Sucheta Dalal :Brooking Crooked Brokers
Sucheta Dalal

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Brooking Crooked Brokers  

June 2, 2010

In theory, investors can sue brokerages for wrongdoing, but the regulator’s caprice is stymying the system

In just a few weeks of April and May this year, the Securities and Exchange Board of India (SEBI) has picked up some serious payments ranging from Rs5 lakh to Rs40 lakh from three big brokerage firms that had ‘settled’ investigations without admitting or denying wrongdoing. The firms were: Motilal Oswal Securities (Rs5 lakh), India Infoline Securities (Rs25 lakh) and HSBC InvestDirect Securities (Rs40 lakh). A less-known brokerage firm, called Jas One Securities, also paid Rs6 lakh to settle a case under the fraudulent and unfair trade practices regulation around the same time.

If you are a client of these companies, wouldn’t you want to know about the exact nature of their wrongdoing? Well, when it comes to entities that have settled by filing consent terms, the regulator does not believe that you are entitled to the details. These cases are settled with a brief order that usually has just one paragraph on the nature of the investigation which is a narration of the Sections and regulations under which the entity was investigated.

Why is this information really important to clients? Because the capital market operates on the principle of caveat emptor, that is, buyer beware. And company websites only provide a lot of puff about themselves. For instance, India Infoline—the ‘one-stop financial services shop’ whose mission is ‘to be the most respected company in its space’ will only flaunt the numerous awards it has won on its website and the fact that it has a network of 2,100 business locations (branches and sub-brokers) spread across more than 450 cities and towns. Where would you find information about their seamy underbelly? If the intermediary you are investigating is a big advertiser, there is little in the media. Looking for information on the SEBI website is a nightmare. The information is not properly classified or searchable. And even if you do locate an order against the company, you could still draw a blank. For instance, you would know that India Infoline was investigated for something that required a fat settlement of Rs25 lakh.

There is more. HSBC InvestDirect (India) Limited, formerly ILFS Investsmart, paid a ‘penalty’ of Rs40 lakh on 21st May after settling an enforcement action. A SEBI inspection found it guilty of failing to segregate client funds from its own, not delivering securities and payments to its investors, and misuse of clients’ funds and securities. In addition to the payment, HSBC will have to reconcile account statements with its clients within two years; reverse all wrong credits to clients; reinstate debtors; and buy back excess shares sold. Importantly, these details are not in SEBI’s brief three-page order signed by two whole-time members—it is on the website

Hopefully, HSBC InvestDirect will redress investors’ complaints, but it is unclear if investors of other firms will benefit similarly. Interestingly, SEBI cleared Motilal Oswal’s mutual fund licence even when a consent application of Motilal Oswal Securities was pending before it for failure to exercise due diligence while opening 697 demat accounts in the IPO scam of 2006. Also, HSBC’s mutual fund arm was let off with a warning for failing to inform investors of changes made to its gilt fund. Why does this happen? Does it mean that SEBI’s internal process requiring a green signal from every department for the grant/renewal of licences/ registration of intermediaries is bypassed? It seems so.

Coming back to India Infoline, the question is: What kind of wrongdoing, infringement or illegality would require a Rs25 lakh settlement? Try comparing it with other cases. For instance, the Zee group, whose close nexus with Ketan Parekh was extensively documented in the Joint Parliamentary Committee, was let off with a ‘warning’ even though the scam sank two banks. An unknown Ketan Doshi paid Rs2.5 crore as disgorgement in the IPO scam of 2006. The two large depositories, which dubiously failed to notice major pre-listing share-transfers, got away scot-free. In other words, applying logic to the process of understanding who gets penalised for what and by how much leads to more confusion, even if you work past SEBI’s pathetic website, with poorly classified information, an ineffective search function and a perversely disabled copy function (for pdf files).

Over the past four weeks, Moneylife correspondents have called all the top brokerage firms to open investment accounts. Their experience showed that SEBI and the National Stock Exchange (NSE) may splurge crores on investor education but, in reality, most firms have processes which are totally at variance with SEBI circulars. They would open accounts only on their own restrictive terms. And investors report that some broking firms opened accounts and later suspended them to pressure them to fall in line.

Portfolio management service (PMS) offered by top brokerage firms is among the murkiest areas, mainly because no information is available about their performance. Ever since we began our investigation, we have received scores of complaints against all the top firms for reckless churning of portfolios and poor investment decisions, leading to massive losses. A doctor who invested with JM-PMS in late 2007 found her initial investment reduced from Rs40 lakh to Rs20 lakh in 2009. Her complaint is not about the loss that occurred due to the worldwide collapse in stock prices—she has a bigger complaint about losses caused by the excessive and needless churning of her portfolio (to earn brokerage income for a sister firm) and extremely short-term, speculative trading. This story is repeated with almost all the top PMS service-providers.

In all these cases, investors report that reaching SEBI’s investor grievance cell and getting issues resolved is frustrating. It is also our experience that SEBI’s top brass rarely bothers to respond or signal to their juniors that they would like to see quick resolutions. In fact, we have had a better experience writing directly to a few specific officials whom we know personally.
In theory, investors can go to consumer courts or even sue online brokerages under the IT Act, but, in practice, none of this works. This has resulted in India’s investor population dwindling from 20 million in the 1990s to just 8 million currently, but it does not even attract policy-makers’ attention. — Sucheta Dalal

-- Sucheta Dalal