As the Securities and Exchange Board of India (Sebi) celebrates its 25th anniversary on Friday, here’s a look at the top achievements, key challenges and major controversies.

TOP ACHIEVEMENTS

Formed by the government of India in 1988, the Securities and Exchange Board of India (Sebi) got statutory powers after the Sebi Act was passed by Parliament in 1992, the year in which the 5,000 crore Harshad Mehta securities scam hit Indian stock markets. Here’s a look at the top five achievements of the capital market regulator in the 25 years:

Dematerialisation of shares: The market regulator introduced dematerialised holding of shares and securities after the Depositories Act was passed in 1996, which did away with physical certificates that were prone to postal delays, theft and forgery, apart from making the settlement process slow and cumbersome. This also prevented the issue of fake share certificates floating in the market. It enabled electronic trading, with investors and traders even able to work from home.

Faster settlement process: Sebi is credited with quickly moving from a T+5 settlement cycle in 2001 to T+2 in 2003, or two days between the trade and shares being credited to the buyers’ account, down from five. “Pushing for market development is one of Sebi’s biggest achievements. Demat, T+2 settlement and the development of electronic markets are major achievements and we were ahead of several markets in all these fronts. With T+2, we are still ahead of the Western markets," said Sandeep Parekh, founder, Finsec Law Advisors. The regulator is currently looking at reducing the settlement cycle to T+1, enabling investors and traders to take positions faster.

Stronger and clearer regulations, orders: In the early years, powerful brokers’ lobbies controlled share price movements and could afford to ignore Sebi, according to analysts. That this is no longer the case is, in large part, because the quality of orders passed by Sebi and the mechanism of drafting new regulations have improved substantially, legal experts said.

“The era of cynicism has been truly buried. Sebi has created fear and respect in the market, both among domestic and international market intermediaries. The quality of orders has improved materially over the past 25 years. Though Sebi may have more lessons to learn on being objective and just, in the journey of 25 years, this is definitely an area of achievement," said Somasekhar Sundaresan, partner, J Sagar Associates. Recent instances of this include the orders against two Saharagroup entities that were upheld in the Securities Appellate Tribunal and the Supreme Court and the case of front running by HDFC mutual fund. Parekh of Finsec Law Advisors said the practice of inviting public comments has helped the regulator in forming better regulations.

Fostering mutual fund industry: While the Indian mutual fund industry has grown manifold from being a monopoly until the early 1990s—when Unit Trust of India, set up in 1964, was the only game in town—their reach remains low outside India’s top 20 cities. The market regulator has taken several steps to increase the popularity of mutual fund products and prevent mis-selling of products by distributors.

Some of the initiatives include relaxing know your customer (KYC) norms for small investors and widening the distribution network in rural India by roping in postal agents.

By banning entry loads for mutual fund schemes in 2009, Sebi curbed mis-selling of mutual fund products as investors would now only voluntarily pay the distributor for advisory services. “Sebi has dramatically curbed mis-selling in mutual funds," said Parekh of Finsec Law Advisors.

Foreign institutional investors: The Indian equity markets were opened to foreign institutional investors, or FIIs, in 1993 and they are now the key driving force behind stock movements. The FII investment ceiling was raised to 49% in March 2001 while the dual approval process for FII registration, by the Reserve Bank of India and Sebi, was scrapped in 2003, when they came under the remit of the capital market regulator. Since 2004, Sebi has been consistently revising the FII investment limit in both corporate as well as government debt.

While the chunk of foreign money came in through offshore derivative instruments such as participatory notes (P-notes) where the identity of the end beneficiary is not traceable, Sebi has been consistently pushing to encourage holders of such securities to enter the market as registered FIIs.

Though further issues of P-notes were banned in 2007 by then Sebi chief M. Damodaran (February 2005-February 2008) and firms were asked to reduce their holdings through these instruments, the ban was lifted by his successor C.B. Bhave (February 2008 to February 2011) to protect a falling rupee. Vyas Mohan

KEY CHALLENGES

Enforcement processes: Despite statutory powers on par with a civil court, Sebi hasn’t made much headway when it comes to enforcement. The regulator needs to engender greater confidence among investors and display greater consistency when it comes to enforcement of laws, experts said.

Some violations are ignored or go unnoticed due to the regulator’s limited access, insufficient resources or government intervention. “It must complete the processes, particularly those relating to investigation and enforcement action, in a time-bound manner," said M.S. Sahoo, lawyer and former whole-time member of Sebi.

“Shed the image that big fish are spared and only small fish are caught. This is the worst allegation against Sebi. This does not mean catch big fish without any case and ultimately lose in SAT (Securities Appellate Tribunal)," said J.N. Gupta, founder of proxy advisory firm SES Governance and former executive director of Sebi. The regulator should “strengthen surveillance and investigation and enforcement functions". Somasekhar Sundaresan, partner, J Sagar Associates, said Sebi needs a transparent policy on when it would use what power.

In recent months, the regulator has been seeking to strengthen insider trading norms, expand its presence through branch offices, work with police and local enforcement agencies, improve corporate governance norms and boost control over deposit-taking firms. “Sebi should focus on clarity… Regulations on investment advisors and collective investment schemes are very vague even in their fundamental scope and coverage," said Sundaresan.

Talent pool and market intelligence: The regulator needs to significantly improve its market intelligence, technology and talent pool in order to boost enforcement processes, protect investors, and allow the launch of more investment products without raising concerns regarding its ability to manage the resulting risks.

Sebi has about 600 employees while the enforcement department of the US Securities and Exchange Commission (SEC) alone has 1,000 people, said Sandeep Parekh, founder, Finsec Law Advisors. “Sebi should formalize a system for legal education of non-lawyers on its rolls and to re-orient lawyers on its rolls with constitutional principles and should work on absorbing greater talent from outside the government and the public sector into its management—this happens only at very senior levels but is not happening at middle-level and junior-level management," said Sundaresan, adding that Sebi should groom officers for senior management positions.

Deepening capital markets: Sebi needs to deepen the capital market. The regulator, along with the government, has taken several measures to widen the scope of investment for all categories of investors—retail, corporate, foreign institutional investors and high-networth individuals in capital markets. The number of retail investors and the share of household savings flowing into the capital market haven’t risen by much.

“The raison d’être of a securities market is capital formation and sharing of prosperity with the masses... The number of investors participating in the market is not increasing over the last decade or so despite increase in population. Many pockets of India do not use securities market. In real terms, the amount of resources raised through public issues is less nowadays than it used to be in the 1990s," said Sahoo.

To create an equity culture, Sebi has simplified mutual fund investment norms; abolished mutual fund entry loads; eased investment norms for initial public offerings (IPOs) and other public issues; unified know-your-client (KYC) norms; simplified disclosures by companies to help investors take informed decisions and most recently issued a discussion paper to introduce a mandatory safety net for retail investors in IPOs. Sebi should take strong steps to accelerate deeper retail participation in equities directly as well as through mutual funds, said Motilal Oswal, chairman and managing director, Motilal Oswal Financial Services Ltd. According to him, Sebi should work on deeper participation in equity by pension, superannuation and gratuity funds, developing a vibrant retail debt segment and reducing the cost of transactions drastically to improve investment markets in India.

Sahoo said Sebi needs to “indemnify the fraudulent loss of investors. An investor, losing any money for whatever reason, except for market loss or his own negligence, and not compensated by the negligent or defrauding party or from the investor protection funds, must be indemnified".

Corporate debt and securitization market: Despite numerous working committees and liberalization of listing and trading norms for debt securities, this remains unfinished business. Perhaps the most significant development on the corporate bond market was the migration from physical certificates to dematerialised holdings in 2000. This improved debt market volumes to an extent then but failed to attract sufficient liquidity in the following years.

The regulator first issued a working paper on the development of a corporate debt market under the chairmanship of G.N. Bajpai(February 2002-February 2005). Even after allowing the trading of interest rate derivatives on exchanges and the listing of securitized debt papers recently, the regulator has not been able to do much to create a liquid and efficient corporate debt market. Since 2004, every Sebi chairman has said that the regulator needs to develop a vibrant corporate debt and securitization market but these largely remain part of the over-the-counter, or OTC, market .

Matching up to global standards: With the capital markets growing rapidly, regulators need to keep abreast of global standards. The regulator, according to market observers and former Sebi officials, should emulate global peers. Key areas to focus on are establishing self-regulatory organizations (SROs), a better and transparent consent order mechanism, and rules over market intermediaries.

“Sebi is just too small to regulate such large industries as distributors, investment advisors and sub-brokers, not to mention Ponzi schemes. Sebi needs to be 20 times larger to address these and more of a presence in smaller towns (which it has started)," said Parekh. An SRO like the Financial Industry Regulatory Authority of the US, overseen by the SEC, creates and enforces rules for members based on the federal securities law. An independent SRO that creates and enforces routine regulations gives the regulator time to focus on bigger issues. Sebi has started moving in this direction and recently notified regulations to set up an SRO for the mutual fund industry. It needs to extend this to other products and services.

Also, Sebi’s consent mechanism is yet to be as transparent as that of regulators in the US and the UK. In the past few years, it introduced a new takeover code in 2012 and issued regulations for alternative investment funds. Following a Sebi recommendation, the law ministry has recently allowed amendments in the decades-old Securities Contracts (Regulations) Act, 1956, to permit so-called put and call options in share purchase agreements, including private equity investments and M&As. Though the amendment will encourage foreign investment in Indian firms and boost M&A activity, it could raise questions over the protection of minority investors. Anirudh Laskar

MAJOR CONTROVERSIES

Ulips: In 2010, Sebi issued showcause notices to a dozen life insurers and asked them to stop introducing unit-linked insurance plans, or Ulips, without its permission as these hybrid insurance products mimicked mutual fund schemes that are regulated under Sebi’s collective investment scheme, or CIS, norms. The order gave rise to a battle between the capital markets regulator and the insurance regulator—Insurance Regulatory and Development Authority, or Irda. The President of India had to pass an ordinance amending the CIS norms and keeping Ulips under Irda. Subsequently, Irda went on an overdrive for a complete makeover of Ulip regulations.

Mutual funds: In August 2009, soon after a panel headed by Dhirendra Swaruprecommended abolishing agent commission for distribution of financial products, Sebi ordered scrapping of entry fees in mutual funds. The move was criticized by the industry and legal experts. The order forced thousands of mutual fund advisers to sell other products that offered better incentives, resulting in stagnation of assets under management.

Participatory notes: In October 2007, in the wake of an appreciating rupee, Sebi proposed to curb issuance of participatory notes (P-notes), a favourite investment route used by foreign institutional investors (FIIs). Sebi was concerned about the quality of money flowing into India through P-notes but many say it was an attempt to curb excessive dollar flows. The BSE’s benchmark Sensex crashed 1,700 points the very day after the announcement and it led to suspension of trading for an hour. The crash forced the finance minister to clarify that the government was not against FIIs and there would be no immediate ban on P-notes.

Sahara: In November 2010, Sebi barred two Saharagroup firms from raising money from the public in any manner, citing violations of capital-raising norms. Another directive followed in June 2011, asking Sahara firms to return money to investors with 15% interest. This marked the beginning of a legal battle between the regulator and the company as the latter argued that since unlisted entities were raising funds, Sebi has no jurisdiction over them. The case was heard in the Securities and Appellate Tribunal and later went up to the Supreme Court, which directed Sahara to refund the money. (Sahara has filed a defamation case in a Patna court against Mint’s editor and some reporters over the newspaper’s coverage of the company’s disputes with Sebi. Mint is contesting the case.)

MCX-SX: In a bid to ensure compliance of exchanges with market infrastructure regulations, Sebi got into a bitter legal spat with India’s newest stock exchange MCX-SX in 2009. The regulator fought a three-year long battle with the promoters of the exchange, alleging the latter violated norms by attaching put options in its share purchase agreement with investors and not following permissible routes for capital reduction. While Sebi alleged that MCX-SX promoters did not comply with ownership and governance norms required by an exchange, MCX-SX claimed that it had not violated any such norm, that it took prior permission of other regulators, and followed permissible routes for capital reduction. Later, MCX-SX was given a licence to start equity trading and given three years to reduce promoter holding in the exchange. Anirudh Laskar & Vyas Mohan

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