[Esha is a student at Dharmashastra National Law University.]
Recently, the Securities and Exchange Board of India (SEBI), by its recent circular, has brought a new framework focused on financial disincentives for Surveillance Related Lapses at market infrastructure institutions (MII). This is brought in view of the recent influx in the market investment by the investors, a significant increase in trading. According to the Securities and Exchange Board of India (Depositories and Participants) Regulations 2018, surveillance function of a stock exchange is considered a core function that in turn makes MII monitor the market and detect manipulation or abusive trading. This post delves into the relevant provisions of this circular, how it be implemented, advantages and challenges associated with it.
Relevant Provisions of the Circular Pertaining to Financial Disincentives for Surveillance Related Lapses
Market surveillance by MII
The MII is under the obligation to monitor the market activities which includes a broad spectrum from monitoring day-to-day market activities in the markets; monitoring the activity of marketing intermediaries; reporting abnormal activities and implementing the decisions in surveillance meetings.
Definition of surveillance related lapses (SRL)
The framework defines SRL as non-implementation, partial implementation, or delayed implementation of surveillance decisions, inadequate reporting, and failure to discharge surveillance activities as per agreed timelines. The SRL excludes minor errors which are procedural in nature such as errors in information, submissions, or extensions due to factors beyond MII control that may result in administrative proceedings like warnings.
This definition puts a heavy duty on the MII to monitor any activity leading to abusive trading or manipulation in the market. The framework leaves no scope for MII to be negligent in surveillance activities thus ensuring the effective working of the markets.
Financial disincentive amount
As per the framework, the amount of financial disincentives for SRL at MIIs would be dependent on the total revenue which is an indicator of the market power of the MII in the previous financial year. The amount of financial disincentive varies according to the instances of SRL in a financial year. This can be summarized as:
Case 1: If a particular MII has a total annual revenue of less than INR 300,00,00,000, then in the: (a) first instance: INR 1,00,000 penalty will be imposed; (b) second instance: INR 2,00,000 penalty; and (c) third instance: INR 4,00,000 penalty be imposed.
Case 2: If a particular MII has a total annual revenue of INR 300,00,00,000 crore to INR 1000,00,00,000 crore, then in the: (a) first instance: INR 5,00,000 penalty will be imposed; (b) second instance: INR 10,00,000 penalty; and (c) third instance: INR 20,00,000 penalty be imposed.
Case 3: If a particular MII has a total annual revenue of more than INR 1000,00,00,000, then in the: (a) first instance: INR 25,00,000 penalty will be imposed; (b) second instance: INR 50,00,000 penalty; and (c) third instance: INR 1,00,00,000 penalty be imposed.
Procedures and disclosures
Upon identification of SRL, an opportunity be provided to the MII to make its submissions. If the disincentives are imposed, then in such a scenario the amount is to be credited to the Investor Protection and Education Fund within 15 days. The disclosure of the penalty imposed would have been made on their websites. Additional requirements have to be fulfilled by the listed MII as per the Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations 2015.
Applicability
The framework would not be applicable in cases where the situation has a wider impact or a large number of investors are in loss or the market’s integrity is affected or there are minor errors of procedural nature.
Analysis of the Circular
Advantages
Protection of the securities market
By ensuring that the MII needs to monitor minuscule market activity, the SEBI framework helps create a line of defence at the MII level to keep a check on absurd activities or insider trading. This is particularly crucial when the market has seen a crackdown on Finfluencer Baap of Chart where the investors were given inappropriate advice under the guise of education. This makes the SEBI framework hit the right chords to ensure the MII are themselves on their toes leaving no scope of negligent behaviour to monitor marketing activities.
Prediction of the penalties
By laying down the financial disincentives amount, the MII would have clarity in the mind as to the consequences of their actions leading to effectively following up the framework and thus creating a deterrent effect.
Efficient enforcement
The penalties have been structured based on the total annual revenue of the MII and the amount of the penalty imposed increases by the number of instances a particular MII has SRL in a financial year. This helps in reducing the time and resources for regulatory actions.
Challenges
Undefined territory beyond the limit of three instances
Although the framework clearly defines the amount to be imposed in up to three instances, there is no clarity on the consequences to be faced by MII for SRL beyond it. There should be clarification as to whether further financial disincentives be imposed on MII beyond three instances or the enforcement action be taken by the Board. And if a financial disincentive is imposed, how would be the amount calculated?
Increased operation costs
With the framework shouldering more responsibility on the MII to monitor the market activities and reporting and impending decisions, this will lead to an increase in operational costs as the surveillance system needs to be upgraded to meet the stringent measures of the SEBI.
Fixed framework in volatile market conditions
Markets are volatile and with technological advancements, there are rising instances of defying the laws of the market. to make sure that the framework matches up with the changing dynamics of the market, it is imperative to timely update the framework.
Predefined financial disincentives v/s enforcement: The better approach
Under the Securities and Exchange Board of India (Prohibition of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations 2003, the SEBI, in the interests of investors and the securities market, can issue directions or take action such as suspension, restriction or impound of money or securities. The enforcement actions taken by the board can tailor the penalties following the situation at hand and the severity of the case and provide flexibility in terms of decision-making. It thus addresses a broader spectrum of cases from minor to serious frauds.
The applicability of the framework is excluded in cases of losses to a large number of investors; affecting the integrity of the market and having a wider impact. This suggests the SEBI provides for enforcement actions in matters of greater severity indicating a balanced approach.
Conclusion
SEBI’s new framework for considering the MII as the first-level regulators and imposing financial disincentives for surveillance related lapses is a welcoming step to add a line of defence at the institutional level to curb abnormal market activities. While the framework offers substantial benefits such as the prediction of penalties and sufficient enforcement, it also poses challenges in terms of increased operational costs and a fixed framework in a dynamic market.
The most comprehensive regulatory framework may be provided by a hybrid strategy that combines the flexibility and potent deterrent of discretionary enforcement measures with the predictability of specified penalties. This would enable authorities to effectively handle regular compliance concerns while keeping a strong response ready for more significant and intricate violations.
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