The risks of investing in unlisted shares

For retail investors, investing often feels like a search for the next best way to lose money. And lately, the hot new way to do that is by buying unlisted or pre-IPO shares. These are shares of companies that haven’t yet been listed on the stock exchanges.

When a company is listed on the stock exchange, you can buy and sell shares as long as you have a demat account, like the one you have with Zerodha. Hence the term “listed shares.” These companies trade regularly on the exchange, and there’s constant price discovery. Anyone buying a stock gets the same price.

Unlisted shares, as the name implies, are different. There’s no centralized exchange where these shares trade. Instead, you have unregulated platforms where these shares are traded at different prices. On a stock exchange, the price is determined based on the company’s fundamentals, sentiment, and demand and supply.

For unlisted shares, the price is whatever the seller quotes. There’s no transparent price discovery like on stock exchanges. Unlisted shares often trade at wild premiums compared to reasonable estimates of their intrinsic values.

The way these unlisted share platforms work is also opaque. They typically aggregate the supply of unlisted shares like National Stock Exchange (NSE), Chennai Super Kings, Boat, Oyo Rooms, etc., add a markup to the price, and then sell them. On top of the markups, there are commissions as well. In many cases, the markups plus commissions can be anywhere from 30-40% to 100-200%. There’s no way for anyone to know.

And no, I’m not making up those numbers.

Platforms and websites offering unlisted shares have always been around, but they were a novelty. They catered to a small set of risk-taking investors. They only started becoming popular among broader investors after COVID, when general interest in the stock market increased. This was an “everything market” in which people punted on everything from stocks, F&O, crypto, structured products, and mutual funds to Dream11.

Google Trends

The sales pitch for unlisted shares is simple: you get a chance to own “undiscovered gems” before they go for an IPO and everybody finds out. Since these companies are not listed, they are unknown, and you get to become rich by discovering the next big thing.

Given their popularity, wealth managers got in on the action and started peddling unlisted companies as the next multibaggers. The relentless demand meant that wealth relationship managers and unlisted share trading platforms were making money hand over fist, selling overvalued shares with crazy markups and commissions to clueless investors who were under the delusion that they were buying the next Reliance or Infosys.

Along with this, the number of platforms offering unlisted shares has also mushroomed, promising investors the opportunity to earn untold riches. Predictably, this is starting to end in tears.

Last week, several investors in HDB Financial Services made big losses after the price band for the IPO was set 40% lower compared to its price in the unlisted market. The price band was fixed at ₹700-740, while the shares in the unlisted market traded at ₹1500+ at one point.

Ouch!

This isn’t an isolated incident. There have been several such instances of retail investors losing big in the past as well. In 2023, investors in Reliance Retail, a hot favorite in the unlisted market, lost as much as 60% after Reliance reduced the share capital.

The road ahead is full of terrors

Despite all the regulatory protections, transparency, quarterly disclosures, research, and tools, people suck at picking listed stocks. Forget retail investors; even professional fund managers are notoriously bad at picking stocks. To think that one can successfully pick unlisted shares, which are not regulated and have poor transparency, horrible disclosures, and almost no research coverage, is a delusion that can only be caused by the consumption of copious amounts of illegal substances, especially the powdery kind.

Unlisted shares are so easy to manipulate that even my 3-year-old nephew can pull it off. It’s very hard, if not impossible, to manipulate listed shares because of the transparent nature of trading and regulatory protections. When it comes to unlisted shares, however, the story is different. A platform or seller can easily quote a random price that has no underlying logic.

Oh, and owning unlisted shares is also a tax headache. You have to keep track of dividends manually and also calculate the fair value when you sell the shares.

In fact, SEBI had clarified in December 2024 that such platforms are illegal:

It has come to the notice of SEBI that certain electronic platforms and/or websites are facilitating transaction in unlisted securities of public limited companies. Such activities are in violation of Securities Contract (Regulation) Act, 1956 and SEBI Act, 1992 which are, inter alia, laws designed to regulate and protect the interest of investors in securities market.

The prices of unlisted shares routinely rise and fall by triple digits with no underlying trigger. All it takes is a random rumor to jack up their prices, which attracts hordes of gullible retail investors. This is a classic pump and dump, but with unlisted shares.

Don’t do it, bro!

In investing, it’s always important to ask yourself: what’s my edge? That means you need to ask yourself what advantage you have over other investors. If you don’t have a good answer to that question, you continue the age-old tradition of retail investors donating money for the greater good without tax benefits.
The odds are also almost always against you when it comes to picking unlisted shares:

1. First, you have to identify a good company. Keep in mind that unlisted companies only file their financials once a year, make very few basic disclosures, have no major regulatory oversight, and have no analyst coverage.
2. Ensure you buy the shares at the right price from a platform that’s trustworthy. Remember, these platforms are unregulated.
3. Then you have to be sure that the company will go for an IPO because you can’t always find another seller. Unlike on a stock exchange, liquidity is an issue with unlisted shares. An IPO is also not guaranteed. Take the case of NSE’s IPO, which has been in the works for more than a decade.

Now, ask yourself: do you really think you can get all three things right?

Investing in publicly traded securities is already hard enough; do you really want to make it harder for yourself by trying to trade unlisted shares? Build a diversified portfolio with good stocks, ETFs, or mutual funds, and do something useful with your life.

Source: X (Twitter)

As exciting as it is to find exotic and thrilling ways to lose money, you are better off donating that money to charity. Or better yet, lose money in regulated and listed securities; why lose money in unlisted securities? I’m a big believer in following the rules even when losing money.

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