Like all good regulators, the Securities and Exchange Board of India (Sebi) has tried hard to get market intermediaries to form self-regulatory organisations (SRO) that would formulate good business practices for their members and reduce the regulator’s supervisory burden.
Unfortunately, the SRO concept has failed to take off in India. In the early 1990s, the Association of Mutual Funds of India (AMFI), openly declared that it would rather be a lobbying organisation for the mutual fund industry than an SRO responsible for disciplining errant members. Fair enough. At least it was clear and unambiguous about its role. Over the years, AMFI and the Association of Merchant Bankers of India (AMBI) have grown into focussed associations that take up the collective cause of their members. They are represented on Sebi’s policy-making committees, respect its regulatory function and generally steer clear of controversy and confrontation.
The brokers’ associations however are a different kettle of fish. Ever since the Brokers’ Forum was set up in 1992 with the objective of challenging Sebi and fighting its supervision at every turn, broker associations have remained rather belligerent. Brokers of the newer National Stock Exchange (NSE) have an association called ANMI (Association of NSE Members of India) comprising 600-odd members around the country. Despite the NSE’s member profile being more corporate, ANMI also seems to think that its primary task is to fight the regulators.
A recent litigation, where ANMI has been impleaded as fourth respondent demonstrates its inclination to support broker-members at all costs. In this case, ANMI seems to support a case of outright fraud and is willing to enter litigation solely to undermine the exchange’s case. This attitude calls for a re-look at the role and representation of such associations by the market regulator.
The case in question has been filed by Mangla Capital Services Ltd, owned by Vinod Gupta, against the NSE. Gupta, who is a leading member of ANMI, has been held guilty of indulging in fraudulent trade practices, market manipulation, violation of BSE byelaws and issue of fake contract notes (in his own name) in order to avail of the Insta cash facility of HDFC bank. His clients conducted large trades in a single scrip — Cyberspace Infosys, that too mostly sale transactions. The NSE annulled the fraudulent trades, leading to the present litigation.
It is well known that Arvind Johari’s Cyberspace Infosys was one of the biggest bubbles of the IT mania of 2000-01 and its collapse caused losses to a large number of investors. Johari also owned a brokerage firm called Century Consultants, which rampantly manipulated its price on the stock market and kept it at an unsustainable high by operating through scores of firms and brokers.
Gupta’s petition has challenged NSE’s Byelaw 5(a), which empowers it to annul fraudulent trades saying that the rules are unconstitutional, ultra vires and hence void.
That a fairly basic rule of a nine year old exchange is challenged, that too in a case of annulment of fraudulent transactions is astonishing. But Gupta has tried to give his litigation a macro tilt by dragging in Sebi and ANMI as respondents.
ANMI’s stand is interesting. It has grabbed the opportunity provided by the litigation to raise “substantial questions of law, which affects the broking community”, ‘particularly in view of the manner in which annulment of trades/scrips are dealt with by the NSE’.
ANMI had also attempted an independent investigation into the Gupta case and accuses the NSE of not providing information for such an inquiry. It also makes the sweeping allegation that “none of the decisions” of NSE and Sebi “are indeed appealable” and that “issues are decided (by them) in an arbitrary manner” since there is no corrective procedure.
These allegations raise some elementary questions:
* If Sebi’s decisions are not appealable the matter should be raised with the finance ministry, and if NSE’ decisions are not appealable it has to be taken up with Sebi. Can ANMI raise such straightforward issues as a fourth respondent in a litigation pertaining to outright fraud?
* Secondly, ANMI, like AMBI and AMFI is not an SRO, it is a lobbying organisation for its members. Since ANMI is not an SRO, does it have the right to demand information pertaining to a specific case from the NSE, and is the exchange obliged to respond? If it does, it would amount to ANMI supervising and questioning the NSE, which is an SRO with extremely onerous responsibilities and clearly laid out disciplinary procedures.
* Thirdly, the main issue here is the annulment of “fraudulent trades” by the NSE, that too in a notorious case like Cyberspace Infosys, where a large number of brokers indulged in rampant price manipulation, causing heavy losses to investors when the dotcom bubble burst. What is ANMI’s stand on fraudulent trade practices by its members? ANMI has been very clever in its interjection and skillfully steered clear of the issue of whether the broker was guilty of fraud and manipulation, even while it discusses some of Gupta’s claims. Instead, it has questioned the legitimacy and applicability of NSE’s byelaws and the manner in which NSE implements them.
* Most importantly, while challenging the NSE’s byelaws in court (instead of raising the issue with Sebi), ANMI seems to be questioning the exchange’s very right to annul fraudulent trades. It suggests that the bourse should always dip into the trade guarantee fund, except in exceptional cases. One would hope that on a well run bourse, a case of “fraud” would be exceptional, rather than routine. In which case, wouldn’t ANMI have to say whether its member committed fraud, before it argues about how stock exchange byelaws ought to be implemented? The matter will be now be decided by the court.
At another level however, it is important for the regulator to take a hard look at ANMI’s charges. Is there merit in its complaints about NSE’s byelaws and the demand to share data with brokers? Also, does the general body of NSE members support ANMI’s advocacy of a broker held guilty of “fraudulent trades and manipulation”? Further, since ANMI is regularly invited to Sebi’s policy making committees, does the regulator know whether ANMI is truly a representative of all brokers and is not controlled by a closed group? Sebi will have to answer these questions in order to ensure that every punitive action by the regulator or a bourse does not lead to lengthy litigation about the quality, fairness and legitimacy of its rules, byelaws and procedures. -- Sucheta Dalal