Has it ever happened that your stockbroker auctioned your shares just because you couldn’t pay the margin money at a short notice? Or, did your broker encourage you to trade in futures and options, without telling you that you could end up losing your shirt in a volatile market?
Indeed, many investors would have faced similar situations since the markets turned volatile in January. Brokers switched off terminals for some time and didn’t allow investors to trade even if they had the money to buy shares. In the case of some of those who had bought shares on margin, on the other hand, brokers sold the shares without even informing them, or allowing them to pay up the margin money.
To discourage such practices, stock market regulator Securities and Exchange Board of India (Sebi) now proposes to list the sales practices as a part of its regulations. If these proposals are cleared, brokers may not be able to take investors for a ride easily .
To begin with, it proposes that each investor who wants to trade in derivatives should have a minimum net worth, for example Rs5 lakh, and the broker should obtain a net worth certificate on the investor from a chartered accountant as an acknowledgement.
The onus will be on the broker to ensure that he gives adequate training, information about the risk and returns associated with derivatives trading. He should consider the previous trading activities and past investments of the investor while making any recommendation on derivatives. The broker should be fair in making any recommendation or accepting any order for such transactions. Also, he should not encourage or induce investors to do excessive trading or speculation. The broker should not execute transactions that are not explicitly authorized by his clients.
At the time of signing up a new investor as a client, the broker should disclose any action taken against the broker or cases pending for any kind of violation.
The market regulator also proposes to put in place rules to avoid conflict of interest between the research, investment banking and proprietary trading units of brokerage firms. Many a time, it happens that the research team of a brokerage firm publishes a favourable report on a company whose sale of shares to the public is handled by the same brokerage’s investment banking arm.
Or, the analyst may put a “buy” recommendation on the stock simplyb ecause it helps the stock go up and benefits the large institutional clients of the broking firm.
In future, a research analyst in India may not be allowed to buy shares of a company he tracks for a period of 30 days before and five days after he publishes a research report on the company. Also, brokerage firms need to ensure that no research analyst takes a stock position which is inconsistent with his recommendation. The rules would also discourage the analyst from taking any kind of direct or indirect compensation for writing a favourable research report.
They also propose that a research analyst, in his research reports, should disclose his family’s financial interests in the stocks he covers.
The proposed guidelines require the broker to maintain confidentiality on the dealings of clients and avoid using fictitious accounts in order to execute transactions.
The broker would also be against any false or misleading advertisement or any untrue statement of a material fact — such actions would constitute a fraudulent or manipulative act on his part.