SEBI has done well to crack down on price rigging in four mid-cap stocks. The Government should back the regulator’s efforts to restore investor confidence.

The Securities and Exchange Board of India (SEBI) deserves a pat on its back for speedy action relating to the recent crash in stock prices of four mid-cap companies. The prices of these stocks fell by over a fifth on a single day on July 26. Through an analysis of trades conducted in the session, SEBI established that 19 entities, including individual investors and companies, acted, prima facie, in unison to hammer down these shares. The market regulator also showed these entities to be related, by way of sharing either common addresses and telephone numbers, or directors. All the 19 have been prohibited from undertaking transactions until the investigations are fully over. The fact that the first phase of investigation was completed, and that the culpability of a set of investors in the artificial price fall was identified within a week’s time, is laudable. At the very least, it demonstrates SEBI’s intent and ability to act against those indulging in market malpractices. At a time when there is uncertainty about global capital flows, the Government, too, must back up the regulator’s efforts to ensure integrity in the price discovery process, necessary to restore investor confidence in the market. It could, among other things, cede to SEBI’s demand to access telephonic call data to aid investigations.

But even the facts revealed in the latest order offer useful insights from a regulatory perspective. Some of the entities found to be guilty have, for instance, been trading predominantly in the said four stocks for the last six months or more. That reeks of synchronised price rigging on an ongoing basis. It would, then, require delving deeper whether there were other behind-the-scenes operators orchestrating the actions of these entities and the underlying motives guiding such trades.

The SEBI order also highlights the shortcomings with regard to the quality of surveillance at the level of brokerage firms. Some of the entities now barred from trading were actually dealing through well-known domestic brokerages. Surely, if a client was found putting in large orders in only one or two stocks over extended periods, the risk management or surveillance departments of these firms should have got a whiff of something suspicious to alert the market regulator. The brokerages, instead, seem to have allowed these clients to transact share amounts far in excess to their known income. One particular entity, having an annual income of below Rs 5 lakh as per know-your-client disclosure requirements, was found to have traded stock worth Rs 490 crore in the last seven months. Stock brokers are supposed to provide the first level of checks in stock market operations, with the exchanges and the market regulator discharging inspectorial functions at the subsequent higher stages. The brokerage is, after all, the one that interfaces with the investor and is responsible for verifying the disclosures made by clients prior to trading. In this case, what emerges is an apparent conflict of interest between the intermediaries’ profit-making and regulatory roles. And that’s not good for the market.

(This article was published on August 8, 2012)
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