

ABC took a risk by trading in the unregulated market. During the official IPO, he sold XYZ’s shares to another investor, and booked a profit of Rs. 250. (50 shares x Rs. 15 per share = Rs. 750) (Rs. 750 - Rs. 500), by selling 50 shares. 

Grey Market: Advantages and Disadvantages

The advantages of IPO grey markets are:

• You can make higher profits from the IPO
• The IPO shares are available for trading even before listing is open 
• IPO shares can be purchased even after the subscription window is closed 
• There is no limit on the number of IPO applications for trading 

The disadvantages of IPO grey markets are:

• The grey market is unregulated, and issues with customer service, warranties, legitimacy, and quality could occur. Therefore, it is important to assess the credibility and reliability of grey market vendors. 
• Grey markets restrict product availability and projected demand, hiking prices. As an investor, you have to determine if the product is genuine and the grey market price can be justified. 

Effect of the Grey Market on Businesses

The premium that investors pay over the issue price is known as the grey market premium (GMP), and this impacts businesses and IPO listings. The upcoming IPO GMP is much higher, and it helps to measure an investor’s interest in a specific IPO. 

The grey market premium is determined by demand and supply, and if the number of subscriptions is smaller than the number of shares offered in the IPO, the GMP will be lower. If the number of subscriptions is higher than the number of shares offered, the GMP will be larger. 

The GMP helps to assess if the IPO will do well or not. 

In some cases, the size of grey markets are huge. Conducting business outside of the official channels can pose some threats and risks to the business. Grey market trading can damage brand equity and relationships in the formal sales channel. 

How Does the Grey Market Work?

IPO grey market trading has the following steps:

1. Find a reputable broker who deals in the grey market. 
2. Research the IPO you want, including the company's business and financial standing.
3. Monitor the current grey market premium (GMP) of the shares.
4. Inform the broker about the shares you want to purchase.
5. Negotiate your purchase terms, such as share quantity and GMP, with your broker.
6. The broker will find a seller and negotiate the deal on your behalf.
7. Once a seller is found, agree on the price and payment method, and finalise the deal.
8. Make the payment and obtain a confirmation receipt from the broker.
9. The shares will be transferred to your demat account after the IPO listing.
10.Track the performance of the shares and stay updated on market trends to make informed investment decisions.