Sebi action good for now, need to follow it up well

WITHOUT CONTEMPT

The past two weeks have been hectic for the capital markets and the media. The Securities and Exchange Board of India (Sebi) has issued several orders using its emergency powers under Sections 11 and 11B of the Sebi Act, 1992, directing various persons to cease and desist from trading further in stocks where prices have been steadily shooting up.

The number of orders passed is unprecedented. What is even more unprecedented is that such orders have been passed in an environment of rising stock prices.

These orders are significant because, historically, when acting on a market-wide basis, the regulator has found fault only with falling prices, without questioning why stock prices ran up to all-time highs in the first place.

There can be no disagreement over taking preventive action in cases where there is a prima facie case of price manipulation, to ensure that the investigations into price manipulation are not hindered or that an audit trail is not tampered with. One could even pass interim order on a few suspected manipulators and see if the price rally continues nevertheless.

A quick read of the orders suggests that to arrive at the prima facie finding, the regulator has done some homework on accounting policies being played with, announcements that ought to have been made, not being made, or the facts on record not tallying with the actions of the respective companies and their managements.

But the regulator should tread this line carefully. It should not get carried away with a feeling that every person named in the interim order should be faced with a final order. The objectives and impact of an interim order arresting further trading on grounds of suspected price manipulation are different from the objectives and impact of a final order finding guilt.

Unless credible evidence that enables the regulator to bring about a clear and reasonable case of price manipulation is found, the regulator ought not to press with charges in a final order.

The risks of passing final orders cannot be over-emphasised. Orders that are hastily passed, or passed in order to heap up statistics to demonstrate quantum of action, and orders that are meant to play to the gallery, ought to be shunned.

When unsustainable orders get set aside, there is a general loss of credibility, the rank and file in Sebi gets demoralised, and investors feel unprotected and insecure.

On the other hand, if the regulator picks out the classic cases where action is warranted, and lets off cases where action is not warranted, Sebi will stand tall as a mature regulator.

It is perfectly fine for a regulator to have taken preventive action to ensure that its investigations are not hindered, or to ensure that persons suspected of manipulation were taken out of the race until they survived scrutiny, or for the regulator to let them back into the race after clearing their actions.

If conclusive evidence is not found, the regulator will have nothing to lose in letting people off, with a signal that it will continue to watch. Sebi can hardly be faulted for being proactive with interim orders.

In fact, contrary to popular belief, Sebi's track record at defending interim orders in the Securities Appellate Tribunal is impeccable.

But the track record in defending final orders is not as bright, and that is because of the approach to passing final orders is to cut corners with evidence-gathering, not having the heart to let go a suspect against whom nothing is found, and a misplaced sense of propriety that dictates every interim order being followed up with final guilt-inflicting orders.

To Sebi's credit, this time, there is a renewed sense of responsibility in many of the orders. For instance, orders against brokers clearly require the brokers to only desist from trading for specific suspected clients in the suspected stocks.

Another aspect to be borne in mind is to pass timely final orders either closing the case, or finding fault. There is no statutory deadline for closing a file in which an interim order has been passed, nor is there any procedural prescription for the conduct of the investigation itself. In the case of Global Trust Bank, Sebi passed cease and desist orders against a long list of people but forgot all about following up with action despite repeated reminders, for over a year.

Curiously, just before the bank was officially declared bankrupt, an order was passed without any public reasons, revoking the ban on trading in the stock. That was a classic case of how not to use emergency powers conferred on the regulator.

(The author is a partner of JSA, Advocates & Solicitors. The views expressed are personal)

somasekhar@jsalaw.com