Regulatory concerns must be even handed
UBS episode exposes SEBI's organisational weakness
THE CAPITAL market regulator has had the mortification of seeing a number of its judgments/orders overturned by the appellate authority, the Securities Appellate Tribunal (SAT). The latest order of the Securities and Exchange Board of India to be overthrown by SAT concerns UBS Securities.
The UBS case has been a high profile one. It covered the alleged actions of a leading investment house resulting in a stock market crash on May 17, 2004, the "Black Monday'' as it came to be called. The Sensex had plunged on that day, reacting to some "market unfriendly" statements of members of the new ruling coalition at the Centre. The new UPA Government was taken aback by the suddenness of the key stock market index's fall. The Finance Minister, P. Chidambaram, went to Mumbai to convince investors about the new Government's commitment to the capital market's interests.
From hindsight, it appears that neither the Government nor the market ought to have been so seriously concerned about the event. The stock indices have not only recovered but have been having a dream run since.
The UBS case was directly linked to the market's fall. Exactly a year after the crash the capital market regulator, which was on the lookout for the perpetrators of practices that might have caused the market crash, held UBS responsible, with an assurance that others will be identified later. It debarred UBS from issuing participatory notes for a year.
Participatory notes are derivative instruments issued by investment banks in favour of overseas portfolio investors and have become important conduits of foreign institutional money into Indian stock markets. These instruments had already become controversial. One reason for this was that the identity of those investing in them is kept confidential by the note issuing investment banks. During previous market highs, the Government and the regulator undertook to check alleged malpractices in the issue of these notes, the main suspicion being that they were used to launder black money.
Importantly, any financial entity, including banks, is expected to follow the Know Your Customer(KYC) rules. Obviously for the regulation of participative notes this becomes quite critical.
The decision against UBS was an attempt by the SEBI to penalise an investment bank for not following the KYC rules or at least not submitting the details when called upon to do so. Evidently the issues were not so clear cut as to permit a definite judgment.
Investment banks like UBS have argued that they are regulated in their home countries and that there was no reason to submit to another regulation. In the instant case, UBS did comply but, in SEBI's view, after considerable stonewalling. In fact details of their top client were not furnished till the end.
UBS was a seller of securities on May 17, 2004. The main sin of UBS might have been non-compliance with SEBI's directive. The regulator did not stop with this charge but had extended it to punish UBS for large-scale short selling and hence perpetuating the crash. The appellate authority had not concurred with this. It had also said that SEBI's KYC rules were ambiguous and that the regulator could have pressed its case under some other sections of the SEBI Act.
The last point proves yet again that the capital market regulator continues to have major organisational deficiencies. SEBI had lost many high profile cases earlier. Now it has been told that it could have interpreted the SEBI Act more diligently. There is a strong case for beefing up the quality of its manpower. It becomes imperative for the SEBI to reverse its tradition of not being able to make its orders stick. So not only the initial order but also the ability to defend it before the appellate authority becomes critical. One of course agrees with the spirit of SEBI's action against UBS. No institution should be allowed to defy the regulator. It would have been good if the SEBI had confined itself to this violation. It would have had a much better chance at the appellate level.
Finally, the UBS case is about the Government and the SEBI trying, so far in vain, to locate culprits responsible for the market crash.
One hopes that their concerns will extend to situations like the present one, with the ongoing rally seemingly going out of control. Last week the Sensex closed at 8380.95. On May 17, 2004 it had closed at 4506, having crashed by 842 points during intraday trading.
C. R. L. NARASIMHAN
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