The Securities and Exchange Board of India ("SEBI") has constituted a committee to review the role of market infrastructure institutions in the securities market. To be chaired by former Reserve Bank of India governor Bimal Jalan, the committee is tasked with reviewing the ownership and governance structure of market infrastructure institutions in the context of their evolving role.
"The role of market infrastructure institutions has been continuously evolving to meet the challenges of the emerging securities market. These institutions are increasingly called upon to undertake regulation and supervision of the markets, while simultaneously pursuing commercial objectives," SEBI said in a press statement.
However, an even more important element that SEBI ought to bear in mind is the increasing ambiguity about the gate-keeping role that market intermediaries are being called upon to play. SEBI would do well to review how this environment has evolved and take steps to make life predictable and clear to market intermediaries registered with SEBI, each of which plays an interlinking role in the market infrastructure.
Role ambiguity among market intermediaries has posed regulatory hurdles to smooth functioning of the securities market. Worse, regulatory action against market intermediaries for allegedly not playing the gate-keeper’s role despite the regulatory framework not providing for such a role, has led to regulatory fear among intermediaries, which in turn leads to an acute state of indecisiveness in the their administration.
* Stock brokers are routinely hauled up for alleged manipulation by their clients. SEBI’s logic: The broker is a gatekeeper, and if the client is guilty of manipulation, the broker ought to per se be guilty of aiding and abetting the manipulation.
* Stock Exchanges play the role of a gate-keeper for specific issues relating to listing of securities. Consequently, stock exchanges tend to overplay the fear of any listing of securities – a large number of appeals against listing rejections by the Bombay Stock Exchange are seen in the Securities Appellate Tribunal, some of which are on grounds as specious as the swap ratio for a merger not being to the exchange’s satisfaction (although no shareholder or creditor, or court objected to it).
* Depositories and depository participants have been accused of not being involved in the so-called IPO scam, for allegedly not playing a gate-keeping role effectively. It was alleged by SEBI that their alleged negligence contributed to the occurrence of the scam and they ought to have prevented accounts from being opened. It is another matter that after the dust has settled, it has been held in appeal that a significant component of the so-called scam cannot be legitimately regarded as a scam at all (See Without Contempt – Jan 4, 2010).
* Merchant bankers are routinely hauled up for not exercising due diligence on the ground that they are not able to produce copies of voluminous litigation documents, regardless of materiality thresholds, relating to companies whose securities offerings they handled years ago.
* The National Stock Exchange had once been asked by SEBI to explain the basis on which they set up a securities clearing corporation (now a legal requirement of every exchange).
* The National Securities Depository Ltd. was asked to explain the basis on which it handled other projects of national importance such as the tax information network.
* Fearful of all that is happening to other intermediaries, securities custodians look upon themselves as compliance monitors for dealings by foreign institutional investors ("FIIs"), without any regulation providing for such a role. As a result, many aspects of FII operations are dependent on how the compliance function in the custodian’s organizations interprets regulation, leading to intended administration of the FII regime.
Every intermediary plays a role in one form or another that weaves into the fabric of the securities market infrastructure. Role ambiguity leads to not only regulatory fear on the part of such institutions, but can also have the ability to lead to undesirable high-handedness, second-guessing and illegitimate questioning of investors on the part of the market intermediaries. SEBI would do well to review the specific issue of the role of gate-keepers and ensure that designated horses alone run designated courses.
Letting every market intermediary second-guess and question clients due to role ambiguity will lead to chaos – a scenario akin to the beat constable down the street seeking to know what is in your household safe on the ground that overall security of the street is his mandate.
(The author is a partner of JSA, Advocates & Solicitors. The views expressed herein are his own.)