The Securities and Exchange Board of India’s consultation paper proposing to add specific provisions to the Prohibition of Insider Trading Regulations to prevent insider trading in mutual fund units has drawn some flak from market participants for being too broad in scope, and overlapping extant circulars. But much-needed is a clear delineation of rules and penalties for mutual fund employees and persons connected to them on trading in units, when in possession of material non-public information. As the consultation paper rightly points out, there have been recent instances of top AMC executives cashing out of funds ahead of adverse events that dented value for public unitholders (the Franklin Templeton case). One can also envisage many situations, unique to mutual funds, where insiders with access to unpublished information can avoid losses or make unfair profits. MF insiders can get wind of redemption pressures, liquidity issues, NAV write-downs or write-backs on doubtful securities, fund manager exits and entries, and governance lapses or regulatory investigations ahead of others and act on such information.
The consultation paper proposes tightening the screws on MF insider trading on three counts. One, it wants AMCs, like corporates, to declare a closure period ahead of specified material events during which designated AMC officials cannot buy or sell their own schemes. When no closure period is applicable, employees of the AMC must be mandated to seek clearance of transactions with the compliance officer. Presently, AMC employees are only required to inform the compliance officer of their transactions post facto, within seven days. Two, while current SEBI curbs on dealing in units while possessing UPSI apply only to AMC employees, the new rules seek to extend the curbs to a range of ‘connected’ outsiders. ‘Connected persons’ have been defined to include employees of the sponsor and trustees of AMCs, fund registrars, fund accountants, AMFI officials, auditors, bankers and legal advisors. Any person who has been in frequent contact with an AMC, its sponsor or trustees in the two months prior to a material event, will also be deemed a ‘connected person’. As the second clause will place a compliance burden on many entities with low probability of accessing UPSI, SEBI can consider shrinking its scope. Three, SEBI proposes charging fund insiders and others they deal with a fiduciary duty to not share UPSI, except for legitimate purposes. Should any market participant trade in contravention of this provision, it should attract the stringent penalty clauses of the PIT regulations.
While SEBI can go ahead with these proposals after factoring in stakeholder feedback, tighter insider trading laws for mutual funds must perhaps go hand-in-hand with a stricter material disclosure regime for AMCs. Today, companies with listed securities are required to immediately disclose any event that has a bearing on their profits or stock prices through the stock exchange filing platform. This goes a long way in reducing information asymmetry between public shareholders and insiders. Requiring MFs to similarly share all price-sensitive information relating to their schemes or the AMC immediately on a public platform, can reduce opportunities for MF insider trading. SEBI must co-ordinate with AMFI to devise a centralised online platform where AMCs disclose all material information affecting unitholder interest in a timebound manner.