PLUS shares can be liquid – I’ll drink to that

 This post is the third in a series.

The first appeared on 2nd November 2011 under the title ‘Few Plus points for PLUS Markets’

The second appeared on 7th November 2011 under the title ‘PLUS Markets – a solution’

Continuing the story of PLUS Markets Group, the chairman has gone (the Middle East investors have got their way) and a new person is being recruited.

Last week I explained how PLUS Markets could find a future by repositioning themselves. We now need to deal with an issue which is usually completely misunderstood: market liquidity.

Shares on PLUS-quoted (their version of the AIM) are traded through a market-maker. This has usually been Winterfloods, a subsidiary of Close Brothers who are major investors in PLUS Markets Group.

This is how it works. A share gains admission to PLUS-quoted. On day one the market-maker (“mm”) will show three prices: offer, middle and bid. The ‘offer’ price is what the mm will sell the shares for. The ‘’bid’ is the price he’ll pay if a shareholder want to sell the shares. The middle price is obviously the price which appears on the quote screens: the balance between the ‘offer’ and the ‘bid’ prices. The difference is known as the ‘spread’ and represents the mm’s profit.

MMs can only deal with FSA authorised firms ie. your stockbroker. You tell him you want to buy a share, he takes your instructions (limit on price, as one example) and then phones (say) Winterfloods to try to execute your transaction.

The spread is interesting. It is why mms like ‘penny’ shares.

Suppose a share is priced at 9p (‘bid’), 10p (‘middle’) and 11p (‘offer’). The spread is 2p, a profit margin of 22%.

Take a ‘penny’ share: 3/4p (‘bid’), 1p (‘middle’) and 11/4p (‘offer’): the spread is 1/2p which is a profit margin of 67%.

When the stockbroker telephones the mm (or looks at the screens) he will given a market size. This is the deal size (ie.5,000 shares) at which the mm will keep his prices. Other sizes have to be negotiated.

Increasingly the mms (usually Winterfloods) have been refusing to deal in PLUS-quoted and smaller AIM shares. The reason is that we are in a bear market with prices pretty flat. When the mm buys shares (ie. you sell), he takes them on his book using his own capital. The mms are simply not willing to commit more capital and thus refuse to deal 

The cry goes out: “PLUS shares are illiquid” ie. you can’t sell them. It damages the market VERY badly.

There is a simply solution for PLUS Markets. They have long had surplus cash. Why not underwrite the mm’s positions. This will allow PLUS share to become liquid.

Last week I suggested ‘Drury’s Safety Value’ for IPOs. This was the concept that the advisers hold on to (say) 20% of an IPO funding to be released against stated targets. The emails received suggest this is a winning idea.

This week I want to introduce an idea which will help market liquidity. MMs need information so that they can gauge how a company is performing.

The Drury Liquidity Gauge. Companies on PLUS-quoted have to report their financial results quarterly.

Shareholders will love it and companies will find their performance improves. So many cash manage rather than produce monthly budget figures. They pull the accountant in for half yearly (can be unaudited) and annual audited figures.

Quarterly reporting will transform PLUS-quoted and help the liquidity of shares by increasing information.

I’ll drink to that.

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