€¦ · Abbreviations SEBI Securities Exchange Board of India BSE Bombay Stock Exchange NSE...

Investor Awareness, Education and Protection in India Situation Analysis & Assessment

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The findings, interpretations, and conclusions expressed in this report are those of the authors and do not necessarily reflect the views of Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ) GmbH

Investor Awareness, Education and Protection in India

Situation Analysis & Assessment

Contents

Title Page

Evolution of Indian Capital Markets ....................................................................................... 1

Establishment of Different Exchanges .........................................................................................1

Regulation of Stock Exchanges and Share Trading in India ......................................................... 2

Growth of Stock Exchanges in India in the decade of 1980s ....................................................... 2

Growth Pattern of the Securities Market since Independence till 1990 ....................................... 3

Establishment of The Securities and Exchange Board of India .............................................. 4

1988 Parliament Motion ............................................................................................................ 4

SEBI During the 1990s .............................................................................................................. 4

Regulation Measures taken by SEBI ........................................................................................... 5

Role of SEBI as a Regulator ..................................................................................................... 9

Basic Responsibilities .................................................................................................................. 9

Regulation of Business in Stock Exchanges ................................................................................. 9

Steps Undertaken by SEBI ......................................................................................................... 9

Role of SEBI in Developing Key Segments ................................................................................ 11

Participation Trends In The Capital Markets .......................................................................... 14

Percentage Investments and Contributions across Different Asset Classes ................................... 14

Gaps and Areas for Improvement ............................................................................................... 18

Investor Awareness, Education & Protection ........................................................................... 19

Securities Exchange Board of India (SEBI) ................................................................................. 20

The Reserve Bank of India .......................................................................................................... 23

The Role of Stock Exchanges ...................................................................................................... 24

The Mutual Fund Industry ......................................................................................................... 32

iii

iv

Demand Side: India’s Demographics & Income Distribution ................................................ 35

Demographics ............................................................................................................................ 35

Income Distribution .................................................................................................................. 36

Scope of Investor Education & Awareness Initiatives by Market Participants ............................................................................................ 38

BSE Training Institute (BTI) ...................................................................................................... 38

The MCX – SX Knowledge Centre ............................................................................................ 38

Role of the Media in Investor Education & Awareness ............................................................... 39

The Financial Stability and Development Council ...................................................................... 40

International Cooperation by SEBI ............................................................................................ 40

Conclusions & Recommendations ........................................................................................... 41

Over The Counter (OTC) Derivatives ........................................................................................ 42

How much is enough when it comes to Financial Innovation? .................................................... 42

Plain Vanilla Equity Funds ......................................................................................................... 42

Financial Disclosure in the Context of Investor Protection ......................................................... 43

The Role of Credit Rating Agencies & Independent Analyst ...................................................... 43

Accounting for Impact & Effectiveness ...................................................................................... 44

Coordinated Approach to Investor Education ............................................................................ 44

Content & Delivery of Investor Education ................................................................................ 44

Framework for the Selection of Third Parties and Resource Personnel ........................................ 45

Investor Awareness to be more Scalable ...................................................................................... 45

Bibliography ............................................................................................................................. 46

Annexures ................................................................................................................................. 50

v

Abbreviations

SEBI Securities Exchange Board of India

BSE Bombay Stock Exchange

NSE National Stock Exchange

MCX Multi Commodity Exchange

MCX-SX Multi Commodity Stock Exchange

RBI Reserve Bank of India

MCA Ministry of Corporate affairs

MoF Ministry of Finance

AMFI Association of Mutual Funds of India

AMC Asset Management Company

IEPF Investor Education & Protection Fund

SCRA Securities Contract Regulation Act

FII Foreign Institutional Investor

FERA Foreign Exchange Regulation Act

FEMA Foreign Exchange Management Act

ALBM Automated Lending and Borrowing Mechanism

BLESS Borrowing and Lending of Securities Scheme

CIS Act 1999 Collective Investment Scheme Act 1999

OECD Organisation for Economic Co-operation and Development

CII Confederation of Indian Industry

TER Total Expense Ratio

SCORES SEBI Complaint Redress System

FSDC Financial Stability and Development Council

F&O Futures & Options

IOSCO International Organisation of Securities Commissions

MoU Memorandum of Understanding

NIFE National Institute for Financial Education

Contents | 1

The history of the Indian Capital Market dates back approximately two hundred years. The East India Company was the prevalent institution during the 1800s in colonial India and its busi-nesses involved loan securities, which were used for their various trading transactions1 . The 1850s witnessed a rapid development of commercial enterprise and brokerage business. The breakout of the American Civil War (1861) and the open-ing of the Suez Canal during the 1860s led to a huge increase in exports to the United King-dom. During this period several companies were formed and many banks came to the fore to pro-vide financing to these firms, many of which were registered under the British Companies Act. The Bombay Stock Exchange (as it’s currently known) was inaugurated in 1875 as The Native Share & Stock Brokers’ Association when the brokers for-mally established a stock market in India. Busi-ness was essentially confined to company owners

Evolution of Indian Capital Markets

and brokers, with very little interest evinced by the general public.

Establishment of Different Exchanges

Other centres in India followed the establishment of the Bombay Stock exchange. The Ahmedabad Share and Stock Brokers’ Association (1894) gained importance next due to the fledgling cot-ton textile industry. Similarly, the jute industry of Calcutta led to the formation of the Calcutta Stock Exchange Association in 1908. The stock exchanges that emerged afterwards were the Madras Stock Exchange (1937), Uttar Pradesh and Nagpur Stock Exchanges (1940) and the Hyderabad Stock Exchange (1944). In Delhi, initially there were two stock exchanges – Delhi Stock and Share Brokers’ Association Limited

1 http://www.yeahindia.com/c-india1.htm

2

and the Delhi Stocks and Shares Exchange Lim-ited, which was later amalgamated into the Delhi Stock Exchange Association Limited in 1947. The period after the partition of India witnessed the closures of a lot of exchanges in the country and in some cases mergers.

Regulation of Stock Exchanges and Share Trading in India

The Government of India enacted a Securities Contracts (Regulation) Act in 1956 to regulate the business of dealing in securities and to grant recognition to stock exchanges. Under this Act, the stock exchanges which were recognized were the Bombay, Calcutta, Madras, Ahmedabad, Hy-derabad, Delhi, Bangalore and Indore stock ex-changes, which were well established during that period. This was the first formal regulation of the buying and selling of securities and the market in which the trading took place. The Securities Contract Regulation Act 1956 became the parent regulation after the Indian Contract Act 1872, a basic law to be followed by security markets in India2 .

Growth of Stock Exchanges in India in the decade of 1980s

In the early 1960s there were eight recognized stock exchanges in India which remained so for almost two decades. However, more stock ex-changes were established during the 1980s. The factors responsible for the surge were:

a) Government efforts to spread the development of industries across the country and to encour-age industries in backward areas and

b) Growth & development of the equity sector across the country by encouraging households to invest in equities.

Thus the stock exchanges which emerged in the following decade were:

1. Cochin Stock Exchange (1978), 2. Ludhiana Stock Exchange Association Ltd

(1981), 3. Uttar Pradesh Stock Exchange Association Ltd

(1982), 4. Pune Stock Exchange Ltd (1982), 5. Gauhati Stock Exchange Ltd (1984), 6. Mangalore Stock Exchange Association (1986), 7. Jaipur Stock Exchange Ltd (1989), 8. Bhubaneswar Stock Exchange Association Ltd

(1989), 9. Saurashtra Kutch Stock Exchange Ltd (1989),

and10. Vadodara Stock Exchange Ltd (1990).

Apart from these exchanges, Over The Coun-ter Exchange of India Limited was set up in 1990, and the National Stock Exchange of In-dia Limited as the first national stock exchange with automated electronic trading in securities was incorporated in 1992 and began operation in the wholesale debt market segment in 1994. Currently, the Cochin Stock Exchange, Jaipur Stock Exchange, Bhubaneshwar Stock Exchange and Vadodara Stock Exchange are directly under the control and supervision of SEBI, and are de-mutualized entities under the Demutualization Scheme, 2005:“Demutualization, in the strictest sense, refers to the change in legal status of the exchange from a mutual association with one vote per member (and possibly consensus-based decision making), into a company limited by shares, with one vote per share (with majority-based decision mak-ing). Demutualization makes sense if it induces a change in the exchange’s objective from manag-ing the interests of a closed member-based organ-ization with a central focus on providing services for the benefit primarily of the members/brokers and keeping costs and investments limited to fi-nancing agreed by members, into a company set up with the objective of maximizing the value of the equity shares by focusing on generating prof-its from servicing the demands of their customers (brokers and investors) in a competitive manner”3 The Ludhiana Stock Exchange and Uttar Pradesh

2 http://www.investmentz.com/static/aticlesontrade/capitalMarket_history.pdf

3 Demutualization of Stock Exchanges – Problems Solutions and Case Studies by Asian Development Bank 2002 -ISBN 971-561-475-2

Contents | 3

4 http://shodhganga.inflibnet.ac.in/bitstream/10603/2027/7/07_chapter per cent202.pdf

5 http://www.financemasala.com/indian-stock-exchange/guwahati-stock-exchange.html

6 http://www.sebi.gov.in/investor/recog.html

7 http://www.articlesbase.com/investing-articles/indian-capital-market-4439407.html

8 http://drnarendrajadhav.info/drnjadhav_web_files/Published per cent20papers/Development per cent20of per cent20Securities per cent-20Market per cent20by per cent20Narendra per cent20jadhav.pdf

9 http://www.investmentz.com/static/aticlesontrade/capitalMarket_history.pdf

10 http://shodhganga.inflibnet.ac.in/bitstream/10603/2027/7/07_chapter%202.pdf

Stock Exchange continue to be leading regional exchanges and have their respective members reg-istered under the NSE and BSE as sub-brokers. The Pune Stock Exchange was the first regional stock exchange to implement the online trading system (1996) and is now a company limited by guarantee4. The Gauhati Stock Exchange is connected to the NSE through the ISE Securi-ties and Services Ltd (ISS) as the latter functions as the subsidiary of the Inter-Connected Stock Exchange5. The Mangalore Stock Exchange and Saurashtra Kutch Stock Exchange were de-recog-nized by SEBI in 2006 and 2007 respectively.6

Growth Pattern of the Securities Market since Independence till 1990

Till the 1950s India’s capital markets had helped mobilise the financial resources for the corporate sector. The importance of these markets then di-minished, because subsidized credits were avail-able from commercial and development banks, equities had to be issued at a discount substan-tially below market value, the capital market lacked liquidity, and investor safeguards were in-adequate. It was following the reform of the For-eign Exchange Regulations Act (FERA) in 1973 that retail investors began participating in the stock markets. Prior to that, multinational com-panies having operations in India were forced to reduce foreign share holdings to below a certain level, which led to a compulsory sale of shares or issuance of fresh stock. It was Mr V.P. Singh’s fiscal budget in 1984 that started the era of liberalization. The removal of estate duty and reduction of taxes led to a swell in the new issue market leading to an influx of

companies in 1985. The reform agenda of 1991 under Dr Manmohan Singh as Finance Minister led to a resurgence of interest in the capital mar-kets7 . Traditionally, the Indian financial system since independence has been financial interme-diary-based as against capital market-based. Dur-ing the 1990s, however, the growing needs of the economy and forces of liberalization changed the face of the Indian financial system drastically and the capital markets assumed a prominent place in the resource allocation process of the economy8 . The mid-1990s saw a rise in leasing company shares, and hundreds of companies got listed on the BSE. The end-1990s saw the emergence of information; communication and entertainment companies coming into the limelight.9

1990s witnessed several systemic changes in the area of modern capital markets and is therefore considered the most decisive period of Indian capital markets’ history. The setting up of the Se-curities and Exchange Board (SEBI) in 1992 was a landmark development and came about in the aftermath of a major scandal with market manip-ulation involving a BSE member named Harshad Mehta. BSE responded by calling for reform and helped radicalise the position of the government, which encouraged the creation of the National Stock Exchange (NSE) in 1992.10 The introduc-tion of online trading in 1995, the establishment of the depository in 1996, trade guarantee funds and derivatives trading in 2000, have made the Indian capital market(s) safer. The introduction of the Fraudulent Trade Practices Act, Preven-tion of Insider Trading Act, Takeover Code and Corporate Governance Norms, are major devel-opments in the capital markets over the last few years that have made the markets attractive to for-eign institutional investors (FIIs).

4

Establishment of The Securities and Exchange Board of India

1988 Parliament Motion

The Securities and Exchange Board of India (SEBI) is the primary regulator of the securi-ties market and was constituted in 1988. It be-came a statutory body through an act of Parlia-ment only in 1992. It was the liberalization of the economy from the Permit Raj in the 1990s and the resulting emerging capital market that required SEBI to play the role of a regulator; even more so since foreign institutional inves-tors in the securities market were increasing.11 Initially, SEBI was not given any real authority and independence as it was under the purview of the Ministry of Finance. It was considered to be a ‘watchdog without teeth and one on a tight leash’ and lacked the power to make changes re-quired to create a well-regulated capital market system.

SEBI During the 1990s

In the post – liberalization era, various markets and industries were opened up to private enter-prises bringing about a sudden boom in capital markets in addition to the need for capital ex-pansion that could only be satisfied via the eq-uity markets. In April 1992, a disastrous stock market scam (popularly known as the Harshad Mehta Scam) occurred and it came to light via a column written by financial journalist, Sucheta Dalal in the Times of India. Harshad Mehta and his cohorts in the scam were stockbrokers who siphoned off as much as Rs. 3,500 crores (about $1.2 billion at the time) illegally from the In-

dian banking system and artificially inflated the prices of securities trading on the BSE. This led to the BSE Sensex soaring to 4,500 points until it came crashing down by 44 per cent to 2,500 points, eroding Rs. 1,00,000 crores in share-holder value. There was never a greater need for a well-regulated capital market that ensured fair trade practices and protected the rights and in-terests of investors against such follies. SEBI’s eminence was enhanced to be a hands-on statu-tory body, which constantly monitors the secu-rities market and issues appropriate guidelines. That being said, the following excerpt from SEBI’s annual report for the year 1992-93 does well to reflect the need for capital expansion de-spite sentiment deterioration due the stock mar-ket scam:“…The primary market despite the difficulties experienced following the crash of stock prices in April 1992, the year was characterized by large volume of funds raised from the capital market. Available data for 1992 - 93 shows that 430 public issues and 350 rights issues were made during the period for raising Rs. 5,738 crores and Rs. 9,099 crores respectively. The amount raised was significantly higher than that for the period 1991-92.”12

It was against this backdrop that the Parliament of India passed the Securities and Exchange Board of India Act on the 4th of April 1992. Until this Act, SEBI had derived its limited authority from the Companies Act, 1956 and the Securities Contract Regulation Act, 1956, which changed, as SEBI became a statutory and autonomous body. The purposes of the Act were four fold:[15]

11 http://www.watchoutinvestors.com/JPC_REPORT.PDF

12 Annual Report of SEBI, 1992-93

Contents | 5

1. Protect the interests of investors in securities,2. Promote the development of the securities

market,3. Regulate the securities market,4. Regulate the workings of stock brokers, sub-

brokers, share transfer agents, bankers to an issue, trustees of trust deeds, registrars to an issue, merchant bankers, underwriters, port-folio managers, investment advisers and such other intermediaries who may be associated with securities markets in any manner.

The Preamble of the Securities and Exchange Board of India describes the basic functions of the Securities and Exchange Board of India as “…..to protect the interests of investors in secu-rities and to promote the development of, and to regulate the securities market and for matters

connected therewith or incidental thereto”13 . Over time, SEBI has employed a number of pol-icies and initiatives to make the capital markets more efficient and transparent with the inten-tion of protecting the rights of investors. Chang-es made range from the dematerialization of pa-per securities and setting up of depositories via the Depositories Act, 1996 to doing away with entry loads for mutual funds and efforts to im-prove the corporate governance in the country.

Regulation Measures taken by SEBI

One of the first actions taken by SEBI was to issue guidelines for disclosure and investor pro-tection, which issuers would have to conform to before raising capital from the market. These guidelines covered public and rights issues as well as defining eligibility norms for the same. Prior to this, no issues could raise capital from the market without the consent of the Central Government or price it freely in accordance with the market forces. Every offer document had to be approved by the regulator and there was a streamlining process for investor’s complaint handling.In a major step towards the expansion and devel-opment of the Indian capital markets, SEBI also granted foreign institutional investors (FIIs) the right to invest in mutual funds, pension funds and other asset management companies dealing in trade-able securities in the primary and sec-ondary markets. With the greater regulation and maturity of the Indian markets, foreign institu-tional investors started showing increasing inter-est and by March 1993, 18 FIIs had registered with SEBI. Also, until then the government had only allowed for public sector mutual funds to operate in the country, which later changed as permission was granted to the private sector to enter the industry. At the end of the financial year, 7 sponsors had received approval from SEBI to operate in the mutual funds sector.There was an absence of a derivative market, for which the badla system developed and oper-

13 Annual Report of SEBI, 1992-93

6

ated as a stand-in for a futures contract. In an effort to avoid the settlement system of the spot market, the badla system had cropped up as a method where a buyer could purchase a security without having to pay immediately. Settlement could be done within seventy days of purchase and a trader/investor could ask his broker to lo-cate a financier who would charge a vyaj (inter-est), which was determined by the level of de-mand for the security. These interest rates were determined by the exchange, which would act as an intermediary between the lender and buyer. In case of short-selling this was known as andha badla. The following excerpt from the Hindu newspaper does well to describe the various ways in which badla transactions were used:“Mr. M. R. Mayya identified the following uses of badla trading. The badla facility can be used for hedging the stocks held by an investor against any likely fall in prices. This is often resorted to when shares are sent to the company for transfer or subdivision into trading lots. In this instance the sell trade is carried forward till the share cer-tificates are received. Then they are delivered to the market. Similarly holders of convertible de-bentures can sell shares and carry forward their sell position till they receive shares from the company on conversion. Those anticipating the flow of funds can buy the shares they want at attractive prices and carry forward the long posi-tion till they receive the funds. During this time they pay badla charges. Thus, in all these three cases an investor is using badla trading to sup-port his genuine investment operations. Badla trading also facilitated investors to get finance for short period using their shareholdings”.14

Since its inception, SEBI regularly tried to ei-ther ban (in 1993) or modify the badla trading system and continually introduced modifica-tion and updated versions as different forms of it were resurrected. For example; “In 1997, the modified badla system allowed hedging, and had a carry-forward limit of Rs 20 crore per broker. The NSE introduced the Automated Lending

and Borrowing Mechanism (ALBM) followed by the BSE’s Borrowing and Lending of Securi-ties Scheme (BLESS), which were sophisticated forms of badla”15.It was in April 2001, that a SEBI committee fi-nally proposed a ban on badla and its associated products, replacing them with the globally ac-cepted system of derivatives first in individual stock options and then in stock futures. The BSE also launched a derivative product known as the Cash Future Spread (CFS) in August 2012, which actually is a more sophisticated version of the badla trade. In the words of Palak Shah in the Business Standard: “Under it, a trader can enter cash and futures spread trades as a single order. For instance, if Reliance Industries is trad-ing at Rs 700 in cash and at Rs 710 in the fu-tures segment, the exchange under CFS will put out a spread quote of Rs 10. Three cash-future spread quotes will be available for trading at any time, corresponding to the current-, near- and far-month futures contracts on that underlying asset”16.In the late 1980s the stock market by itself was not investor friendly and the very structure of the financial markets was riddled with numerous problems. Share certificates were issued as paper certificates and due to the lack of modernization – these paper certificates were not only cumber-some (in terms of transactions and settlements), they proved to be a minefield for a number of fraud and forgery cases. Moreover, financial transactions were not clearly recorded and arbi-tration cases were rampant. Overall, these fac-tors kept investors away from capital markets and deterred them as well for they considered stock investments as extremely risky. To counter these problems the Government of India in col-laboration with other financial institutions in-troduced depository institutions in India.“The Depositories Act, 1996, ushered in an era of efficient capital market infrastructure, im-proved investor protection, reduced risks and increased transparency of transactions in the se-

14 The Hindu, Badla ban: Trading can be as usual by Narayan Rao

15 The Hindu Businessline, From badla to derivatives by C. Raja Rajeshwari

16 Business Standard, Badla to come back on BSE in refined avatar by Palak Shah, 23 July 2012

Contents | 7

17 Performance of depositories in India: as viewed by issuers, investors and depository participants by shri shailesh rastogi, Faculty of Manage-ment, Deptt. of Business Administration, M.J.P. Rohilkhand University, Bareilly, June 2007

18 http://www.sebi.gov.in/faq/cis_faq.html

19 OECD Principles of Corporate Governance - 2004

curities market. It also immensely benefited the issuer companies, in terms of reduced costs and other expenses in managing their shareholder populace”17.Post the Depositories Act 1996, two depositories were set up in India, viz. NSDL – National Se-curities Depository Limited in 1995 and CDSL - Central Depository Services (India) Limited in 1999. Dematerialization of paper securities has been critical to SEBI’s efforts to modernize In-dian financial markets. Table 1 below underlines the advantages of de-materialized trading versus paper trading and highlights the various pros of the former over the latter.In 1999, SEBI passed the Collective Investment Scheme Regulation Act, more commonly known

Paper Trading Dematerialized (Demat) Trading

1. Paper based trading 1. Paper-less trading

2. Manual transfer of securities that was time consuming

2. Immediate transfer of securities

3. Possibilities of bad delivery, fake certificates, signature differences, etc.

3. No possibilities of bad delivery, fake certificates, signature differences, etc.

4. Burden of filling of transfer form, affixing share transfer stamps

4. No requirement of filling of transfer form and affixing share transfer stamps

5. Threat of loss of securities and fraudulent interception of certificates in transit

5. No threat of loss of securities and fraudulent interception of certificates in transit

Table 1: Differences between Paper Trading and Dematerialized Trading

the contributions, or payments made by the in-vestors, are pooled and utilised with a view to re-ceive profits, income, produce or property, and is managed on behalf of the investors is a CIS. Investors do not have day-to-day control over the management and operation of such scheme or arrangement.”18

The CIS Act 1999, keeping in line with SEBI’s investor awareness goal was a tool wielded to curb the activities of companies that would raise funds from the public without communicating the intent of managing it towards furthering their common aspirations besides being out of the purview of a transparent and accountable legal system.In its paper on corporate governance, the Organi-sation for Economic Co-operation and Develop-ment (OECD) explains corporate governance as “a set of relationships between a company’s man-agement, its board, its shareholders and other stakeholders. Corporate governance also provides the structure through which the objectives of the company are set, and the means of attaining those objectives and monitoring performance are deter-mined. Good corporate governance should pro-vide proper incentives for the board and manage-ment to pursue objectives that are in the interests of the company and its shareholders and should facilitate effective monitoring. The presence of an effective corporate governance system, within an individual company and across an economy as a whole, helps to provide a degree of confidence that is necessary for the proper functioning of a market economy.”19 The importance of good corporate governance is only complementary to all the reforms and reg-ulations of an organization’s business practices. An investor invests funds in a company with the faith that the management would strive to act in the best interest of the shareholders and remain committed to the fiduciary responsibility with which they have been entrusted. India’s effort to inculcate corporate governance is highlighted in the following excerpt from the Report of the

as CIS Act 1999. According to SEBI:“A Collective investment scheme is any scheme or arrangement, which satisfies the conditions, referred to in sub-section (2) of section 11AA of the SEBI Act as any scheme or arrangement made or offered by any company under which

8

SEBI Committee on Corporate Governance (2003) by N.R. Narayana Murthy: “Corporate governance initiatives in India began in 1998 with the Desirable Code of Corporate Governance – a voluntary code published by the CII, and the first formal regulatory framework for listed companies specifically for corporate governance, established by the SEBI. The latter was made in February 2000, following the recom-mendations of the Birla Committee Report”.20

Under the efforts of investor protection, the role of independent directors, better reporting and disclosure norms have been greatly debated in addition to companies complying with SEBI norms and setting up of committees such as Au-dit Committee, Shareholders-Investors Griev-ances Committee etc. Moreover, the NSE and

20 Report of the SEBI Committee on Corporate Governance , February 8, 2003 – N. R. Narayana Murthy Committee

BSE have been empowered in this regard to ensure that companies comply with and adhere to norms set forth by SEBI and in line with international standards. These amendments re-duce the discretionary powers of the board and provide well-defined guidelines for appoint-ment and qualification of independent direc-tors. These steps have been necessary to avoid untoward events such as the Satyam fiasco, which came to light in 2009 and is still fresh in the minds of investors; thereby reinforcing the need for independent directors that are willing to act both as leaders and watchdogs. In the next section, we shall explore and explain the role of SEBI in its pursuit of three goals in particular: investor protection, investor awareness and in-vestor education.

Contents | 9

Basic Responsibilities

SEBI is a regulator not only of the stock exchanges but also of all the brokers who operate the stock exchanges. Under Section 11 of the Act of 1992, SEBI is charged with the responsibility of regulat-ing mutual funds, other persons associated with the securities market, all intermediaries and self-regulatory organizations in the securities market. SEBI also regulates the work of depository par-ticipants, FIIs, Credit Rating Agencies and other intermediaries. Most importantly, SEBI regulates the operations conducted by stockbrokers, sub-brokers, and share transfer agents to ensure that they conduct their affairs in a fair, transparent and equitable manner. The ultimate responsibility of SEBI is to protect the interests of investors and market participants in securities and to promote the development of the securities market.

Regulation of Business in Stock Exchanges

One part of regulation conducted by SEBI in-volves inspection of the stock exchanges, which is an annual occurrence since 1995-96. SEBI inspects only those exchanges which have active trading and during these inspections, a review of the market operations, organizational structure and administrative control of the exchange is made. This is to ascertain whether or not:

1. The exchange provides a fair, equitable and growing market to investors;

2. The exchange’s organization, systems and prac-tices are in accordance with the Securities Con-tracts (Regulation) Act, 1956 and rules framed thereunder;

3. The exchange has implemented the directions, guidelines and instructions issued by the SEBI

from time to time; and the exchange has com-plied with the conditions, if any, imposed on it at the time of renewal/grant of its recognition under section 4 of the SC(R) Act, 1956.

Besides this, SEBI also reportedly monitors and follows-up the rectification of the deficiencies and violations pointed out in the inspection reports through both off-site and on-site mechanisms. SEBI analyses the compliance reports and advises the stock exchanges if there is inadequate rectifi-cation of the deficiencies or if the suggestions are not implemented.

Steps Undertaken by SEBI

As elaborated in the previous section, SEBI has undertaken and implemented several measures in the form of Acts to ensure that the capital mar-kets function without any unfair, fraudulent trade practices and is in line with investors’ protection and awareness efforts. Some examples of this are:

1. Establishment of Creditors Rating Agencies - Three creditors’ rating agencies have been set up, namely The Credit Rating Information Services of India Limited (CRISIL - 1988), the Investment Information and Credit Rating Agency of India Limited (ICRA - 1991) and Credit Analysis and Research Limited (CARE) in order to assess the financial health of differ-ent financial institutions and agencies related to the stock market activities.

2. Reducing Technology and Transaction Costs [19] – India has reached and sometimes ex-ceeded international benchmarks in disclosure norms, trading volume, settlement cycles, and low transaction costs. In the order driven sys-tem, each investor can access the same market and order book, at the same price and cost,

Role of SEBI as a Regulator

10

irrespective of location. Dematerialization of securities had been introduced to reduce bad paper risk. Settlement of trades in the deposi-tory is compulsory except for sales by small investors.

3. Investor’s Education and Protection Fund (IEPF), 2001 - Under the purview of the SEBI, the Central Government of India has set up the IEPF in 2001 for educating and guiding investors besides protecting the interest of the small investors from frauds and malpractices in the capital market. The amount of compensa-tion available against a single claim of an inves-tor arising out of default by a member broker of a stock exchange has already been increased to Rs.1 lakh in case of major stock exchanges, to Rs.25, 000 in case of smaller stock exchang-es viz. Gauhati, Bhubaneshwar, Magadh and Madhya Pradesh and to Rs. 50,000 in case of the other stock exchanges.21

4. Disclosure of Information - Strict norms re-garding disclosure of price sensitive informa-tion, and conflicts of interest, contribute to re-ducing asymmetries of information and aid the markets in price discovery. Companies issuing capital in the primary market are required to disclose the facts and specific risk factors associ-ated with their projects; they should also give information on the procedure for the calcula-tion of premium, but they can fix the premium.

5. Reducing Volatility of the Markets - Price bands, complex value at risk (VaR) margining systems, circuit filters, exposure limits and sus-pension are all used to curb volatility. These al-low adjustment for risk to be individual specif-ic and therefore less inefficient than a common margin, while achieving the desired result of putting concave boundaries on convex returns, thus reducing one-way price movements.

6. Increase in Penalty Amount - An amendment in 2003 did enhance penalties. An adjudicat-ing officer can now impose stiff penalties rang-ing from Rs 5,000 daily to a total amount of Rs 10 lakhs, to be credited to the Consolidated

Fund of India. The SEBI penalty of up to three times the profits earned; fines and up to three years in prison does not compare with the stiffer fines and prison sentences of up to 21 years in Singapore and Malaysia. Stiffer penal-ties, together with the rise in cases initiated and completed, can curb insider’s malpractices.

7. Simplification of Share Transfer and Allot-ment Procedure - SEBI had appointed a com-mittee under the chairmanship of R. Chan-drasekaran, Managing Director of the Stock Holding Corporation of India Limited, to sug-gest a procedure for expediting and simplifying share transfer and allotment. After the com-mittee submitted its draft report, it was circu-lated to various market intermediaries for their comments. Based on the feedback received, the report will be finalised and necessary action will be taken to implement the recommenda-tions as it is expected that implementation of the recommendations of this committee would considerably ease the difficulties faced by in-vestors on account of inordinate delays in share transfers and bad deliveries.

8. Unique Code Number and Time Stamp-ing of Contracts - All stock exchanges have been required to ensure that a system is put in place whereby each transaction is assigned a unique order code number which is intimated by the broker to his client. Once the order is executed, this number is to be printed on the contract note. Moreover, stock brokers have been required to maintain a record of time when the client has placed the order and re-flect the same in the contract note along with the time of the execution of the order. This will ensure that the broker gives due prefer-ence to execution of client’s order and charges the correct price to his client without taking advantage of any intra-day price fluctuation for himself.

Rules enacted and implemented by SEBI have evolved a great deal over the years and this has been influenced by responses from investors to

21 http://www.sebi.gov.in/cms/sebi_data/commondocs/pt1b2c_h.html

Contents | 11

Share of Corporate Bonds in Total Debt (source: BIS)

22 Financial regulator considers ways to deepen corporate debt market by PTI - 10th November 2012

Source: ‘New thinking on corporate bond market in India’, Sanjay Banerji, Krishna Gangopadhyay, Ila Patnaik, Ajay Sha

make the regulations more effective against fail-ures in the market.

Role of SEBI in Developing Key Segments

Debt

The Indian debt market is still extremely under developed by global standards, while the market for Government Securities is quite deep, the cor-porate debt market is virtually non-existent. A developed corporate bond market provides addi-tional avenues to corporates for raising funds in a cost-effective manner and reduces dependence of corporates on bank financing.22

In the latest reforms, SEBI has approved the amendments to the disclosure requirements in the offer documents/memorandum in connec-tion with the public issue and listing of non-con-

vertible debt as well as privately placed debt secu-rities (for both listed and to-be listed) under the Issue and Listing of Debt Securities Regulations, 2008. [21] The key changes involve additional disclosures of capital structure, details of default or delay in borrowing over the last 5 years. The participants in the Indian debt market in terms of trading activities mainly constitute institutional investors; retail participation is mainly through debt funds. The Financial Stability and Develop-ment Council (FSDC) for its part, is also in the process of examining various ways by which the corporate bond market could be made more vi-brant and active. While some investors subscribe to corporate bonds and fixed deposits, the market for these is quite small and very illiquid. If one is to invest in such a bond, it is more or less necessary to hold the bond to maturity rather than sell it in an ex-change. A robust and liquid corporate bond mar-ket also provides companies with an alternative

United States Japan IndiaChina

2005-06 2006-07 2007-08 2008-09 2009-10 2010-11

15%

13% 13%

8% 8%

5% 5%

1% 1%

12% 12%11% 11%

10%

7% 7%8%

6% 6%

17%

2% 2%

3%

4%

12

23 http://www.ftkmc.com/commodities.html

to equity financing, which in the case of many projects may be more appropriate both from the point of view of the investors and the issuer.There is a need in the country, to make the bond market more accessible, liquid and transparent, just as the equity markets have been made over the course of the last two decades. Many investors would prefer the stable returns that the corporate bonds offer but are not quite sure of how they should assess these bonds given the complexity of financial statements; it is in this context that the role of a trustworthy credit rating agency be-comes all the more relevant.Since the introduction of Debt Regulations in 2008, SEBI has undertaken several reforms to make the regulatory framework more aligned towards disclosure requirements, in addition to making the debt market more robust. The growth of the debt market has been discussed in greater detail in a later portion of the report that deals with participation trends in capital markets.

Commodities

The existence of a vibrant, active, liquid, and trans-parent commodity market is normally considered as a sign of development of an economy. As of now, India has four national-level commodity exchang-es, viz. Multi Commodity Exchange of India Lim-ited (MCX), National Commodity and Deriva-tives Exchange Limited (NCDEX), National Multi Commodity Exchange of India Limited (NMCE), and Indian Commodity Exchange (ICEX); and 22

regional commodity exchanges in India.23 Since majority of commodities traded on global commodity exchanges are agro-based, they have a great potential in economies such as India, where more than 65 per cent of the people are depend-ent on agriculture. There is a huge domestic mar-ket for commodities in India as a major portion of its agricultural produce is consumed locally. In-dian commodities market has an excellent growth potential and has created good opportunities for market players.The Government of India has initiated several measures to stimulate active trading interest in commodities and has taken steps like lifting the ban on futures trading in commodities, approv-ing new exchanges, developing exchanges with modern infrastructure and systems such as online trading, and removing legal hurdles to attract more participants. All these have increased the scope of commodities derivatives trading in India.There has been much talk in the country about the introduction of weather derivatives, while no doubt there is a risk for one to hedge, the actual pricing of these derivatives is difficult. In the In-dian context, the greatest number of people who would benefit from these types of instruments, such as farmers and agriculturists, do not pos-sess the knowledge or sophistication required to understand them. There could, however, be other users such as insurance and power compa-nies who could make use of these instruments to hedge business risks associated with weather fluctuations. Private sector weather forecasters such as Skymet are also in the process of design-ing weather based indices and have approached exchanges such as the MCX and NCDEX to cre-ate the same. While a detailed study of these de-rivatives is out of the scope of this report, if these instruments are introduced in the Indian market it would be advisable for them to be used only for hedging purposes rather than speculative ends.With the liberalization of the Indian economy in 1991, the commodity prices (especially in-ternational commodities such as base metals and energy) have been subject to price volatility in international markets, since India is largely a net importer of such commodities. Commod-

Contents | 13

24 http://www.nishithdesai.com/New_Hotline/Capital/Capital per cent20Markets per cent20Hotline_Aug2712.htm

ity derivatives exchanges have been established with a view to minimize risks associated with such price volatility. Trading in futures provides two important functions of price discovery and price risk management. The benefits that are ac-crued are price risk management, price discovery, more transparent commodity derivatives market and credit accessibility, improved product quality since commodities are standardized and it’s also useful to both producers and consumers alike as both can get an idea of the price likely to prevail on a future date and therefore decide between various competing commodities.

Mutual Funds

SEBI aims for promoting sustainable growth and effective channelization of domestic savings and therefore has suggested a long-term policy in rela-tion to mutual funds:

1. Permission for Fungibility of Total Expense Ratio (“TER”): TER is a measure of the total costs associated with managing and operating a mutual fund, i.e. management fees, trading fees, legal fees, auditor fees and other opera-tional expenses. The size of the TER assumes significance from the investor’s perspective because the costs coming out of the fund af-fect investor’s returns. Keeping in mind the fact that the mutual fund products require deeper penetration into the market, SEBI has introduced the concept of fungibility of TER so as to provide greater flexibility towards al-location of costs to mutual fund managers. In layman’s terms, this means that earlier, out of the 2.5 per cent total expense ratio that SEBI had imposed there were strict restrictions on how much the AMC could keep for itself (1.25 per cent) and how much could be used to meet its expenses, as mentioned above. The net effect of this was that in order to incen-tivize brokers and distributors to sell mutual funds, AMC’s ended up paying many charges out of their own pocket. SEBI has now re-

moved any such restrictions and AMC’s are free to use these charges as they see fit.

2. Robust Distribution Networks: The success of the mutual fund market does depend largely on distribution networks besides the product per se. In order to strengthen the distribution network, SEBI has decided to streamline the registration process for distributors by includ-ing postal agents, retired government officials, retired teachers etc. for distribution of simplis-tic products.

3. Alignment of Interests: In order to align the interests of the various stakeholders, dis-tributors and Asset Management Companies (AMCs), SEBI has decided that the brokerage and transaction cost chargeable to the scheme for execution of trade should be capped to 12 bps in case of cash market transactions and 5 bps in case of F&O transactions. Also, to avoid differential treatment in the same scheme to different classes of investors, SEBI is of the view that all new investors will be subjected to a single expense structure under a single plan and there shall be a separate plan for direct in-vestments with a lower expense ratio.

4. Enhanced Participation: SEBI has decided to make mutual fund products accessible to small farmers and traders who otherwise were not able to deal in such products owing to procedural formalities like lack of PAN/ bank accounts etc. Further, it is decided that the ser-vice tax payable on investment management fees should be charged to the scheme.

5. Firming up the regulatory framework: In order to make the regulatory system more accountable, SEBI has suggested certain ad-ditional disclosures by the AMCs which inter alia are as follows: (i) AMCs to provide month-ly portfolio disclosures on their website; (ii) set up a new self-regulatory organization for regulation of distributors; (iii) AMCs to pub-lish half yearly financial statements on their websites and an advertisement in this regard to be published in one national and one regional newspaper.24

14

Participation Trends in the Capital Markets

The functioning and governance of capital and secondary markets is very much influenced by economic reforms initiated by the government. The reforms in India have brought about vari-ous changes: one of them being the increase in the number of listed companies from 5,968 in March 1990 to about 10,000 by 1999 and market capitalization growing almost 11 times during the same period. Recognizing the impor-tance of increasing investor protection, several measures have been enacted to improve the fair-ness of the capital market, as elaborated in the previous section.In brief, the major reforms which have taken place in Indian markets include screen based trading, electronic transfer of securities, demate-rialization, rolling settlement, risk management practices and introduction of derivative trading. The net result of these initiatives can be seen in the form of efficient and transparent trading & settlement processes in our exchanges.

Percentage Investments and Contributions across Different Asset Classes

In order to follow the participation trends across different asset classes of the Indian capital mar-ket, the following markets are identified:

Performance of Primary Market

Ever since the repealing of the Capital Issues Control Act and associated restrictions, the pri-mary market has grown rapidly. As per some re-

search studies, the performance of the primary market for equities is very often linked to the performance of secondary markets for equities. In 2008, the market was plagued with volatil-ity, slow economic growth, decreasing expan-sion and investment plans by Indian companies in addition to conservation of cash to counter against the uncertainty in the global markets; which resulted in a sharp fall in the number of issues and amounts raised. There was a positive change in the primary market during 2009-10 as the share of public issues in the total resource mobilisation increased to 85.6 per cent from 22.1 per cent in 2008-09 whereas share of rights issues declined from 77.9 per cent of the previ-ous year to 14.5 per cent in 2009-10.25

The positive trend continued in the following year of 2010 – 11. This financial year saw a number of Public Sector Undertakings (PSUs) raising money through the primary market (56.5 per cent of the total resources mobilized by all companies) as part of disinvestment plan of the Union Government. The share of public issues stood at a marginally increased value of 85.9 per cent during 2010-11 as compared to 85.6 per cent of 2009-10.26 However, during 2011-12 the market was rather subdued as weak macro-economic and invest-ment environment slackened expansion plans of the corporate sector. Moreover, listed IPOs saw negative returns and a declining trend in equity markets. In response, investor sentiments were adversely affected. The share of public is-sues in the total resource mobilisation increased to 95.1 per cent during 2011-12 from 85.9 per cent in 2010-11, whereas share of rights issues

25 Annual report of SEBI, 2009-10


Contents | 15



declined from 14.1 per cent in 2010-11 to 4.9 per cent in 2011-12.27

Performance of Secondary Market

SEBI has taken several legislative and regulatory measures to improve the integrity of the secondary market and facilitate the corporatization of stock-brokers. Capital adequacy norms have been pre-scribed, mark-to-market margin, intra-day trading limits and circuit breakers [or circuit filters] im-posed to limit excessive volatility have been insti-tuted. Additionally, the introduction of derivative trading in the stock exchanges was implemented after a committee chaired by L.C. Gupta recom-mended a regulatory framework for derivatives. Similar to the primary market, the secondary market witnessed an uptrend during 2009-10 as compared to the downward, volatile trend of 2008-09. However, domestic markets occasion-ally reflected the uncertainties in international financial market during that financial year. De-rivatives turnover showed substantial decline at BSE by 98.1 per cent while those at NSE gained by 60.4 per cent over the previous year. In col-

laboration with the upward trend in equity pric-es, the turnover of all stock exchanges in the cash segment increased by 43.3 per cent from 2008-09. BSE and NSE together contributed 99.9 per cent of the turnover, of which NSE accounted for 74.9 per cent in the total turnover in cash market whereas BSE accounted for 24.9 per cent to the total.28

In the following year of 2010 – 11, equity mar-kets in India witnessed a significant uptrend till October 2010 primarily on the account of significant FII inflows into India. However, in November 2010 when market touched its peak, Indian securities saw a downward trend from December 2010 to February 2011 on account of significant FII outflows and concerns raised on domestic and international issues. The markets revived in March 2011 due to the easing of con-cerns on domestic and international issues raised by FII outflows. During 2010-11, turnover of all stock exchanges in India in the cash segment decreased by 15.1 per cent as compared to the previous year. BSE and NSE together contrib-uted almost 100 per cent of the turnover.2011- 12 saw the continuation of the declining

16

trend in the equity markets brought about by the global crisis spill-over and weak macro-econom-ic trends. Inflation remained at an elevated level for major part of the year. The anti-inflationary monetary policy stance of RBI had a dampen-ing effect on investment demand as well as on interest-sensitive components of private con-sumption. There was a strong pickup in the last quarter led by the rebound in the global equity markets, sustained FII inflows, fall in inflation and softening interest rates. Therefore 2011 – 12 saw a significant decline in turnover and market capitalisation across the board.

Development of Mutual Funds

Mutual Funds play an important role in the mobilization of household savings for deploy-ment in capital markets. The growth of mutual funds as an asset class has witnessed three dis-tinct phases; the first of which is the pre-1987 phase when the Unit Trust of India (UTI) was the only player and mutual fund industry was still nascent and for a period of 23 years only Rs. 4,500 crores funds were mobilized (1964-87). The second phase began with the entry of public sector mutual funds in 1987-88 which lasted for five years and total funds mobilized (1982-1992) had risen up to Rs. 33,000 crores. It was the entry of private players that ushered in the third phase leading to the capture of a good clientele through initiatives like daily declaring of NAVs, 100 per cent disclosure of portfolios etc. The result was that the resource mobilized by all mutual funds during the period 1992-96 rose to Rs. 43,000 crores. Resources mobilized

29 Annual report of SEBI, 2011 -12

by all Mutual Funds have shown strong correla-tion with movements in secondary markets. However, if we are to look at the recent perfor-mance of Mutual Funds markets, the picture that emerges is not so favourable. The gross mobili-sation of resources by all Mutual Funds during 2009-10 saw an increase of 84.7 per cent over 2008-09. The gross mobilisation of resources by all Mutual Funds during 2010-11 saw a decrease of 11.6 per cent over the previous year. The gross mobilisation of resources by all Mutual Funds during 2011-12 witnessed a further decline of 23 per cent over the previous year of 2010 - 11. Private sector Mutual Funds dominated resource mobilisation efforts during 2011-12. Despite a long history, penetration of Mutual Funds in Indian financial markets is quite low and the as-sets of Mutual Funds in India only constitute a meagre 6.6 per cent of GDP. Their muted pres-ence in financial portfolios of households other than metro cities is a cause for concern from the Financial Inclusion perspective.29

Performance of the Debt Market

The debt market in India consists of mainly two categories—the Government Securities (G-Sec) markets comprising of Central Government and State Government securities, and the corporate bond market. In 2010–2011, the government and the corporate sector collectively mobilized

Table 2: Resources Mobilized by all Mutual Funds [including UTI]

Year Sales[INR crores]

Purchases[INR crores]

Net ResourcesMobilized [INR crores]

1997-98 18,701 15,227 3,474

1998-99 21,377 21,032 345

1999-2000 59,739 41,204 18,545

2000-2001 92,957 83,829 9,128

Source: AMFI

Contents | 17

USD 7,851,973 million from the primary debt market. The Central and State Governments raised approximately 74.32 per cent of the re-sources, while the balance was mobilized by the corporate sector through public and pri-vate placement issues. The turnover in the sec-ondary debt market in 2010–2011 aggregated 72,274,164 million, fully 14.82 per cent lower than that in the previous fiscal year.During 2009-10, turnover in the Wholesale Debt Market (WDM) segment increased to Rs. 5,63,816 crore from Rs.3,35,950 crore in 2008-09. In 2010–11, the preferred mode of raising debt funds was private placement of funds even though there were a number of public issues. The rise in funds mobilised could also be possi-bly attributed to issuers preferring the domestic debt markets as a primary source of corporate debt. The turnover in the Wholesale Debt Mar-ket segment decreased as both the net traded value and average daily traded value dropped by 0.8 per cent and 4.4 per cent respectively during the same period. Over 2011-12, turnover in the Wholesale Debt Market segment witnessed an increase in the net traded value and average daily traded value by 13.2 per cent and 17.4 per cent respectively during the same period.

Performance of Corporate Bonds

The data on corporate bonds at the NSE and the BSE includes the trades on the respective trad-

ing systems as well as the reports of the trades carried out in the Over the Counter (OTC) market. In comparison to 2008 – 09, the num-ber of trades in corporate bonds during 2009-10 increased by 68.5 per cent and the increase in volume of trades was significant. Over 2011-12, the total value of the corporate bond trades at BSE rose by 25.9 per cent com-pared to 2010-11. In NSE, the value of trades for 2011-12 rose by 24 per cent to and while the total number of trades reported at FIMMDA has risen in 2011-12, the value of trades report-ed declined by 14.5 per cent over the previous financial year.

Performance of Foreign Institutional Investors Investments

Since 1992-93, when FIIs were allowed entry into Indian financial markets, foreign institu-tional investment has increased over the years except in 1998-99 and 2008-09. FIIs made a record investment in the Indian equity market in 2009, surpassing the 2007 inflows. During 2009-10, there was a net inflow in the equity segment by FIIs amounting to Rs.1,10,220 crores.FII inflows reflect confidence in Indian econo-my and large FII inflows in the country leads to strengthening of the Rupee against the US Dollar. This saw a substantial improvement in the resource mobilisation by corporates in the

Table 3: Trading in Corporate Bonds (INR crores):

Source: SEBI

* Comprises OTC trades and trades done on the exchange.

** Trade Reporting on FIMMDA Reporting Platform w.e.f. September 01, 2007.

BSE NSE FIMMDA** Grand Total

Financial Year No. of Trades*

Amount (INR crores)*

No. of Trades*


No. of Trades*


No. of Trades*


2007 - 08 11,203 40,958 3,787 31,453 4,089 23,479 19,079 95,890

2008 - 09 8,327 37,320 4,902 49,505 9,501 61,536 22,683 148,166

2009 - 10 7,408 53,324 12,522 151,920 18,300 195,955 38,230 401,198

2010 - 11 4,465 39,581 8,006 155,951 31,589 409,742 44,060 605,274

2011 - 12 6,424 49,842 11,973 193,435 33,136 350,506 51,533 593,783

2012 - 13 4,225 23,382 10,108 106,540 16,878 196,192 31,211 326,114

Total 42,052 244,407 51,298 688,805 113,493 1,237,409 206,796 2,170,425

Table 3: Trading in Corporate Bonds (INR crores)

18

primary market in 2009-10 compared to the previous year. FIIs investment in the Indian equity market in 2010-11 surpassed the 2009-10 inflows. The total net investment of FII was Rs.1,46,438 crore as compared to of Rs.1,42,658 crore in 2009-10. The total net inflow of FII was Rs. 93,725 crore in 2011-12 compared to Rs. 1,46,438 crore in 2010-11.

Gaps and Areas for Improvement

Issues Relating to Market Performance

Over the years the turnover of big exchanges has increased but only at the cost of small exchang-es. Further, the top six exchanges of India out of a total of 23 accounted for over 99 per cent of the total turnover of all exchanges. Moreover, turnover in the exchanges are dominated mainly by few securities as is evident from the fact that the top 100 traded securities on BSE had a share of 95 per cent in the total turnover on BSE for the year 2000-2001, while the listed securities on BSE are approximately 10,000. Issues Relating to Regional Stock Exchanges

Regional stock exchanges of late have witnessed shrinking volumes and poor financial health. Their inability to attract business is clear if we look at the total incomes of the various exchang-es as split between business and non-business incomes. Business incomes include membership fees, transaction based service charges and other miscellaneous income, whereas non-business income includes listing fees, interest and rent.

With the government initiating further reforms like central listing authority to avoid multiplic-ity of problems like listing for companies and centralized monitoring and compliance of obli-gations, it seems the end of regional exchanges is not very far. In order to revive the regional ex-changes, attempts can be made through mergers & acquisitions, consolidations, diversification of the business of stock exchanges to areas like, in-vestment banking, insurance etc.

Issues in the Current Framework

Despite a multitude of SEBI prescribed regula-tory measures for disclosure requirements, there is still a big problem of asymmetric information. For example, information on mergers and acqui-sitions, asset selloff, intra-company, intra-group transactions and inter corporate investments are rarely known or understood by retail par-ticipants. Most often, only the minimum legal requirements under Companies Act are met by the corporate sector. A comprehensive and man-dated list of disclosures, like the ones that ac-company IPOs or a rights offer, should be made available to all investors. The current trading environment is characterised by frequent regu-latory interventions and competitive pressures. Further, the proliferation of the Indian capital market, the market players, the trading pattern and the emerging market for corporate control, brings to the forefront above mentioned issues. These issues have palpable implications for the trading strategies employed by investors, the behaviour of specialists, liquidity in the mar-ket, the informational efficiency of prices, and ultimately the valuation of listed companies and welfare of their shareholders.

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As capital markets develop and the regulatory en-vironment becomes more vibrant, that is to say that the structural issues that plague markets in nascent stages of their growth and modernization have been dealt with and change is more a process of up-gradation rather than modernization, it be-comes important to address more sophisticated issues that plague the market and also grow its base of investors.India has always been a nation of savers but for the growth of the economy it is important to channel these savings into productive capital via capital markets. While volumes in daily trading of Indian markets have grown substantially over the last two decades, it is largely from derivative trading that this growth has been derived. New capital formation is dependent on participation of investors in the primary market. By converting a larger share of these retail savings in to capital

investment – whether directly or indirectly – will help in not only contributing towards capital formation but also providing a type of financial buffer or retirement plan for investors. An inter-esting by-product of this type of contribution by retail participants could be a reduced dependence and deepening of the capital markets on foreign institutional investors for its growth and devel-opment. Many proponents also feel that retail participation also leads to a better regulatory and disclosure regime. This is obviously based on the assumption that institutional investors by their very nature are not only better informed but also better equipped to protect themselves.A recent report released by McKinsey and Co. states that Indian households invest much less in equity markets than do their developed market counterparts, particularly in the United States and the United Kingdom. As a result, retail eq-

Investor Awareness, Education & Protection

20

uity ownership (non-promoter) amounts to only around 10 per cent of total equity ownership, and has come down by 3 per cent over the last seven years. It was also noted that there exists a problem of dominance of top-4 cities in trading volumes: Only four cities, ‘Mumbai, Delhi, Ahmedabad and Kolkata’ account for 85 per cent of cash trad-ing. Considering the minuscule contribution of the other top-350 urban centres, there is a huge opportunity to deepen the retail investor base in India.30 In light of the above iterated need to increase retail participation in equity markets, there is an underlying need to promote investor educa-tion and awareness. The aim of this report thus far has been to provide an informative summary of changes that have been made to the very na-ture and structure of the capital market, how the capital markets have evolved through time and finally to try to examine how these changes have helped the market grow on account of these in-terventions. It is the aim of this second part of the report to help understand the current ecosystem with respect to investor awareness, education and protection. We will be examining the role of the various stake holders in the process of investor education.

Securities Exchange Board of India (SEBI)

The changes that SEBI has made to the structure of the capital market have already been discussed in some detail in earlier parts of the report. In this section we will be examining the case for Investor Awareness, Education and Protection (IAEP) and SEBI’s initiatives thereof. We will try and under-stand the impact that these efforts have made and analyse how this could be improved.

Investor Awareness and Education

As the prime regulator of Indian capital markets, SEBI has a huge task set before it when it comes to creating awareness amongst investors about fi-nancial products and the ecosystem. With over

1.2 billion people in the country, stakeholders are many, far-flung and highly segmented; each de-mographic section requires a different approach and every region a specific language. SEBI’s stated objective is to build the capacity of investors through education and awareness to en-able investors to take informed investment deci-sions. SEBI has been organizing investor education and awareness workshops directly and through investor associations and market participants; and has been encouraging market participants to organize similar programmes. It maintains an updated, comprehensive website for education of investors. It publishes various kinds of cautions through media. It responds to the queries of in-vestors through telephone, e-mails, letters, and in person for those who visit SEBI office.31 SEBI has recognized the need for appropriate dis-closures in order to increase investor awareness; making it mandatory for issuers and intermedi-aries to make public any relevant information so that investors may take informed decisions. Decreasing settlement periods, making price dis-covery more transparent via the introduction of screen based trading complemented by the de-materialization of securities are reforms that have gone a long way to make investors more comfort-able with equity markets. In order to increase awareness amongst investors about financial markets and products, SEBI has designed differ-ent campaigns for different target demographic groups and in relevant regional languages as cap-tured in the table on the next page.Apart from the publication of investor education material such as booklets and presentations, SEBI also conducts a number of workshops to actively engage new participants into the market. Accord-ing to its website, since 2010, a total of 6,095 workshops have been conducted by its appointed resource persons and another 256 engagements had been planned for the rest of the calendar year 2012-13.32 Its board has empanelled approxi-mately 484 resource persons to further the task of investor awareness in addition to its own efforts in this field.One of the most interesting programmes and per-haps one with most long term potential to bring

30 Capital Markets 2020: Going for 3X by McKinsey and Co.

Contents | 21

31 http://investor.sebi.gov.in/oiae.html

32 http://investor.sebi.gov.in/feworkshops.html

33 http://investor.sebi.gov.in

34 Strategic Plan for 2011 - SEBI

about change is the financial literacy programme aimed at school going children called ‘Pocket Money’. This financial literacy initiative amongst others is being promoted by the National Institute of Securities Markets, established by SEBI in 2010 in order to focus on increasing investor education and providing formal certifications to partici-pants. According to Mr Anant Barua, the Pocket Money programme which educates students by training teachers, has covered 5,783 students from 256 schools across the country. This programme aims to teach students basic principles like saving, financial planning and budgeting along with the pros and cons of basic investment options. The programme is divided into 3 stages, the first being teacher training, the second is student enrolment and classes which culminates into the third stage viz. a certification exam conducted by NISM. Additionally, SEBI has trained 238 teachers and 14,550 students through the Meljol programme in 2009-10 which covered 197 schools.A number of these investor outreach initiatives are also delivered for SEBI by empanelled NGOs,

investor associations, industry bodies, institutions and resource persons. Simpler solutions such as help lines and email addresses for investor queries have also been set up. SEBI has a dedicated web-site which contains the relevant information for investors.33 The board has also articulated a me-dia plan in order to disseminate information on financial markets to the masses in English, Hindi and 12 other regional languages. In 2011, SEBI articulated a 3 pronged approach in order to dis-seminate awareness about financial markets:

• Print: Newspaper advertisements in non-finan-cial dailies,

• Television: 30 second slots in prime time on TV channels,

• Radio: Audio slots through radio, including FM channels.34

These initiatives have been developed with the help of market participants such as exchanges, depositories and Mutual Fund houses. The reg-ulator has earmarked about Rs 12 crore for the

Table 3: Trading in Corporate Bonds (INR crores):

Source: http://investor.sebi.gov.in/fevernacular.html

Campaign Language(s)

School Students Module

Assamese Bengali Gujarati Hindi Marathi Punjabi Tamil Telugu Urdu

College Students & Young Investors Module


Home Makers Module


Executives Module - Bengali Gujarati Hindi Marathi Punjabi Tamil Telugu Urdu

Middle Income Group Module

- Bengali Gujarati Hindi Marathi Punjabi Tamil Telugu Urdu

Retirement People Module


Pocket Money - - Gujarati Hindi Marathi Punjabi Tamil - Urdu

Handbook for School Children – Meljol

- - - Hindi Marathi - - - -

Table 4: Regional Campaigns by SEBI in Different Languages

22

media campaign and investor awareness pro-grammes for 2011-12. In the past, the Reserve Bank of India has regularly used the print and electronic media to alert the public about various fictitious schemes and fake currencies.35 As of Au-gust 2012, the board had shortlisted 13 ad agen-cies to assist them in their efforts and design a media plan. Although there are proposed plans to have audio-visual films covering subjects like in-vesting in primary and secondary market, rights of investors and mutual fund investments; these are not available on SEBI’s website. Although SEBI regularly tracks the number of programmes conducted in the country, there is lit-tle being done by the way of measuring impact of these programmes or even the increase in investor awareness and confidence or education levels over time. Certificate courses offered by institutes such as NISM can obviously be tracked quantitatively by way of students enrolled and degrees awarded but the level of investor awareness is a much more nuanced and qualitative subject. As SEBI tries to increase the size and strength of its physical out-reach, it would also be important to understand the effectiveness of these programmes.The costs of these programmes are borne by SEBI under the Investor Protection and Education Fund established in 2001, seeded with an invest-ment of Rs.10 crore. This fund is also the benefi-ciary of amounts which have remained unclaimed and unpaid for a period of seven years from the date they became due for payment such as unpaid dividend accounts of the companies, matured de-bentures, grants and donations by the Central Govt., State Govt., companies or any other in-stitutions etc. and contributions from the market participants themselves. The stated objectives of the fund are:• Educating investors about market operations• Equipping investors to analyse information to

take informed decisions• Making investors aware about market volatili-

ties• Empowering the investors by making them

aware of their rights and responsibilities under various laws

• Continuously disseminating information about unscrupulous elements and unfair practices in the securities market and broadening the inves-tors’ base by encouraging new investors to par-ticipate in securities market

• Promoting research and investor surveys to cre-ate a knowledge-base that facilitates informed policy decisions

Investor protection is being achieved with a mix of subtle and overt initiatives; the regulator seeks not only to improve the quality and quantity of information that is being passed on to the inves-tors but also the work of credit rating agencies which act as watchdogs. Protection is not limited to provision of redressal mechanisms and educa-tion which SEBI extends for the cultivation of an ecosystem that encourages fair pricing of issues and lower transaction times as we have discussed earlier. The regulator has made listing norms flex-ible while simultaneously improving the kind of disclosures that must be furnished by bankers and promoters thereby improving the quality of infor-mation available to analysts and investors alike, making corporate governance more robust and pricing more transparent. Merchant bankers are responsible for ensuring that all the requirements of Disclosure and Investor Protection Guidelines are complied with at the time of submitting the draft offer’s documents to SEBI. SEBI on its part evaluates if the guidelines are being followed and all required disclosures are made in the offer doc-uments.36 Many of its initiatives such as grading of IPOs by credit rating agencies have been re-markably visionary.The regulator has also set up SCORES – SEBI Complaint Redress System, an online portal37 where investors can make complaints against any listed company or entity related to capital mar-kets and the query is forwarded to this company or entity within 2 working days which is expected to revert within a period of 7 working days with

35 Investor-friendly’ SEBI to launch ad campaign next month by Samie Modak for Business Standard Jan 25, 2012

36 http://www.window2india.com/cms/admin/article.jsp?aid=3459

37 http://scores.gov.in/

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a basic response that details action taken since the complaint was received; companies that are found to be non-compliant face penalties im-posed by the regulator and risk being delisted from the exchanges.While the regulator continues to improve capi-tal markets by making them more transparent, accessible and safer for investors to invest their savings into, it is equally important for them to continuously re-examine the very effectiveness of its awareness and education programmes and find new, innovative ways to increase the reach and quality of these initiatives.

The Reserve Bank of India

The Reserve Bank of India was established on April 1, 1935 as per the provisions of the Re-serve Bank of India Act, 1934. Though origi-nally privately owned, since nationalization in 1949, the Reserve Bank is fully owned by the Government of India. In the preamble to the RBI Act, its functions are defined as “...to regulate the issue of Bank Notes and keeping of reserves with a view to securing monetary

stability in India and generally to operate the currency and credit system of the country to its advantage”38.Although RBI’s primary function is to efficiently manage the monetary and fiscal policies of the country, it also plays an extremely significant role as a regulator and supervisor of the finan-cial system. It is indispensable in removing and identifying both systemic and non-systemic risks. For example, in order to protect custodian banks against adverse equity price movements, the RBI has mandated that only those banks which add the inalienable rights clause in their irrevocable payment commitments would be allowed to issue the instrument 39.

Investor Awareness & Education

In the context of investor awareness, education and protection, the RBI has a pivotal role to play due to its authority over the banking system. It is currently running a project known as ‘Project Financial Literacy’, the objective of the mission is to spread information and awareness regarding banking, personal finance and operations of the central bank to various sections of society that may otherwise remain unaware about these sub-jects. The project has been designed to be imple-mented in two modules, one module focusing on the economy, RBI and its activities, and the other module on general banking. The material is cre-ated in English and other vernacular languages. It is disseminated to the target audience with the help of banks, local government machinery, schools and colleges through presentations, pam-phlets, brochures, films and also through RBI’s website.40 These are in the form of comic books for school kids, puzzles and also films that can be viewed on its website.The RBI is also trying to engage school-going children directly by involving them in essay writ-ing competitions where they stand to win prizes. The RBI’s approach to financial education is in line with those of many other countries which, especially since the beginning of this century,

38 http://www.rbi.org.in/scripts/AboutusDisplay.aspx#EP

39 RBI asks custodian banks to get payment commitments by Raghavendra Rao for the Hindu Busine Line

40 National Strategy for Financial Education

24

41 http://www.thehindu.com/opinion/editorial/article3723637.ece

have realised the full potential of spreading finan-cial literacy through national projects. Given the large number of stakeholders, including the Cen-tral and State governments, banks and financial institutions, a coordinated national project will be beneficial.41

Fraud Prevention

Investors have regularly been duped by impost-ers posing as bank representatives and electronic phishing mail that asks for user information. In an effort to combat this kind of online and offline fraud, the RBI provides press releases to warn in-vestors and inform them about best practices and additionally disseminates information on nodal agencies who may be contacted with their griev-ances. In extreme cases, (as in the case of Orissa in January ’12, which had seen a large spike in number of cases of financial fraud) they have also sent their representatives to various districts in or-der to improve investor awareness and investigate the matter.

Financial Inclusion

While the argument for the need to increase inves-tor education and therefore awareness across vari-

ous sections of societies and geographical bound-aries is valid, in India, the precursor to financial education must necessarily be financial inclusion. Financial inclusion is the first step towards finan-cial awareness and education. The RBI, for exam-ple, mandates that for every branch that a bank opens in a high profit urban area, two are opened in comparatively backwards rural location in order to spread the availability of modern finance to the Indian populace. The m-banking or mobile bank-ing movement is still in its nascent stages but shows huge promise. Banks and mobile service providers are still experimenting with the system and are well aware of the massive growth and revenue genera-tion opportunity. If regulators want to increase the depth of the market and use the capital markets for wealth/capital generation, it is imperative that they continue to encourage and experiment with ideas like this that could be the catalyst for change.

The Role of Stock Exchanges

The National Stock Exchange of India

Since it was established, the National Stock Ex-change of India – NSE has come to be the domi-nant stock exchange in the country and has the

Contents | 25

42 The battle of the bourses by Pramit Bhattacharya & Vyas Mohan for Live Mint

43 http://investothon.moneycontrol.com/

44 http://pib.nic.in/newsite/erelease.aspx?relid=66223

45 http://www.nseindia.com/education/content/about_ncfm.htm

largest chunk of the trading volumes by far. NSE dominates equities trading with 83 per cent mar-ket share in the cash segment and 75 per cent share in the derivatives pie. BSE accounts for the rest.42 Over the course of the next few pages we will ex-amine the current initiatives that the NSE runs to increase financial awareness and investor educa-tion in the country as well as the framework it pro-vides to investors for their safety and protection.The most recent events conducted by the NSE to create investor awareness were• The Investothon• The Sealdah Rajdhani campaignThe Investothon is conducted by the NSE jointly with the business news channel CNBC TV18 and was started in March 2011 in Mumbai to promote health, wealth and investor awareness in Mumbai, Delhi, Ahmedabad and Chennai with more than 4,000 investors and corporates partici-pating in each of the initiatives.43 The Sealdah Rajdhani Express is an interest-ing initiative launched by the NSE as part of its ‘Financial Literacy on Wheels’ campaign. The Sealdah Rajdhani, which runs through key states like Uttar Pradesh, Bihar and Jharkhand, ends its journey at the Sealdah station, one of the busi-est stations in India, which also has a suburban rail terminal. The 14 coaches of the train will carry Nifty images on the train, with panels in-side on the precautions an investor should take before, during and after trading. Audio messages will also play inside the coaches, throughout the 17 hour journey from Delhi to Sealdah and on the return journey. The Sealdah Rajdhani cam-paign continues to build on a seamless link that was first started in April, when an awareness drive was begun on the Rajdhani trains from Delhi to the Southern cities of Chennai, Trivandrum and Bangalore.44 Following the successful implemen-tation of this campaign, the NSE replicated this effort with the Delhi Metro Rail Corporation during the recently conducted Commonwealth Games in the city. While this is no doubt a novel

idea, its effectiveness and reach needs to be exam-ined in further detail. Additionally, the NSE as a part of its mandate also tries to spread investor awareness through its member-brokers and works closely with the Ministry of Corporate Affairs to coordinate their efforts.The NSE’s Certification in Financial Markets or NCFM as it is referred to, is an initiative that has become successful in providing courses that offer some standard of qualification and act as gateway certifications for aspirants to become stock mar-ket dealers/ practitioners etc. The website of the NSE states that in order to dispense quality in-termediation, personnel working in the industry need to

(i) follow a certain code of conduct usually achieved through regulations and

(ii) possess requisite skills and knowledge acquired through a system of testing and certification.45

The idea of an industry accepted minimum cer-tification is an extremely effective one, as it not only ensures some minimum level of knowledge/ skill for practitioners but also acts as a way to put investor concerns at ease at least to some extent. Additionally, the NSE has been offering short term courses called NSE Certified Capital Mar-ket Professional (NCCMP) since August 2009, in collaboration with various educational institutes. The exchange has also signed up with the Maha-rashtra Knowledge Corporation Ltd. (MKCL) to launch a basic course in personal financial man-agement. The course is currently being offered at MKCL’s authorized learning centres.

Investor Services Cell (ISC)

The exchange has set up investor services cells (ISC) which deal with investor complaints against any member/ market participants/ companies. The exchange has established these ISCs which tackle investor queries at various locations across

26

the country. With a mandatory turnaround time of 45 days, any complaint that has not been re-solved is automatically forwarded to the Investor Grievance Resolution Panel (IGRP), which then tries to resolve the conflict in a quasi-judicial ca-pacity. Investors can complain online or offline and can also call the NSE helpline.

Arbitration

The arbitration procedure offered by the NSE aims to provide a quicker path to resolution than the judicial system that can be long and cumber-some. The exchange has established nine regional arbitration centres where complainants can go to avail of the facility.

Settlement Guarantee Fund

In the Indian stock exchanges, the counter party to any financial transaction is the exchange it-self. Therefore, in order to ensure a smooth and seamless trade flow, the bourses were mandated by SEBI to establish and maintain the Settlement Guarantee Fund (SGF), contributions to which are also made from the clearing members of the Corporation. Although the clearing corporations play an integral role in ensuring that there is time-ly settlement of all trades and margin require-ments are met by all trading members, they also have the authority to square off any short delivery where margin may fall short and automatically auction off any bad delivery. The SGF with NSE currently stands at INR 35,000 crores in both equity and derivatives com-bines while that of the BSE stands at INR 5,000 crores for the same segments. While the regulator does want the size of this SGF to grow, many par-ticipants believe it is already too large. SGF was created in 1997 (after the Harshad Mehta scam) to ensure maintenance of market equilibrium in case of payment default by stock brokers, as well as to inculcate confidence in the minds of sec-ondary market participants. The fund is also used when a trading member fails to deliver the secu-rity. The exchange buys the shares in the auction, and delivers the security to the aggrieved party. So

far, only Calcutta Stock Exchange had to make use of SGF — to avert a payment crisis after the Ketan Parekh scam in 2001.46

The Bombay Stock Exchange (BSE)

Over the last decade, the BSE may have lost vol-umes to the NSE, however with its rich history spanning over 100 years it continues to capture the imagination of the masses and for most in-vestors it is synonymous with the growth of the Indian economy.

Investor Awareness & Education

The BSE as part of its mandate conducts a num-ber of Investor Awareness and education pro-grammes. These investor awareness programmes are hosted in conjunction with other market participants such as Mutual Funds, CDSL and member brokers. The Investor Awareness Programmes cover topics like rights of inves-tors, different instruments being traded on the exchange, the concept of portfolio building, distinction between trading and investing, the value of mutual funds, the process of trading i.e. how trades are cleared and settled, why de-materialization is important for investors, safety of transactions on the exchanges along with the means of redressal for the investors. These pro-grammes aim to make investors more confident while interacting with intermediaries and also help them understand the terminology that may be used, for many investors, markets are like a black box and most are unsure of what happens to their funds once they have been invested into any share or mutual funds.

Department of Investors Services (DIS)

The BSE established the Department of Investors Services (DIS) in 1986 to protect the interests of investors and provide them with a redressal mechanism for any grievances. In case of com-plaints by investors against listed companies, the exchange has set a maximum deadline of 30 days within which the company must respond to the

46 Settlement guarantee fund of bourses to grow by the Business Standard – 4th April 2012

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investor’s grievance. If the total number of such complaints exceeds 25 and left unanswered for a period of more than 45 days, then steps are initi-ated by BSE to suspend trading in the securities of such a company till the complaints are resolved47. The exchange also possesses the authority to transfer such scrip to what is known as the ‘Z’ group of shares, which essentially comprises of a list of companies that have not complied with provisions of listing in some form. This acts as a warning to investors before investing in any security. The guidelines and turnaround times (TAT) are somewhat more stringent for trading members, who are mandated to respond to any query within a maximum of 12 days from receipt of the complaint by the BSE, following which the matter is placed before the Investors’ Grievances Redressal Committee (IGRC). 8 regional offices of the BSE also act as local administrative bases with jurisdiction over different territories for the smooth and efficient handling of these investor grievances. Contact information to make com-plaints can easily be found on the BSE website for investors to refer to.

Investor Protection Fund

In accordance with the guidelines issued by the Ministry of Finance, the BSE set up the Investor Protection Fund to protect the interests of inves-tors whose trading members may be declared as defaulters for any reason and who do not possess the ability to repay the clients margin/ holdings for any reason. The fact that every trade is guar-anteed by the exchange in Indian markets goes a long way in imparting confidence to traders and investors as it more or less removes the counter party risk that foreign markets are fraught with.The fund comprises of contributions made by trading participants to the tune of Re.0.01 per Rs.1 lakh of gross turnover; BSE contributes, on a quarterly basis, 1 per cent of the listing fees col-lected by it. The entire interest earned by BSE on 1 per cent security deposit kept with it by compa-nies making public/rights issues is credited to the

Fund, auction proceeds from illegally obtained profits (from transactions such as price rigging/manipulation), 5 per cent of any amount remain-ing with a defaulting member of the exchange af-ter repayment of all their dues to their creditors is transferred to the IPF.

Arbitration

The BSE arbitration procedures have been laid down in its list of laws and bye-laws and have also been approved by the Government of In-dia and SEBI. At present the exchange is em-powered to pay to any investor as compensa-tion an amount up to Rs. 15,00,000/- or the amount recovered from the defaulter, whichever is lower. The arbitration award obtained by in-vestors against defaulters are scrutinized by the Defaulters Committee, a Standing Committee constituted by BSE, which may recommend to the Trustees of the Fund for release of the pay-ment as per the applicable limits to the clients of Trading Members which have been declared Defaulter. After the approval of the Trustees of the Fund, the amount is disbursed to the inves-tors from the Fund48 . As in the case of the NSE, if the arbitration pro-cess of the BSE fails to satisfy either of the ag-grieved parties, they are free to approach the civil courts for further redressal. In case any party is dissatisfied with the award, there is a provision for appealing against the award. Formerly, only BSE had an Appellate Bench and a party dissatis-fied with BSE’s arbitral award, had no option but to approach the High Court, under Section 34 of the Arbitration Act. SEBI’s circular of August 11, 2010 now necessitates that both the stock ex-changes provide for an appellate forum. A party aggrieved by the appellate arbitral award may file an application in a court of competent jurisdic-tion in accordance with Section 34 of the Arbitra-tion Act. Petition under Section 34 of the Arbi-tration Act is to be filed in the competent court nearest to the regional centre where the arbitra-tion was conducted49.

47 http://www.bseindia.com/investors/invGrievances.aspx?expandable=2

48 http://www.bseindia.com/investors/invGrievances.aspx?expandable=2

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The Multi Commodity Exchange – Stock Exchange (MCX- SX)

The Multi Commodity Exchange – Stock Ex-change or the MCX – SX as it is more popularly known, has already been discussed in the context of Indian Commodity Markets. On the 10th of July 2012, it also received permission from SEBI to operate as a full-fledged exchange and enter into new asset classes. The Exchange had already received permission from the regulator to offer currency derivatives (growth in daily traded vol-umes in this section have steadily grown from Rs 324.78 crore in the first month of operations to Rs 12,430.48 crore at the end of September 2012)50 and by November 2012, hopes to offer members a new platform to trade equities and eq-uity derivatives. The approval of SEBI to the MCX –SX has been a landmark in many ways as it offers a more level playing field to market participants by increasing competition in favour of investors and trading members. As the nation’s newest stock exchange, the work being done by the MCX-SX in the field of investor awareness, education and protection is important, as the exchange holds the ability to change the current paradigm and raise the bar if it so decides. According to the website of the MCX – SX, its philosophy of ‘Systematic Development of Markets through Information, Innovation, Ed-ucation and Research,’ acts as a guiding principle for all its initiatives.

Integrated India Model

The MCX-SX in an effort to promote member-ship to its exchange has made a concerted effort to focus on smaller cities in India and not just the major metropolis, under what it has called the ‘Integrated India Model’ to create and spread the culture of equity investing to all parts of the country. The exchange has also tried to lower the barriers to entry for new participants by keeping the total outlay for entry level members to Rs.

25 lakh (5 lakh membership fee and 20 lakh de-posit) vs. the NSE and BSE charges of not only Rs. 5 lakh and Rs. 2.5 lakh as membership fee re-spectively, but also deposits of Rs. 1.25 crore and Rs. 30 lakh respectively. MCX-SX seeks to attract people from smaller cities through its competi-tive cost-structure. Currently, the market partici-pation and liquidity is limited to less than 2 per cent of population and is heavily dominated by top metro cities51. The MCX-SX in an effort to achieve its larger goal of financial inclusion and market development has released a segmented membership scheme.

• Professionally Qualified MembersThis includes professionals with experience in fi-nancial markets who have worked in banks and various types of investment funds. The exchange in the future hopes to provide training in the fi-nancial eco-system to other professionals such as doctors, CAs, engineers etc. as well who could become potential members.• Rural Entrepreneur MembersThis membership category is designed for the majority of Indians who live in the over 5,000 sub - districts and talukas of the country where there is currently no access to capital markets. The exchange plans to provide them with appropri-ate capacity building tools to ensure that they are adequately equipped to participate themselves as well as advise investors in financial markets.• Composite MembersComposite members are the professional and institutional market participants such as banks, NBFCs and Brokerages.MCX-SX will provide members’ capacity build-ing services such as specially designed training programmes for two years for directors and em-ployees with a greater thrust on promoting bonds and other fixed income products. It will also sponsor three directors / employees of the mem-ber to study MBA (Finance) from Indira Gandhi National Open University (IGNOU)52 . While these are extremely interesting ideas, their imple-

49 http://barandbench.com/brief/1/989/stock-exchange-arbitration-an-overview

50 http://www.mcx-sx.com/About-Us/Pages/About-Us.aspx

51 http://www.moneylife.in/article/mcx-sx-launches-membership-drive-to-target-smaller-cities/28285.html

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mentation at the ground level is critical to suc-cess. While in theory this may seem like a novel idea, it may not be so different from the system of sub-brokers that is prevalent in the NSE and BSE (Professionals such as lawyers, Chartered Ac-countants and financial analysts do have an op-tion to become sub-brokers of the NSE and BSE by obtaining the requisite certifications and pay-ing a fee).

Knowledge for Markets

The MCX-SX is owned by the Financial Tech-nologies group, under whose aegis the Financial Technologies Knowledge Management Company or FTKMC is also run. The FTKMC is a knowl-edge initiative that has implemented various fi-nancial literacy programmes on its ‘Knowledge for Markets’ platform. These include:• One-year Diploma in Financial Markets Prac-

tice, jointly with Indira Gandhi National Open University (IGNOU)

• International Winter School in Financial Mar-kets Practice, jointly with National Institute of Industrial Engineering (NITIE), Mumbai

• Global Financial Markets Exposure Programme• National Simulation Lab, a simulated market

environment to understand and appreciate the trading in markets in various asset classes

• ‘Money Plant’, a programme on Doordarshan• Various certification programmes, including

MCX Certified Commodity Professional MCCP• Short-term training programmes• Farmers Awareness Programmes along with

the Forward Markets Commission (FMC), the commodities market regulator

• ‘Markets in Motion’, the weekly newsletter• Periodicals; reviews; insights; and other publica-

tions.53 On the 13th of September 2012, the MCX – SX via its press release announced its intentions to conduct 1,000 in-depth education and training programmes in order to increase awareness and literacy about financial markets amongst the very

52 http://www.mcx-sx.com/MCXSXUploads/NewsDocs/PressReleases/2012/September/English/Press_Release_Chennai_Sep_14.pdf

53 http://www.ftkmc.com/financial-literacy.html

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first batch of 500 trading members. The idea is to conduct two such programmes per broker, where half the cost of the programme will be borne by the exchange itself. The exchange has also con-ducted 1469 investor awareness and education programmes in various parts of India as part of its stated mission of ‘Financial-Literacy-for-Fi-nancial Inclusion.’ In order to ensure the effective implementation of this programme and increase the existing level of financial literacy, the MCX – SX has appointed state level advisory boards for every state in the country. The exchange has is-sued a statement that its Board would comprise of brokers, investor representatives, and people from academic institutions, professional bodies and stakeholders from the capital markets54. The formation of these state level advisory boards is an excellent idea as the hypothesis that one pro-gramme for financial literacy could be applied to every state– each with its distinct cultural identity and challenges – is flawed.The MCX – SX, in early 2010, partnered with the Institute of Chartered Accountants of India (ICAI) in order to jointly increase investor aware-ness and financial literacy in the country. The exchange and ICAI plan to conduct events and seminars and provide certification programmes for financial professionals. The content will also focus on training and research programmes on fi-nancial markets and corporate governance issues. Chartered Accountants have traditionally played an extremely important role in Indian businesses; their opinion has been highly sought after in the family-run businesses and remains a respected voice in the Indian investing community. Their role, in conjunction with the exchange, therefore throws up an important opportunity to lever-age this relationship in order to reach investors and intermediaries alike. The web portal of the joint initiatives provides information on explana-tions for frequently asked questions, journals and newsletters as well as an ‘ask the expert section’ which allows you to write in your queries to an eminent panel of experts. According to the MCX–SX, it is important to differentiate between an informed participation

and uninformed participation in capital mar-kets by retail investors. The former, will even in case of a loss, return to the market because he or she believes that they did not adequately re-search the subject and therefore made an errone-ous judgment call, while the latter tends to blame the market for their losses. In the same vein, the MCX-SX also draws a distinction between skill & expertise based education and investor awareness. Skill and expertise based education refers to the use of trade tools such as trading terminals and valuation metrics learnt over time and through experience, while the awareness is essentially the task of making potential and existing investors aware of the capital markets, its potential oppor-tunities and risks.

Investor Protection

Like its counterparts, the MCX Stock Ex-change also provides a redressal mechanism for investor complaints and an arbitration cell that helps resolve disputes. The exchange has established Regional Investor Service Cen-tres at Chennai, Delhi, Kolkata and Mumbai where investors can approach the cell in order to make complaints, seek redressal and coun-selling. A list of arbitrators at each location is available to any investor on the website of the exchange. It is the exchange’s belief that in most cases of arbitration the decisions taken are not in favour of the investor and so the exchange has made conscientious effort to en-courage conciliation and mediation in order to resolve disputes rather than provide only arbitration as a tool for resolution55. This is a rather insightful imitative by the MCX – SX as it is possible that most investors who make complaints may be willing to find a middle ground but are forced to opt for a quasi-judi-cial process due a lack of alternatives.

Ministry of Corporate Affairs (MCA)

The stated vision of the MCA is to facilitate corporate growth with enlightened regulation.

54 MCX-SX to form state advisory boards for financial inclusion by the PTI, September 2012, Ahmedabad

55 http://www.moneylife.in/article/conciliation-works-better-than-arbitration-in-exchanges-says-joseph-massey/22428.html

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56 http://www.mca.gov.in/Ministry/iepf_info.html#Media

Its mission is to be responsive and sensitive to changes in the business environment and suit-ably formulate and modify corporate laws and regulations from time-to-time. The MCA has a well-articulated list of objectives that it follows-up on diligently. In its effort to promote investor awareness and protection, it has realized that it is equally important to improve the ecosystem by way of information and competition. It aims to do this by simplifying laws, increasing transpar-ency and disclosure norms and reducing the bar-riers to entry. The MCA clearly wants to do away with archaic laws that are no longer relevant by trying to update them in accordance with the best practices and informed policy advisory.

Serious Fraud Investigation Office

The MCA aims to create an early warning system to help prevent cases of fraud in the corporate sec-tor; it has also instituted the Serious Fraud Inves-tigation Office in order to conduct investigations into cases of corporate malfeasance and in order to protect investors.

Framework to measure Impact & Success

The ministry also has a well-established results oriented framework that helps measure the im-pact and effectiveness of various initiatives, the indicators of success and how far they achieved their objectives. A snapshot of this type of meas-urement framework is available below.

Investor Education and Protection Fund (IEPF)

The Investor Education and Protection Fund (IEPF) was established under Section 205C of the Companies Act, 1956 by way of Companies (Amendment) Act, 1999 for promotion of inves-tors’ awareness and protection of the interests of investors. The fund receives its allocations from the following sources:

1. Amounts in the unpaid dividend accounts of the companies

2. The application moneys received by compa-

nies for allotment of any securities and due for refund

3. Matured deposits with companies4. Matured debentures with companies5. Interest accrued on the amounts referred to in

clauses (i) to (iv)6. Grants and donations given to the fund by

the Central Government, State Governments, companies or any other institutions for the purposes of the fund; and

7. Interest or other income received out of the investments made from the fund

Source: http://www.mca.gov.in/Ministry/iepf_info.html#Special

Media Programme

The MCA also runs a media programme through advertisements in print and electronic media to inform investors about their rights and duties as well as to provide information on the vari-ous agencies they may approach in order to seek information/ redressal. The IEPF under the aus-pices of the MCA also provides funds to special schemes that benefit investors, such as:

• Watchoutinvestors.com• Class Action Suits• Training of Trainers Programme (TOT)56

The IEPF organizes various investor interaction sessions, seminars and workshops as part of its broader mandate to educate investors. Some of its main activities for spreading financial aware-ness have been:

• Seminars and workshops with empanelled agen-cies, NGOs and associations

• Providing funding for research into the investor awareness and education paradigm

• Education through media channels such as Doordarshan (DD) and other private channels

• Promoting education through the Indian Insti-tute of Capital Markets

• Coordinating the activities of various agencies involved in the field of investor awareness, edu-cation & protection

32

57 http://mtia.in/letter.htm

Indian Institute of Capital Markets (IICM)

The Indian Institute of Capital Markets (IICM) was established in 1990 with a campus in Vashi, Navi Mumbai. The institute offers certificate courses in applied financial modelling and a pro-fessional development programme which is a post graduate diploma in securities markets. The insti-tute conducts a number of conferences on capital markets and also publishes papers relevant to the industry. It is to the credit of the IICM that it has tried to expand its footprint by sharing best practices from the domestic capital markets with countries such as Sri Lanka.

www.Investorhelpline.in

This was a website that was sponsored by the Ministry of Corporate Affairs until it was dis-continued in early 2012. It was an initiative by the MCA to provide a fast and efficient redres-sal mechanism for investors. In the wake of the much talked about Satyam scam, the website had taken up the cause of investors. As SEBI Act and the Companies Act did not contain any provi-sion for awarding compensation to the duped investors, they filed a petition on behalf of 3 lakh individual investors, under the Consumer Protec-tion Act, seeking Rs.4,987 crore as damages from Satyam Computers, Raju brothers, its statutory auditors-Price Waterhouse- and independent di-rectors. The petition, modelled on Class Action Suits prevalent in the U.S., was filed for the first time in India. However, Midas Petition before the National Consumer Disputes Redressal Com-mission and its appeal before Hon’ble Supreme Court were dismissed, leaving the investors in a lurch57. According to statistics available on the now defunct website they had received a total of 14,292 complaints in a nearly 6 year period be-tween September 2005 and June 2011, of which 10578 were valid and 10364 were satisfactorily dealt with while 214 were pending.

Nodal Offices

The ministry has over 25 nodal offices that inves-

tors can approach in order to make complaints, seek redressal and guidance. Addresses and con-tact information of these offices is easily available on the MCA website. The format and process for these complaints is easily available on the MCA web portal, investors can download and submit these applications to the Ministry. The MCA has a number of other small and large facilities that investors can avail of, which help investors verify the veracity of claims made by companies. For ex-ample – investors can go online to verify the DIN – PAN details of any director in a company and can also check a list of defaulter/ dormant names of companies to ensure that they are not being misled in any way.

The Mutual Fund Industry

Investing in capital markets is not easy. Mutual funds, as we have discussed earlier, make it simple for people who are not financial experts or confi-dent in their trading abilities to take advantage of the wealth creation potential of the stock market. Mutual funds are collective investment funds that are critical for the mobilization of household in-comes into the capital markets. They are therefore important, not just in terms of wealth creation, but also in terms of economic development. As the primary tool for retail investor participation, their role, in the area of investor awareness & pro-tection is clearly important. While the number of Asset Management Companies (AMCs) is too large to cover effectively and to examine fully as many initiatives are motivated by an urgent need to mobilize product sales; we will examine the role of the Association of Mutual Funds of India – as a proxy for the Industry.

Association of Mutual Funds of India (AMFI)

The Association of Mutual Funds of India (AMFI) is an apex body, established in August, 1995 that constitutes all the registered asset management companies in India. Currently there are 44 regis-tered AMCs in the country and these constitute the membership of AMFI. The association acts

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as a Self-Regulatory Organization (SRO) and is incorporated as a non-profit entity. As an as-sociation made up by industry members, AMFI operates at the cross roads of regulation, inves-tor awareness and industry promotion. In order to balance its multiple priorities, the association has tried to articulate its objectives as follows: As per AMFI the average Assets Under Management (AUM) across all mutual funds in the country was Rs. 75,38,06,01.32 lakhs in various schemes with SEBI registered asset managers during the period July to September 201258.In order to promote a more robust and well in-formed market eco system, AMFI has made cer-tification in the mutual fund industry mandatory for any sub-broker or distributor. Distributors and brokers are major sources of fund flow for asset management companies and are usually the sales agents who talk to investors while selecting funds – as the main point of contacts for inves-tors, these individuals need to be well-informed and up-to-date on the industry norms and per-formance standards.

Removal of Entry Loads

Investor awareness is a priority for AMFI, not in the least because it offers a point of contact be-tween investors and AMCs and so is a point of sale, but also because promotion of an ethical and investor-oriented ecosystem leads to preservation and propagation of the ecosystem itself. SEBI has for its part also been working to make invest-ments in mutual funds ‘cheaper’ for investors. In August 2009, SEBI had banned entry load, which is a charge fund companies imposed on initial in-vestments made by mutual fund investors. Funds used the entry load to offer incentives to distribu-tors and abused it to write off all kinds of mar-keting and promotional expenses. In some cases during the bull market of 2006, entry loads were as high as seven per cent. This meant that after putting in Rs 10 in a fund, on day one, your net asset value was down to Rs 9.3059. A calculation

below shows the kind of differential this decision has made to investors.While this decision has been very positive for inves-tors, leading to a change in sales strategy for inter-mediaries from pushing products to an advisory fee based model; it has however, been a very difficult

58 http://www.amfiindia.com/AUMReport_Rpt_Po.aspx?dtAUM=01-Jul-2012&qt=July per cent20- per cent20September per cent202012&rpt=fwise

59 Money is flowing out of mutual funds while savings in the banks are swelling – for Business Standard by Debashish Basu – July 02, 2012

Source: http://getahead.rediff.com/report/2009/jul/07/no-entry-load-on-mutual-funds-who-wins-who-loses.htm

Particulars With entry Load Without entry load

Investment Rs 1,00,000 Rs 1,00,000

Entry load 2.25 per cent Nil

Net amount invested Rs.97,750 Rs.1,00,000

Average return over a period of 10 years (CAGR)

15 per cent 15 per cent

Your investments after 10 years @ 15 per cent

Rs. 3,95, 453.27 Rs. 4,04,555.77

34

decision for the industry to cope with. Interme-diaries are no longer trying to push mutual funds and fewer new schemes are being launched. These brokers and distributors earlier indulged in the practice of ‘churning’ portfolios in order to maxi-mize returns, i.e. to ask investors to exit Mutual Fund schemes on some pretext and enter newer ones. Every time an investor did this, they earned a commission from the AMC. The removal of the entry load system has dramatically changed this paradigm and brokers now need to form a coher-ent investment hypothesis when recommending a product. However, the removal of entry loads has also led to a lowered level of interest from these brokers/ agents for distribution of mutual funds. In this context, the role of AMFI and its member AMCs becomes important to understand what is being done on their part to sustain investor interest.

Investor Awareness

AMFI under the guidance of SEBI has made in-vestor awareness a focus area; they have consti-tuted two committees, one focused on Investor awareness while the other one is known as inves-tor connect. The idea is to understand the prob-lems investors face vis-à-vis mutual fund invest-ments and how they could be resolved. According to the Swarup committee report of 200960, In-dia’s investor population has plummeted from 20 million in the 1990s to eight million in 2009. AMFI clearly sees reaching out to investors di-rectly through an investor awareness campaign in

the media and by way of promotional events as a potential way to combat the falling interest in mutual funds by distributors and agents. AMFI has also directed its members to hold as many as 5 investor awareness seminars every month61. All the investor awareness programmes that are ap-proved by AMFI are listed on the website and are hosted by asset management companies in a range of cities and districts across the country. Additionally, each asset management company also runs its own investor awareness initiatives under the same mandate by AMFI and provides educational materials and a schedule of its events on its website62.The Government would also like to popularize mutual funds as an asset class for every level of the Indian population; the Ministry of Finance (MoF) has recently introduced the Rajiv Gandhi Equity Savings Scheme (RGESS) to incentivize retail investors to participate in equity markets. The scheme offers investors who earn up to Rs. 10 lakh per annum, a tax break if they invest up to Rs. 50,000 a year in the scheme. The scheme is quite ambitious in its objectives, i.e. to mo-bilize part of the savings in Indian households towards equity markets by way of mutual funds as most people in the smaller towns and cities of India are quite uncomfortable with equity in-vestments. Accordingly, the MoF has planned to run an investor awareness and education drive in order to change this perception amongst the retail masses.

60 http://www.moneylife.in/article/amfis-investor-awareness-committee-may-waste-crores-on-mutual-fund-ad-caigns/3917.html

61 Amfi project to hardsell MFs find few takers by Nishanth Vasudevan, ET Bureau Jul 30, 2010 – The Economic Times

62 http://www.amfiindia.com/IAPSchedules_Rpt_Po.aspx

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63 Reap the gains from India’s demographic dividend by Sameer Kamdar for the Business Standard – 23rd November 2010

64 http://www.indexmundi.com/india/demographics_profile.html

65 India’s demographic dividend may turn into a nightmare by Ashoak Upadhyay for the Hindu Business Line – 13th May 2012

66 http://articles.economictimes.indiatimes.com/2011-02-06/news/28424975_1_middle-class-households-applied-economic-research

India’s demographic dividend has been widely discussed. This dividend, however, could also become a nightmare if it is not channelled into meaningful wealth creation and income genera-tion. Every year India adds more to the world’s population than any other country. The positive aspect of India’s population growth is that it is accompanied with an increase in the proportion of working age adults. The dependency ratio in India has fallen to 56 per cent in 2010 from 65 per cent a decade ago, and is expected to go below 50 per cent over the next decade. This would lead to higher savings underpinning investment63.

Demographics

The population growth rate as of 2011 was 1.312 per cent64. India has a high concentration of the productive component of population, and at pre-sent it enjoys a low dependency ratio. These de-mographics represent not only a large workforce comprising of net savers, but also a large pool of potential consumers and investors - potential driv-ers of economic growth. India has a relatively high-er proportion of a youthful population than the developed economies such as Korea, Japan and Eu-rope. Experts estimate the size of India’s workforce population will swell from 77.5 crore in 2008 to 95 crore in 2026. Additionally, by 2020, the average Indian will be only 29 years old, compared to 37 years in China and US; 45 years in West Europe; and 48 years in Japan. In effect, in eight years, workers elsewhere would have crossed the prime

of their working lives, inching towards retirement with claims on a working and youthful shrinking population — a demographic handicap65.While a number of articles and papers have at-tributed the spurt of growth in the Indian econ-omy over the past 2 decades to these population statistics, such an observation would be incom-plete. The growth that the country has seen since 1991 is largely due to fundamental factors such as easier access to capital – both foreign and do-mestic, easier access to global markets, the growth of the IT industry, the low cost of labour and a decongestion of the regulatory regime. These fac-tors along with the growth in the global economy during the same period have been a major source of economic development. However, as India ap-proaches a greater level of industrialization, the potential benefits of this demographic dividend become more obvious. The Indian middle class, target consumers for many companies, is expected to swell up to 267 million people in the next five years, up 67 per cent from the current levels, thus providing a great mar-ket opportunity for firms, according to NCAER (2011). Further, by 2025-26 the number of mid-dle class households in India is likely to more than double from the 2015-16 levels to 113.8 million households or 547 million individuals. Interest-ingly, as per NCAER findings, the middle class that represents only 13.1 per cent of India’s popu-lation currently owns 49 per cent of total number of cars in India, 21 per cent of TVs, 53.2 per cent of computers, 52.9 per cent of ACs, 37.8 per cent of microwaves and 45.7 per cent of credit cards66.

Demand Side: India’s Demographics & Income Distribution

36

67 ‘Bird of Gold’: The Rise of India’s Consumer Market by the Mckinsey Global Institute – May 2007

68 http://timesofindia.indiatimes.com/india/Indias-income-inequality-has-doubled-in-20-years/articleshow/11012855.cms

69 India’s demographic dividend by Kaushik Basu, formerAdvisor to GOI on Economic Affairs, for the BBC

http://news.bbc.co.uk/2/hi/6911544.stm

70 Indians are wise savers but poor investors: Survey by Rajesh Kaushik 11th February 2008

71 http://www.economist.com/node/13400380

An extremely wealthy upper echelon of society has already contributed to a boom in the luxury housing market, a spurt of high-end designer malls across tier 1 & 2 cities and a number of luxury brands in various retail businesses enter-ing the country. Private consumption has already played a much larger role in India’s growth than it has in that of other developing countries. In 2005 private spending reached about 17 trillion Indian rupees1 ($372 billion), accounting for more than 60 per cent of India’s GDP, so in this respect the country is closer to developed economies such as Japan and the United States, than are China and other fast-growing emerging markets in Asia67.

Income Distribution

Income distribution in India has traditionally been skewed towards the hands of a few while the masses remain fairly deprived of the fruits of economic growth. Since the liberalization of the economy, the country has seen tremendous growth spurts. However, this has not resulted in a better standard of living for most. India has become more unequal over the last two decades. India’s Gini coefficient, the official measure of income inequality, has gone up (worsened) from 0.32 to 0.38. In the early 1990s, income inequal-ity in India was close to that of developed coun-tries; however, its performance on inequality has diverged greatly since then68. However, this does not mean that there is a little scope for redistribu-tion or a more equitable distribution of income towards those at the bottom of the pyramid.It is perhaps in the very DNA of Indians to save for the future, whether it is to buy a home or for their children’s marriage. Fiscal responsibility and the avoidance of credit is something that most people seem to practice. India’s savings rate as a percentage of GDP has been rising since 2003 and now stands at 33 per cent69. However, a clos-

er examination of these savings provides insight into how they are being used and if the economy is in fact benefitting from them. A survey by the NCAER reveals that most Indians prefer keeping 65 per cent of their savings in liquid assets like bank or post office deposits and cash at home, while investing 23 per cent in physical invest-ments like real estate and gold and only 12 per cent in financial instruments. For getting secure returns on their earnings, 51 per cent of Indians put their savings in the banks while 36 per cent of households still prefer to keep cash at home. The investment in post offices and other guaran-teed return schemes and plans gets minor part of total savings. Only 5 per cent of families put their money in post offices, while 2 per cent buy insurance policies and 0.5 per cent invests in eq-uities70.It is evident that an almost negligible portion of household savings (which stood at Rs 9.85 trillion (US$192bn) in 2006/07)71 are being ploughed into capital markets and presumably an even lower amount is being used for the generation of new capital formation which is the backbone of the enterprise financing. Indian investors are, however, extremely tax sensitive, and tax based incentives are huge drivers for investment in the country as we have seen from the large subscrip-tions received by bonds issued by companies such as Rural Electrification Corporation Ltd or REC ltd, which are tax deductible.The government however, has recognized this and wants to make investing in public markets more widespread amongst the population. In a recent effort to do so, the government has launched the Rajiv Gandhi Equity Savings Scheme (RGESS) that was talked about in the earlier section of the report on mutual funds. Rajiv Gandhi Equity Savings Scheme or RGESS is a new equity tax advantage savings scheme for equity investors in India, with the stated objective of “encouraging

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72 Mutual Fund houses refuse to launch SEBI’s Rs 20,000 cash pay option by Shailesh Menon, ET Bureau – Nov 2012

73 Finance ministry panel proposes move to deepen stock, corporate bond markets by Vikas Dhoot & Dheeraj Tiwari, ET Bureau Aug 17, 2012 – for the Economic Times

the savings of the small investors in the domestic capital markets. However, the scheme has flaws as it leaves some important questions unanswered; for example, little explanation is given as to the management style of the fund. The scheme allows investors to withdraw after 280 days but incentiv-izes them to re-invest within a certain period – this is a rather difficult point to address as incen-tives towards such an investment are also skewed towards the fund’s performance, few investors would be willing to invest in a loss making equity fund or reinvest their savings in to it.SEBI has also tried to introduce a scheme that al-lows individuals to invest up to Rs. 2,000 in cash in mutual funds. This has obvious limitations and has come under harsh criticism from AMCs as they feel it would be difficult to verify the veracity of an investor’s claim on any folio without proper identification and linking of bank accounts as they are mandated to do. AMCs do not see huge investment inflows through this route. Cost in-volved in handling cash investments and account-ing complexities are other deterrents. Besides, fear of frauds, money laundering and meddling by tax officials and economic intelligence agencies are holding back fund houses from going ahead with the scheme72.Rather than trying to mobilize equity investment from fresh tax incentive schemes, it is better for the government to instead allow public funds such as the Employees Provident Fund (EPF), Public Provident Fund (PPF), army provident fund etc. and religious institutions (which tend to be extremely cash rich) to invest a small por-tion of their capital in to SEBI registered mutual funds. Investors are already very comfortable with such tax incentive schemes of the govern-ment and these have an existing infrastructure on part of the government that will need very little adjustment to apportion a small part of its

capital towards equity markets. In August 2012, the Ministry of Finance (MoF) has tried to in-stitute some of these changes but was met with staunch resistance from the Employees Provident Fund Organisation (EPFO), the main regulator of provident funds in the country. The EFPO is against any equity investment; the stock mar-ket option has been redundant for thousands of company-run PF trusts that are regulated by the EPFO and have to follow its investment norms73. While there may be merit to the concerns the EPFO may have, it would be to MoF’s credit to try and allay its concerns or provide regulatory mechanisms to ensure that the scheme is not mis-used. A shortlist of SEBI registered Mutual Funds (by both public and private AMCs) that passively manage their corpus to track the broader markets could be an excellent way to channel a small por-tion of monies held with such funds to find their way into equity markets.

38

Scope of Investor Education & Awareness Initiatives by Market Participants

We have already in the course of this report de-scribed the various educational initiatives and in-stitutes managed by Securities Exchange Board of India, The National Stock Exchange, The Bom-bay Stock Exchange and The Multi Commodi-ties – Stock Exchange (MCX – SX). We will in this section touch upon the various programmes being run by them with a short overview in order to discuss how the impact of these programmes could be magnified and mainstreamed into the education system.The National Institute of Securities Markets (NISM) was established by SEBI in Mumbai in order to impart a high quality of financial educa-tion both to financial professionals and investors through various programmes and courses. Apart from offering a number of professional and skill based courses that would appeal to practitioners and aspiring professionals, NISM is currently run-ning an initiative called ‘Pocket Money - Financial Education in Schools’ that is aimed at educating school-going children about the basics of finance like budgeting, basics of banking and credit. The course is taught over eight sessions (of 90 minutes each) and has already been imparted to 5,783 stu-dents from 256 schools in the country. SEBI is also involved in the Meljol programme which was initiated in 1991, as a field action pro-ject of the Department of Family and Child Wel-fare, and Tata Institute of Social Sciences (TISS). MelJol is registered under the Societies Registra-tion Act (1860) and Bombay Public Trust Act (1950). Currently MelJol works in urban as well as rural areas. Apart from Mumbai, MelJol works across 4,323 schools across India directly impact-ing nearly 5, 00,000 children74. The aim of the programme is to teach school going children the

value of saving and building resources.

BSE Training Institute (BTI)

The Bombay Stock Exchange Training Institute is the main body through which the BSE imparts investor education to the public. The institute provides courses for both professionals and stu-dents, while some are short term courses such as ‘the art of reading an annual report’ (for profes-sionals – there are over 30 such courses) along with long term international courses such as the ‘international programme on securities market operations’ and other long distance education courses such as Post Graduate Diploma in Stock Markets. A recent tie-up between the BSE Train-ing Institute and the Indira Gandhi National Open University is an interesting initiative to make professional courses available in capital markets to aspirants who do not have access to the traditional university system.

The MCX – SX Knowledge Centre

The MCX – SX is India’s newest stock exchange. While the exchange itself is still in a very nascent stage and its programmes are yet to be rolled out, from conversations with its executives, it was found that they had a profound understanding of the causes that lead to repeated and prolonged participation by retail investors into capital mar-kets. The exchange has partnered with the Indira Gandhi National Open University (IGNOU), to provide MBA (Master of Business Administra-tion) courses for executives and members. The

74 http://meljol.net/india/index.php?option=com_content&view=article&id=2&Itemid=2

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75 A list of these can be found on its website (http://www.nseindia.com/education/content/module_nccmp.htm

MCX – SX has also entered into a partnership with the New York Institute of Finance (NYIF) to provide e-learning courses in order to increase investor education and awareness. The exchange is also in the process of entering into partnerships with other institutions of higher learning but at present is not conducting any programmes for school-going children as per the data available on its website.

S. No.

Name of the Market Participant

Name of Institute

Courses for School students

Courses for college students

1. SEBI NISM – National Institute of Securities Market

Yes Yes

2. NSE NCFM – NSE Certification in Financial Markets

No Yes

3. BSE BSE Training Institute

No Yes

4. MCX - SX MCX Knowledge Centre

No Yes

It is clear that while the regulatory regime is try-ing to push for educating the youth at an early stage through programmes such as the Pocket Money programme and Meljol, these efforts are still at an extremely early stage. While there are numerous challenges on the ground, such as cul-tural and lingual restrictions, one of the best fore-seeable solutions to impart fiscal awareness and responsibility amongst the youth is indoctrina-tion of these ideas from an early stage in partner-ship with nodal institutions such as the Central Board of Secondary Education. For younger students – up to class six, it would be advisable to teach such lessons through stories in language classes rather than as a subject itself (stories could cover aspects of budgeting and fi-nancial planning). For classes ranging from seven to ten, it is best to teach students about various

specifics of finance such as bank accounts, PAN card, shares and fixed deposits through classes in economics. It is better of course that these are taught as separate courses but the integration of these lessons would be highly dependent on the current scope of the syllabus and availability of time in the academic year. A suggestion is not made to educate students in classes eleven and twelve, simply because a basic level of financial awareness and education is sufficient at this stage.The regulatory bodies could also cover more detailed aspects of finance and financial instru-ments at institutions of higher learning across the country, particularly for students of math-ematics, economics and commerce as they have a high likelihood of entering capital markets. For instance NSE’s Certification in Financial Markets partners with reputed institutions of higher learn-ing, in order to impart knowledge and awareness of financial markets75. Particular emphasis should also be placed on the structure and operations of capital markets as most courses tend to omit this important operational process leaving many as-pirants unclear till they actually enter the field.

Role of the Media in Investor Education & Awareness

The media has an extremely important role to play in the context of investor awareness and education. As the prime medium through which investors obtain information about the financial markets, it is important for news channels to not only provide accurate and unbiased informa-tion on companies and market participants but equally to behave as watchdogs/whistle-blowers on behalf of investors. News channels have ac-cess to a great degree of information and should be incentivized to inform investors about the various risks and advantages of different invest-ment schemes and products that are available in the market. Programmes such as Fightback4 UR RIGHTS on Bloomberg TV have been a good medium through which investors may be warned about various frauds and hidden charges that other investors have been a victim of. NDTV’s

40

Let’s Talk Money has one simple goal: Financial Literacy and Right Advice76, and has generated substantial interest amongst its viewership.While in India not everybody has access to a tel-evision; radio and newsprint are extremely wide-spread forms of information dissemination. Radio and newspapers are extremely effective mediums to spread investor awareness and provide infor-mation on subjects ranging from bank account opening and PAN Card creation to the benefits and drawbacks of various investment plans. The regulator is also aware of this and is in the process of inviting an expression of interest (EoI)77.Finally, it is important to note that media houses face external pressures to block articles and re-ports that may be scathing or negative about par-ticular industries or companies. It would there-fore be a worthwhile exercise for the regulator to advertise in print media and promote editorials that are uninfluenced by industry pressure and in line with best practices. Perhaps as the planned media campaign by SEBI rolls out, this will be a natural consequence.

The Financial Stability and Development Council

The Financial Stability and Development Coun-cil (FSDC)has been instituted as an apex body to provide a platform for coordination between the various market regulators such as the RBI, SEBI, IRDA (Insurance Regulatory and Development Authority), PFRDA (Pension Fund Regulatory and Development Authority), MoF, MCA etc. The FSDC is headed by the Finance Minister of the Government of India and so there was a great fear amongst regulators that with the inception of such a body, they would lose their independ-ence to the Ministry of Finance, however there have been attempts to write in to the constitu-tion of the FSDC, systemic measures that ensure this does not take place. The FSDC will only look

at broader areas of functioning and not get in-volved in granular details of disputes. One of its primary missions is to promote financial literacy and inclusion at all levels of society within the country. It envisages setting up a National Insti-tute for Financial Education (NIFE) and recom-mends several channels to educate investors and reach a large audience, including students and adults78. The FSDC is also focused on growing of the corporate debt market, so that Indian indus-try would have a diverse range of options before it to meet its long term financing needs.

International Cooperation by SEBI

In the context of financial markets and integration of global capital flows, it is becoming increasingly important that there be some sort of international regulatory framework whereby regulators come together and find common ground. The Inter-national Organisation of Securities Commissions (IOSCO) is the principal agency responsible for doing so and in 2003 SEBI became a signatory to its multi-lateral memorandum of understand-ing (MoU). SEBI also cooperates with organiza-tions such as the Organisation for Economic Co-operation and Development (OECD) to provide a framework for corporate governance which is in line with global standards. The OECD has is-sued six ‘Principles of Corporate Governance’, which have become a benchmark for policymak-ers, investors, corporations and other stakehold-ers worldwide79. SEBI is trying to model its own efforts on the basis of these principles and build a framework accordingly. In 2012, SEBI held an international conference of Investor Education with the OECD where issues such as the role of media, integration of financial education into the national education framework and the use of new technologies in the field of investor education were part of the agenda.

76 http://www.oecd.org/finance/financialeducation/49648693.pdf

77 http://www.indianexpress.com/news/sebi-to-hire-agency-to-educate-investors/916893

78 http://articles.economictimes.indiatimes.com/2012-08-13/news/33182849_1_financial-literacy-fsdc-financial-education

79 http://articles.economictimes.indiatimes.com/2012-05-25/news/31852196_1_corporate-governance-organisation-for-econom-ic-co-operation-related-party-transactions

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Over time, SEBI’s mandate seems to have evolved from focusing purely on the structure and regu-lation of Indian capital markets and its various participants to the protection of investors in any type of collective schemes (for e.g. SEBI vs. the Sahara Group). This is probably the evolutionary process and one that should be encouraged. The most everlasting measure of a regulator’s value is its independence from external interference and devotion to the protection of basic principles. In this regard, SEBI has been extremely effective and despite the large number of challenges faced by it, it has been transparent. There are, however, some interventions which are of paramount im-portance given the important objective of grow-ing participation of the masses within the capital markets. One of them relates to the adoption of a more proactive approach in the area of investiga-tive powers and surveillance system as opposed to the present more reactive approach. A thought echoed in this direction is to create an early warn-ing system that would help stave off cases of large

scale financial mismanagement and misappropri-ation of investor funds. The Indian approach has always been a cautious one when it comes to opening markets to new financial products and derivatives and perhaps this has played an important role in keeping the sector relatively immune to global volatilities. For example, while there are plans to introduce rupee denominated trading instruments for foreign in-dices such as the FTSE 100 on the NSE, it may have in fact saved Indian investors much cash burn because they could not access these instru-ments in globally tumultuous times. While there are many plans in the pipeline to introduce de-rivatives based on a Volatility Index, these are yet to materialize and perhaps unsuitable for small investors who do not understand their utility. In India, the entry barriers for retail investors have been kept somewhat high, with each derivative contract trading between two to three lakhs of rupees depending on the price of the underlying securities.

Conclusions & Recommendations

42

80 http://thefirm.moneycontrol.com/story_page.php?autono=592602

81 http://www.thehindubusinessline.com/features/investment-world/market-watch/article3563037.ece

Over the Counter (OTC) Derivatives

The introduction of exotic derivative products may add large multiples to markets by way of turnover but contribute little to the economy in terms of new capital formation. SEBI in September 2011 came down heavily on OTC products – particu-larly on OTC issued structured notes that were be-ing offered by brokerages and wealth management companies to their clients. Structured products are debt instruments with embedded options. They are often referred to as hybrid instruments because while they are essentially debt, the returns may be linked to an equity index such as the Nifty, or a basket of shares (e.g., 5 technology stocks), gold or other commodities and potentially even longevity or weather conditions80. The regulator has insti-tuted various norms including capital adequacy of the issuer and minimum subscription size of each contract. While SEBI has asked that an independ-ent credit rating agency be appointed to disclose weekly valuations of each product, this is felt to be woefully incomplete. We have seen global exam-ples of conflicts of interest between independent ratings agencies and their clients. Product’s valu-ation is usually skewed in favour of the client. It is therefore suggested that a transparent formula be communicated that is easy to understand for both the agents selling the product and the inves-tors alike. In doing so, the valuation of such assets can be understood by all stakeholders. Such OTC products need to be extremely well-regulated and transparent as they carry with them a large amount of counter party risk that is not fully understood by all investors.

How much is enough when it comes to Financial Innovation?

Financial innovation can be segmented into two types, good innovation and bad innovation. The type of financial innovation that leads to new capital formation for projects that help with the growth of the economy and employment gen-eration must be encouraged. For example, SEBI

has recently approved the Alternative Investment Fund guidelines which help shore up regulation and transparency for alternative investments such as Venture Capital Funds, private equity, real es-tate funds and hedge funds. Such alternative in-vestment funds tend to invest in new, high risk businesses and provide the kind of growth and risk capital required to grow these businesses. However, innovation that provides only trading volume is beneficial only from the point of view of increasing the depth and liquidity of financial markets. So it is important to promote innova-tion that brings volumes to the market without increasing the systemic risk in the country.If the global financial crisis has taught market participants and regulators anything, it is that derivatives should be well regulated and easy to understand. In India, this is the case thus far. Indian OTC derivatives markets are well regu-lated. Only those contracts wherein one party to the contract is an RBI regulated entity are con-sidered legally valid in India. A good reporting system and a post-trade clearing and settlement system through a centralized counter party, have ensured good surveillance of the systemic risks in the Indian OTC market81. It is equally important to make a distinction between those derivatives that should be used for purely hedging purpos-es and those that should be open to speculative trading. The focus of SEBI therefore, should be to sustain this structural integrity in Indian capi-tal markets and examine financial products in terms of transparency and value to the economy. It is equally important that market participants and intermediaries who liaison with investors be well-informed about the pros and cons of differ-ent strategies and its suitability. The certification regime in this context should be strong and regu-larly updated.

Plain Vanilla Equity Funds

Given the low penetration of capital markets and the concomitant need to scale-up investments by retail participants, retail investment schemes on

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82 Corporate disclosure and financial statements: a brief history by Ramesh Ramanathan for Live Mint and the Wall street Jour-nal on 23rd September 2009

offer in rural and semi-urban areas in particular should be limited to passively managed mutual funds that track benchmark indices with mini-mum costs and risks. A simple way to increase depth in the market is to allow Provident Funds to invest a small amount into selected mutual funds and top 100 listed securities. In order to cultivate investing in a more diverse set of financial instru-ments, it is important that regulators choose the right intermediaries as much as the right type of funds for investors. Therefore, it would be advis-able that certain institutions such as Post Offices which enjoy a high degree of customer loyalty and trust in matters of finance and savings be empow-ered and incentivized to distribute these products. While this is being done at some levels (as dis-cussed in the section ‘Role of SEBI in Developing Key Segments’), more efforts are clearly needed in this area in the near future.

Financial Disclosure in the Context of Investor Protection

Investor protection, however, is not limited to the means of redressal that are provided to retail par-ticipants in the market. It is equally relevant in the context of how the listed companies that these in-vestments flow into are audited and managed. The case of Enron in the United States of America had brought home the point to the world for the need for appropriate auditing measures of a company’s subsidiaries, the associated risks with these sub-sidiaries and the cross-holding structures between different subsidiaries. The disclosure norms in the country need to evaluate the future interventions required in this area in greater detail as it remains unclear how risks can potentially spill over from these subsidiaries into listed companies. Financial statements have also become difficult to compre-hend and the cross-holding structure between various companies is often opaque. This needs to be rectified at the earliest. It is important that key stakeholders including the regulator intervene to ensure that these financial statements become simpler and easier to understand. It is also recom-

mended that the structure of subsidiaries held by each company be made transparent to minority shareholders. In this context, quantitative trading funds and financial algorithms have an interesting role to play. If financial statements can be stand-ardized to match a format that is easily read and understood by trading algorithms then, perhaps the implication of even complex and lengthy fi-nancial statements could easily be understood and communicated.The creation of standardized financial statements is not a guaranteed ticket to proper market conduct; rather it provides a springboard from which stake-holders can hopefully identify early warning sig-nals about the true state of an institution.82 While it would be difficult to create a universally applica-ble template for financial disclosure, it is important to make these financial disclosures more uniform and simpler to understand.

The Role of Credit Rating Agencies & Independent Analysts

Till very recently, it was a globally accepted fact that independents securities analysts and credit rat-ing agencies act as market watchdogs and there-fore promote good corporate governance. In the aftermath of the global financial crisis in 2008, this fact has changed. The abject failure of credit rat-ing agencies to provide any indicative measure of the financial stability of some of the world’s largest banks, emphasized the fact that these institutions could not possibly risk offending those that they were mandated to monitor since they also depend-ed on them for their own income. It is therefore suggested that over and above the current system, in conjunction with the exchanges, a common capital pool be instituted to which contributions are mandated across every listed company thereby making payments to a host of credit rating agen-cies and independent analysts whose performance is reviewed on an annual basis by the regulator. Such a mandatory system will ensure that compa-nies cannot directly influence the reports that these agencies choose to publish. Whilst there would a

44

significant challenge involved in terms of integrat-ing the interests and objectives of various partici-pants, it would certainly be an improvement over the existing framework.

Accounting for Impact & Effectiveness

All market participants are currently running ini-tiatives geared towards investor awareness, educa-tion and protection; however, there is little or no measurement of the effectiveness or impact evalu-ation of these programmes. There is a strong need to conduct some form of impact evaluation which could lead to cohesive suggestions for the coordi-nation of various initiatives in order to maximize effects at the ground level. These could be areas for development agencies to intervene and make sug-gestions on how these efforts could be streamlined so that there is maximum impact in terms of num-ber of people affected and minimum duplication of efforts. This framework could also include sug-gestions for adoption of best practices from various participants and the use of technology to maximize scale of operations.

Coordinated Approach to Investor Education

There is also a need to come up with comprehen-sive guidelines and approaches to the issue of inves-

tor education, as it is often observed that a large number of entities participate in this field with little or no coordination. This could be an area for development agencies to intervene and make suggestions on streamlining these efforts could be streamlined and made altogether more coherent so that there is maximum impact in terms of number of people affected and minimum duplication of ef-forts. This framework can also include suggestions for adoption of best practices from various partici-pants and the use of technology to maximize scale of operations.

Content & Delivery of Investor Education

On the subject of educational content and method of training, one observes that in some cases the ex-isting material is difficult to understand for non-practitioners while in other cases it is very simple and basic. While some institutions have developed their own content, the same is not always easily accessible or user friendly. If educational content could be provided in an easy to understand, ef-fective manner with a relevant regional focus then perhaps it could be easily digested by a larger cross-section of the society. As a majority of India’s popu-lation is illiterate, education via audio/video would be more relevant rather than via the traditional medium of books. The London Metal Exchange, for example, has developed a series of educational videos on various financial products explaining

Contents | 45

83 A sample of such a video maybe found on the link - http://www.lme.com/futures_and_options_video.asp.

how they work, why they were created and how potential investors could use them83. The develop-ment of this type of educational content may be better left to independent organizations without existing lineages; thereby enabling them to focus on delivering content that is easy to understand.

Framework for the Selection of Third Parties and Resource Personnel

Currently there is no robust or standardized selec-tion process for resource personnel or minimum criteria of qualification to be met in order to be-come an empanelled resource person or gain access to funding for the purpose of financial education. There is a need to create a common skill based sys-tem whereby resource personnel may be screened and judged on the basis of their technical skills, educational background, appropriate qualification and work experience etc. Comprehensive selection criteria may be designed and implemented by de-velopment agencies. Additionally, as this system is largely a welfare based practice, there is no adequate incentive for practitioners to enter into the field. If an appropriate system of incentives could be put in place without compromising on the integrity of financial education, we may see a larger inter-est from private institutions. These agencies could also provide an accountability system whereby re-source personnel and affiliated bodies would lose their license if they do not follow a prescribed code of conduct. The above mechanism would not only improve the quality of education being delivered to people but could also provide a robust framework for making these providers accountable.

Investor Awareness to be More Scalable

Capital markets are essential for injecting funds into the real economy. There is a growing class of

Indian investors who are open to informed risks, but are completely unaware of the volatile nature of the equity markets. Therefore, it is important to build upon on-going efforts focused on increasing investor awareness. For example, one of the ideas currently under consideration is the adoption and production of an investor awareness programme which educates participants about sound financial practices in the guise of a soap opera. Similar con-cepts have been tried and tested in other parts of the world which include countries in Africa and South America with mixed results. This could however be an excellent way to educate a large audience in an effective and engaging manner, thereby leveraging the reach offered by television based mass media. Another important area would be to educate the youth of the country at various stages of their education to better inform them about financial best practices and prudent money management. Currently, these initiatives are still in a pilot project phase and need to be ramped up sub-stantially if we are to witness a palpable change within the country’s financial ecosystem. Over the course of the report we have seen that the key to promoting investor awareness and educa-tion is the communication of relevant informa-tion via an effective and scalable medium. It is important for key stakeholders to come together in promoting a universal approach that market participants find easy to decipher. Transparen-cy is not merely a prerequisite for efficient and good corporate governance but it also acts as a natural proponent of investor protection. When regulators examine the introduction of various financial schemes and products it would be rel-evant for them to do so within the context of the trinity of economic development, market depth and systemic risk. While Indian capital markets may have grown exponentially over the last two decades, when we examine the life cy-cle of the markets in the context of participation levels and the conversion of household savings to capital formation, it becomes evident that sig-nificant ground is still to be covered.

46

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24. Financial regulator considers ways to deepen corporate debt market by PTI - 10th November 2012

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25. New thinking on corporate bond market in India by Sanjay Banerji, Krishna Gangopadhyay, Ila Patnaik, Ajay Shah

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75. Bird of Gold’: The Rise of India’s Consumer Market by the Mckinsie Global Institute – May 2007

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78. Indians are wise savers but poor investors: Survey by Rajesh Kaushik 11th February 2008

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80. Mutual Fund houses refuse to launch SEBI’s Rs 20,000 cash pay option by Shailesh Menon,ET Bureau – Nov 2012

81. Finance ministry panel proposes move to deepen stock, corporate bond markets by Vikas Dhoot & Dheeraj Tiwari, ET Bureau Aug 17, 2012 – for the Economic Times

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50

Rules

ANNEXURE 1Investor Education & Protection Fund Act Section 205C (Establishment of Investor Education and Protection Fund)

(1) The Central Government shall establish a fund to be called the Investor Education and Protection Fund (hereafter in this section referred to as the “Fund”).

(2) There shall be credited to the Fund the following amounts, namely:-

(a) amounts in the unpaid dividend accounts of companies;

(b) the application moneys received by companies for allotment of any securities and due for refund;

(c) matured deposits with companies;

(d) matured debentures with companies;

(e) the interest accrued on the amounts referred to in clauses (a) to (d);

(f) grants and donations given to the Fund by the Central Government, State Governments, companies or any other institutions for the purposes of the Fund;and

(g) the interest or other income received out of the investments made from the Fund;

Provided that no such amounts referred to in clauses (a) to (d) shall form part of the Fund unless such amounts have remained unclaimed and unpaid for a period of seven years from the date they became due for payment. Explanation:- For the removal of doubts, it is hereby declared that no claims shall lie against the Fund or the company in respect of individual amounts which were unclaimed and unpaid for a period of seven years from the dates that they first became due for payment and no payment shall be made in respect of any such claims.

(3) The Fund shall be utilized for promotion of investors’ awareness and protection of the interests of investors in accordance with such rules as may be prescribed.

(4) The Central Government shall, by notification in the Official Gazette, specify an authority or committee, with such members as the Central Government may appoint, to administer the Fund, and maintain separate accounts and other relevant records in relation to the Fund in such form as may be prescribed in consultation with the Comptroller and Auditor-General of India.

(5) It shall be competent for the authority or Committee appointed under sub-section (4) to spend moneys out of the Fund for carrying out the objects for which the Fund has been established.

1. Commencement:

(1) These rules may be called the Investor Education and Protection Fund (awareness and protection of investors) Rules, 2001.

(2) They shall come into force on the date of their publication, in the Official Gazette.

2. Definitions:

In these rules, unless the context otherwise requires:-

a. ‘Act’ means the Companies Act, 1956;

b. ‘Fund’ means the Investor Education and Protection Fund (IEPF) established under sub-section (1) of 205C of the Act, 1956 (1 of 1956);

c. “Ministry” or “Department” means Ministry or Department of the Central Government dealing the Company Affairs;

d. ‘Committee’/’Sub Committee’ means the Committee specified by Central Government under sub-section (4) of section 205C of the Act to administer the Fund.

e. ‘Form’ means forms prescribed by these rules;

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Rules

f. Words and expressions used in these rules and not defined herein but defined in the Act shall have the meaning respectively assigned to them in the Act.

3. Credits to the Fund

(i) Any amount required to be credited by the companies to the Fund, as provided in the Act shall be remitted into the concerned specified branches of Punjab National Bank, within a period of thirty days of such amounts becoming due to be credited to the Fund and the amount so credited shall be accounted for as provided in Rule 4.

(ii)

a. The amount shall be tendered by the companies on behalf of the Central Government in such branches of Punjab National Bank along with Challan (in triplicate) and the Bank will return two copies duly stamped to the Company as token of having received the amount.

b. Every Company shall file with the concerned Registrar of Companies one copy of the Challan referred to in (a) evidencing deposit of the amount to the Fund.The Company shall fill in the full description and the nature of the amount tendered and its Head of Account.

c.

(i) Every Company shall, when effecting a credit to the account of the Fund, will separately furnish to the concerned Registrar of Companies a statement in Form duly certified by a Chartered Accountant or a Company Secretary or a Cost Accountant practicing in India or by the statutory auditors of the company.Provided that each Company shall keep a record relating to folio number, Certificate Number etc. in respect of persons to whom the amount of unpaid or unclaimed dividend, application money, matured deposit or debentures, interest accrued or payable, for a period of three years and the Committee or Sub-Committee shall have powers to inspect such records of that period.

(ii) On receipt of this statement, the concerned Registrar of Companies shall enter the details of such receipt in a register and reconcile the amount so remitted and collected, with the concerned Pay and Accounts Officer, on monthly basis.

(iii) Each Registrar of Companies shall furnish an abstract of such receipt received during the month to Department of Company Affairs within seven days from the close of the month.

(iv) Department of Company Affairs shall maintain a consolidated abstract of receipts and shall reconcile them on a quarterly basis with Principal Pay and Accounts Office of the Department of Company Affairs.

4. Manner of Accounting:

(i) (A) All amounts received shall be accounted for under the following Heads of account, which shall thereafter be transferred to the Fund.

MAJOR HEAD 0075 – Miscellaneous General Services.Major Head 104 – Unclaimed and Unpaid dividends, deposits and debentures etc. of Investors in companies:

(a) Unpaid dividend.(b) Unpaid application money received by Companies for allotment of securities and due for refund.(c) Unpaid Matured Deposit.(d)Unpaid Matured Debentures.(e)Interest accrued on (a) to (d).

(i) Interest on unpaid dividend.

(ii) Interest on unpaid application money received by Companies for allotment of securities and due for refund.

(iii) Interest on unpaid matured deposit.

(iv) Interest on unpaid matured debentures.

Note: (a) to (d) shall be sub-heads, (e) (i) to (iv) shall be detailed heads.

(i) (B) Grants and donations given to the Fund by the State Governments, Companies or any other Institutions will be credited under the Sub-Head under the Minor Head ‘800-Other Receipts below the Major Head ’0075- Miscellaneous General Services

(ii) All expenditure for the purposes of carrying out the objects for which the Fund has been established shall be incurred under the functional Head expenditure head of Department of Company Affairs and equivalent amount will be shown as deduct entry by transfer of amount from the Fund.

(iii) Surplus amount, if any, from the fund accounts shall not, for the present, be utilized for investment purpose.

52

Rules

5. Expenses of the Committee

(a) The official member of the committee or sub-committee shall be entitled to Traveling Allowance according to the rules regulating their official position.

(b) For Journeys performed by a non-official member of the Committee or Sub-Committee or a special invitee in connection with the work of the committee or a sub-committee shall be entitled for TA/DA as per supplementary Rules of Central Government.

(c) Committee shall have powers to recommend appointment /remuneration to any experts in such areas as may be considered necessary.

(d) Committee shall have powers to recommend appointment of Auditors and for scrutinizing the accounts of the voluntarily agencies registered with it.

6. Audit of Accounts:

The accounts of the Fund shall be audited by internal audit party of the Department of Company Affairs every year and will also be subject to audit by the office of Comptroller and Auditor General of India.

7. Constitution and Functions of the Committee:

(a) The Committee shall consist of ten members, excluding the Chairperson who is Secretary, to the Department of Company Affairs. The members shall be nominated by Reserve Bank of India, the Securities and Exchange Board of India and or from any other Ministry or Department of Central Government dealing with investor protection activities and experts from the field of investors’ education and protection. The non-official Members shall hold office for a period of two years. The Official members shall hold office for a period of two years or until they occupy their position which ever is earlier. The constitution of the Committee shall be notified in the Official Gazette.

(b) Functions of the Committee:

(I) The Committee shall recommend the following activities relating to investors’ education, awareness and protection:

(a) Education Programmes through Media;

(b) Organizing Seminars and Symposia;

(c) Proposals for registration of Voluntary Associations or Institution or other Organizations engaged in Investor Education and Protection activities;

(d) Proposals for projects for Investors’ Education and Protection including research activities and proposals for financing such projects;

(e) Coordinating with institutions engaged in Investor Education, awareness and protection activities;

(f) (i) The Committee may appoint one or more sub-Committees whenever it considers necessary to facilitate efficient and speedy discharge of its functions.

(ii) Sub-Committee shall be constituted from amongst the members.

(iii) The Chairperson of the Committee may nominate any one of the members of the Sub-Committee as its convenor and where no such nomination has been made, the members of the Sub-Committee elect a convenor amongst themselves.

(iv) The Committee may have Sub-Committee to examine the end use of grants and assistance and recommend release of funds.

8. Power to call upon a Company:

(i) The Committee shall have suo moto powers to call upon any company to pay the amount due to the Fund.

(ii) Committee shall call upon any company to give estimates of the amounts to be credited to the Fund in form 2.

9. Report by the Committee:

The Committee shall furnish its activity report for every six month’s period to the Central Government.

10. Meetings:

(i) One third of the total members subject to five members in the case of meeting of committee and three members in case of sub-committee meeting shall constitute a quorum.

(ii) The Chairperson of the Committee and the convenor of a Sub-Committee, respectively, shall preside over the meetings of the Committee or the Sub-Committee as the case may be. In the event of the Chairperson or, as the case may be, the convenor being unable to attend the meeting for any reason, the members present may elect one amongst themselves to preside over the meeting.

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Rules

(iii) The Chairperson of the Committee or the convenor of a sub-Committee may, call meeting of the Committee or a Sub-Committee:

Provided that the Chairperson or the Convenor, as the case may be, shall also call a meeting if a requisition for that purpose is presented to him by at least five members in the case of the Committee and three members in the case of a Sub-Committee.

(iv) At least fourteen clear days’ notice indicating the time and place of the meeting shall be sent to the members of the Committee or the Sub-committee as the case may be:

Provided that in case of urgency, a special meeting of the Committee or Sub-Committee may be called at any time by the Chairperson or the convenor, who shall inform the members at least three clear days in advance of the subject matter for consideration at the meeting and the reasons for which he considers the meeting urgent;

Provided further that no other business shall be transacted at such a meeting.

(v) The Chairman or the convenor, as the case may be, may invite any person to attend any meeting of the Committee or Sub-Committee as a special invitee but such person shall not be entitled to vote.

11. Agenda:

(i) At least seven clear days before any meeting of the Committee or a Sub-Committee, except meeting referred to in provisio to sub-rule (iv) to rule 10, a list of business proposed to be transacted at the meeting shall be sent to the members of the Committee or of a Sub-Committee, as the case may be.

(ii) No business, not included in the list of business, shall be transacted at a meeting without the permission of the Chairperson presiding over the meeting.

12. Voting:

(i) Every question brought before any meeting of the Committee or Sub-Committee, as the case may be, shall be decided by a majority vote of members present and voting at the meeting. No member shall vote by proxy.

(ii) In the event of equality of votes, at a meeting, the Chairperson or the convenor, as the case may be or in his absence, the person presiding, shall have a second or casting vote.

13. Minutes:

The minutes of the meeting of the Committee or Sub-committee shall be caused to be recorded and circulated among the members.

14. Conditions for Utilization of Funds by the Committee:

(i) The Committee may register from time to time various Associations or institutions or organizations, engaged in activities relating to investor awareness, education and protection and proposing for Investors programmes; organizing seminar, symposia and undertake projects for Investor Protection including research activities.

(ii) Application for registration by such organisations referred to in sub-rule (i) be made in Form-3.

(iii) Application for release of funds for the activities listed in Rule 7(1) from the organizations or Institutes registered with the Department of Company Affairs shall be made in Form 4.

(iv) A copy of the summary or recommendations of the seminar or programme conducted and copy of Accounts for such activity by such organisation e.g., registered associations or chambers of commerce or institutes shall be provided to the Committee within ten days of the conclusion of the seminar or programme.

(v) The organization or Associations registered shall be considered for grant of funds as a grant-in-aid either as one time measure or in stages or by way of reimbursement depending upon the nature of the activity proposed.

(vi) The Committee shall be entitled to examine the end use of grants and assistance before recommending release of funds.

(vii) The Committee shall cause to draw at the end of each Financial Year, a statement of Total Receipts from various sources indicated in section 205C of the Companies Act, 1956 and the grants disbursed or the expenditure incurred in connection with the activities organized by the Committee or Sub-Committee and other expenditure incurred for holding the meetings.

(viii) The Committee shall maintain the necessary records showing amount disbursed, date of disbursal, the name of Organisation or Voluntary agency, the activities of the agency for which such disbursal was made.

Source: http://www.iepf.gov.in/

54

ANNEXURE 2Regional Stock Exchanges

As in several other fields, technology drives today the stock markets the world over. India is no excep-tion. Establishment of National Stock Exchange ofIndia Ltd., (NSE) in 1994 with an all-India spread and expansion of operations of Bombay Stock Exchange (BSE) throughout the country, both of which have their trader work stations at over 400 centres in the country today, haveled to the virtual extinction of all the 19 Regional Stock Exchanges (RSEs) spread across the length and breadth of the country.The share of 19 RSEs, which was as much as 45.6 per cent of the total all-India turnover of Rs. 2.39 lakh crore in 1995-96, declined progressively year after year and in 2001-02, it was just 8.4 per cent of the total volume of Rs. 8.96 lakh crore. At pre-sent, there is virtually no trading at any of the RSEs. Trading in the cash segment is thus confined to NSE and BSE only, with the share of the lat-ter, which used to account for over 70 percent of the all-India volume of trading till 1995, is also progressively declining. Currently, BSE accounts for about 30 per cent of the aggregate volume of trading on NSE and BSE in the cash segment. In the derivatives segment, while NSE clocks in about Rs. 2000 crore daily, the turnover on BSE has been progressively declining virtually to the zero level. The RSEs of the country and their members had spent over Rs. 200 crore in automating their trad-ing, clearing and settlement systems, largely driven by regulatory compulsions, sadly to witness them lying idle at present.

Causes for the Decline

Abolition of badla with effect from July 2, 2001, which acted as the backbone of trading at the Calcutta, Delhi, Ahmedabad and Ludhiana Stock Exchanges and also at a few other exchanges, which conducted badla trading but in a clandes-tine manner, dealt a serious blow to trading at the RSEs. Introduction of uniform trading cycles at

all the stock exchange, also effective from July 2,2001, reduced further the volume of trading at the RSEs due to diminished opportunities for ar-bitrage transactions. Introduction of compulsory rolling settlements, initially in a few securities and subsequently in all securities effective from De-cember 31, 2001 on a T+5 basis accelerated the reduction in turnover at the RSEs.The switch over of the rolling settlement to T+3 effective from April 1, 2002 and to T+2 with effect from April 1, 2003 sealed the fate of the RSEs.Yet another major reason for the absence of trad-ing at the RSEs is that all the major operators are all these exchanges acquired memberships of ei-ther NSE or BSE or of both, while most othersacquired the sub-brokerships of members of NSE/BSE and all of them switched over their op-erations completely to NSE and BSE.In spite of the fact that trading at the RSEs has ground to a halt, RSEs have managed to survive so far because of the annual listing fees that are being received from the listed companies. The cir-culars issued by the Ministry of Finance on April 23, 2003 withdrawing its earlier circulars which required all companies including existing listed companies, to be listed on the stock exchanges located in the State where the registered office or the main works/fixed assets of the company are situated, has driven the last nail into the coffin of RSEs as companies have started lining up one after the other to get themselves delisted from the RSEs. With the incomes drying up almost com-pletely, RSEs will soon wear a totally deserted look with no activity whatever.

Inter-connected Stock Exchange of India Ltd.

It was the dwindling fortunes of RSEs that brought them together to establish the Inter-connected Stock Exchange of India Ltd. (ISE). At

Contents | 55

a meeting of the Federation of Indian Stock Ex-changes held in October 1996, a Steering Com-mittee was formed to evolve an Inter-Connect-ed Market System. As a result, ISE, which was promoted by 14 regional stock exchanges of the country (excluding Calcutta, Delhi, Ahmedabad, Ludhiana and Pune Stock Exchanges, apart from NSE, BSE and OTCEI) was incorporated on ISE by SEBI under the Securities Contracts (Regu-lations) Act, 1956 on November 18, 1998, ISE commenced trading on February 26, 1999.ISE was launched with the laudable objective of converting small, fragmented and illiquid mar-kets into a large, efficient and liquid national-lev-el markets. This was a unique experiment, with a highly automated trading, clearing and settle-ment systems backed by state-of-the-art comput-ers, virtually first of its kind in the world. ISE is also a professionally managed stock exchange with the Chairman of the Exchange being also a Public Representative Director right from its in-ception.Unfortunately for the RSEs, particularly small brokers, the ISE experiment did not succeed. The daily turnover, which used to be Rs. 1 to 2 crore in the first six months, gradually declined to virtually zero level. Failure of ISE is, to a large extent, due to the bigger brokers of the participat-ing RSEs failing to evince any interest in trading on ISE due to commercial considerations. As a result, it become virtually impossible for ISE to create any worthwhile liquidity in its markets in competition with the breadth and depth of NSE and BSE. Markers continued to be fragmented as the participating RSEs did not close down their regional segments. The, while the small fragment-ed and illiquid market failed to emerge.ISE has also not succeeded in getting companies listed on it despite the stipulation by SEBI that the State of Maharashtra constituted the regional area for ISE due to lack of regulatory support for making it applicable to over 3,000 already listed companies in the State of Maharashtra. consti-tuted the regional area for ISE due to lack of reg-ulatory support for making it applicable to over 3,000 already listed companies in the State of Maharashtra. Revival of Small Stock Exchanges With a view to reviving small stock exchanges, SEBI permitted these exchanges in 1999 to float subsidiary companies to acquire membership

rights of other exchanges to provide the members of these exchanges access to the wider market for improving the trading volume. Pursuant to this, almost all the RSEs, including Delhi Stock Ex-change, floated subsidiaries and acquired mem-bership rights of both NSE and BSE.Although the subsidiaries of RSEs have been functioning fairly satisfactorily, the volume of turnover by almost all of them are not upto the expected levels, varying from about Rs. 10 crore to about Rs. 60 crore a day. These subsidiaries have by and large not been able to register any significant volume of trading in the derivative in-struments, although the volume of trading in the derivatives segment of NSE is generally higher than in the cash segment. The regulatory insist-ence of maintenance of base minimum capital at the RSEs despite zero volume of trading amount-ing to over Rs. 300 crore has hindered the growth of subsidiaries. As a result, several of these sub-sidiaries have not been able to be financially vi-able. Subsidiaries of RSEs, strictly speaking, are members of stock exchanges to reconstitute thegoverning boards of the subsidiaries to provide for at least 50 percent of the Directors to be Pub-lic Representatives to be appointed with the ap-proval of SEBI, the Chief Executive Officer of the subsidiary or be a Director on the Board of the subsidiary, etc., almost on the lines of constitu-tion of a stock exchange. These additional regu-latory burdens cast on the subsidiaries-oriented, privately-run stock-broking house.While subsidiaries of RSEs have no doubt pro-vided an avenue to the members of RSEs to sur-vive for the present, there is a lurking fear of even this avenue grinding to a halt as it is likely that the subsidiaries may not be allowed to continue to function, if they incur losses, as quite a few of them do. Moreover, recognition of the RSEs may not be renewed due to absence of any trading and consequently the subsidiary route presently available for members of RSEs to trade on NSE and BSE would also automatically close down. Should these apprehensions result into realities, the country will soon be faced with the spectre of most of the members of RSEs being forced to ei-ther close down their operations completely or to relegate themselves to working as sub-brokers of major brokers as they will not be able to acquire the memberships of NSE/BSE directly. NSE re-

56

quires the Dominant Promoter Group of anapplicant corporate entity to consist of not more than four individuals holding at least 51 percent of the paid-up equity capital of the company. Efforts made by SEBI for revival of small stock exchanges through the route of subsidiaries will willy nilly grind to a halt. This is no longer so in respect of small stock exchanges only but also in respect of bigger stock exchanges like Calcutta Stock Exchanges, whose turnover in 1995-96 had actually exceeded that of BSE, and Delhi Stock Exchange.

Growing Illiquidity in Listed Stocks

The real issue of concern is not so much as the fate of RSEs and their members but of the grow-ing illiquidity in listed stocks on the Indian stock exchanges. Top 10 scrips account for over 75 percent of the trading volume while the top 100 scrips account for about 99 percent of the trad-ing volume. Out of about 10,000 scrips of about 5,350 companies listed on the BSE, not more than 2,500 scrips were traded in 1999-00, while the number of scrips traded during 2000-01 and 2001-02 came down further to about 1,800 and 1,600 respectively. In the year 2002, the number of scrips traded for more than 100 days was just 691, while about 1,900 scrips were not traded even on a single day. Even in respect of the 691 scrips worth Rs. five lakh a day, is applied, the yearstick of say, five trades a day or trades worth Rs. five lakh a day, is applied, the number will come down drastically to just about 100. Even at the NSE, which has been permitting trading in big cap and mid cap companies only, in 2001-02, out of about 1,000 scrips, the number of scripslisted only on the RSEs and there is virtually no trading whatever at present in all these scrips. A host of factors like low capital base of listed com-panies, (there are about 2,000 listed companies with a paid-up capital of Rs.3 crore and below), progressive reduction in public offer from 60 percent of the issued capital to 25/10 percent for eligibility for listing, switch-over to proportion-ate allotment of securities, free pricing of shares, introduction of book-building in respect of IPOs, introduction of order-driven system and of roll-ing settlement etc., have all cumulatively been re-

sponsible for the present state of illiquidity in the Indian stock markets.

Indonext Exchanges is the Solution

With all the RSEs having already virtually ground to a halt and with the growing illiquidity at the NSE-BSE in respect of a vast number of shares, it is imperative that a solution needs to be evolved in the larger interest of millions of investors of the country.A feasible solution can be to create one single trading platform for all the RSEs, shutting down completely their local trading platforms, on the lines of Euronex of Europe. Threatened by the growing concentration of business on London Stock Exchange and Deutsche Bourse, the Paris Bourse, Amsterdam Exchange and Brussels Ex-change established in 1999 Euronext by creating a single Euronext cash market for equities and bonds, a single Euronext derivatives market and a single Euronext commodity market with a single set of trading rules. While trading takes place in a multi-jurisdictional setting, clearing of transac-tions takes place under a single jurisdiction in France.It is important to note that while the three Ex-change organizations have merged, there is no merger of their officialexchange status. There are three subsidiary companies of the holding com-pany in the three member countries, with each of them holding an exchange licence for the local capital market. This enables companies to choose their entry point for listing and consequently, their preferred jurisdiction, either France, or Bel-gium or the Netherlands. Euronext is a growing organization. Lisbon Stock Exchange of Portugal has recently joined Euronext. The monthly turn-over on Euronext at present is about $150 billion, much higher than that of about $90 billion on Deutsche Bourse and about 60 percent of about $250 billion on the London Stock Exchange. In-donext Exchange can be ISE or OTCEI or any one of the RSEs that may be chosen by the Par-ticipating Stock Exchanges (PSEs). Indonext Ex-change can become a success if all eligible mem-bers of PSEs are freely permitted to become its trading members with the SEBI stock broker reg-istration on Indonext Exchange being automatic

Contents | 57

and membership of PSEs being taken into ac-count while reckoning payment of turnover fees to SEBI by the trading members. Besides, base minimum capital varying from Rs. 4 lakh to Rs. 7 lakh lying with the various RSEs to the credit of each of their members and being totally not put to any use, should be permitted to be transferred to Indonext Exchange.All the steps mentioned above, necessary as they are, would not be sufficient to make Indonext Ex-change a success. NSE and BSE, having already emerged as giants controlling fully the total vol-ume of trading in the country, Indonext Exchange can succeed only if there is exclusivity of trading. This can be done by providing for trading in re-spect of all companies with a paid-up capital upto say, Rs. 20 crore, which currently account for a daily turnover of about Rs. 350 crore, only on In-donext Exchange, while companies with a paid-up capital upto Rs. 20 crore coming out with IPOs in future may be permitted to be listed only on Indonext Exchange. Companies with a paid-up capital of Rs. 20 crore already listed on NSE/BSE may be delisted from these stock exchanges and listed on Indonext Exchange.

Indonext Exchange to Focus on Liquidity

Establishment of Indonext Exchange is only a step towards a solution to the larger issue of lack of liquidity, the extent of which has been detailed above. Indonext Exchange has to focus to ensure that lack of liquidity should not be a problem any longer. A host of issues need to be addressed in this behalf. Broadly, there are four categories of shares, viz (i) liquid, (ii) thinly traded, (iii) mar-ginally traded, and (iv) illiquid, while there is no need to do anything in respect of liquid shares, the question of evolving a suitable exit route to the illiquid shares mainly by way of transfer of these shares to the recently set up Asset Recon-struction Company of India Ltd. or some other similar organizations at a nominal value of say, one paise per share, so as to enable the holders of these shares to book losses needs to be consid-ered. With regard to thinly traded and margin-ally traded shares, trading may be permitted only through the quote-driven system with market

makers, who should mandatorily be required to be appointed by companies on the lines of the provisions already contained in SEBI guidelines in respect of IPOs, but rarely implemented. Mar-ket makers need to be offered proper facilities for borrowing of funds at a concessional rate of inter-est in order to enable them to hold stock of shares and to finance their working capital and for sup-ply of stocks from promoters to enalbe the market makers to fulfil their commitments against sales. Besides, market makers need to be offered finan-cial incentives by way of waiver of levy on transac-tions relating to market-making, stock exchanges to share with market makers the income earned by way of levy on the transactions in the shares in which market makers make a market, profits made by market makers on a short-term basis to be treated as long-term capital gains and taxed ac-cordingly, as in the United States, etc. In respect of marginally traded shares, instead of market makers, specialists may be appointed for each share on the line of the system in vogue in the New York Stock Exchange, so that all orders for purchase and sale get concentrated at one point.In such cases where market makers and special-ist are not appointed, a separate trade maching engine, called “Cal Auction System” (which has been successfully implemented in the recently es-tablished Arizona Stock Exchange in the United State) can be introduced. In this system, match-ing of all buy and sell offers takes place at the end of a day or a week, as may be specified.Liquidity cannot really be generated unless the basic maladies which have conscripted liquid-ity referred to earlier are addressed. Some of the measures that need to be taken immediately in-clude increasing the capital base of listed compa-nies to at least Rs. 3 crore with a public share-holding of at least 25 percent of the expanded capital base, enhancing the minimum percent-age of public offer to at 40 percent of the issued capital of a company for being entitled for listing, modifying the system of proportionate allotment of shares and grant of weightage in allotment to those applying upto 10 tradeable lots, particularly to those applying upto 5 tradeable lots, modify-ing the free pricing policy substantially so as to prevent post-listing erosion, suspending at least for some time he book-building mechanism and re-introduction of weekly account period settle-

58

ment in respect of thinly traded and marginally traded shares, etc.

Conclusion

Decadence of RSEs has not affected the brokers of these exchanges to the extent it has hurt the millions of shareholders of the regionally listed companies who have awoken to find that there is no market for their holdings. To add to this, there are other disturbing developments like sev-

eral of the flourishing companies going abroad to raise capital, some of the thriving companies, particularly multinational companies, delisting their shares, etc. Indian stock markets do not any longer attract the rising levels of savings in the economy. The shareholding population has virtu-ally investment in stock market instruments by over 50 percent of the households in the Unit-ed States. The various remedies suggested above need serious consideration by the authorities con-cerned so that the benefits of fruits of develop-ment have a wider reach.

Source: http://www.bseindia.com/downloads/RegionalStockExchanges.pdf

Contents | 59

ANNEXURE 3

Table 1: Resource Mobilization in the Private Placement Market

(Rs. crore)

Year Private Placement Total

FI Non – FI**

97-98 4323.7 4878.5 9202.2

98-99 12174.2 4823.5 16997.7

99-00 10875.2 8528.3 19403.5

00-01 13262.3 9843.3 23105.6

01-02 P** 15801.7 12681.6 28483.3

Table 2: Resource Mobilization through Public Issue

(Rs crore)

Year Public Issue Total

FI Non – FI**

97-98 9659.7 11236.7 20896.4

98-99 20382.4 12298.9 32681.3

99-00 17981.3 23874.2 41855.5

00-01 26201.2 18529.6 44730.8

01-02 P** 17391.7 19074.5 36466.2

Table 3: Resources Mobilized by FI and Non- FI

(per cent)

Year FI Non- FI Total

PP* PI** PP PI PP PI

97-98 30.93 69.07 30.27 69.73 30.6 69.4

98-99 37.39 62.61 29.91 70.09 34.2 65.8

99-0 37.69 62.31 26.31 73.69 31.67 68.33

00-01 33.61 66.39 34.69 65.31 34.06 65.94

01-Feb 47.6 52.4 39.93 60.07 43.85 56.15

*PP- Private Placement, ** PI – Public Issue

*Source-Handbook of Statistics on the Indian Economy, RBI ** P-Prov isional, FI- Financial Institution

Source: Corporate Debt Market in India: Key Issues and Some Policy Recommendations By SEBI, working Paper No. 9, 2004

60

Jan-

11

Feb-

11

Mar-1

1

Apr-1

1

May-1

1

May-1

2

Jun-

11

Jun-

12

Jul-1

1

Jul-1

2

Aug-

11

Aug-

12

Sep-

11

Sep-

12

Oct-1

1

Nov-11

Dec-11

Jan-

12

Feb-

12

Mar-1

2

Apr-1

2

Government Securities State loans Treasury Bills Corporate Bonds PSU Bonds Others

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

45,000

50,000

INR billion

ANNEXURE 4India: A Glance at the National Stock Exchange’s Wholesale Debt Market

India Data Talk: The number of securities out-standing at the Indian National Stock Exchange’s (NSE) Wholesale Debt Market (WDM) has been rising since June 2012 after a brief decline during May 2012, when total outstanding secu-rities declined to 5,090 units from 5,159 units in April 2012. As of September 2012, however, the number of outstanding debt securities on the WDM had increased to 5,471 units. This follows the recovery in June 2012 of corporate bonds outstanding; they increased from 1,538 units in May 2012 to 1,796 units in September 2012. Despite the relatively high number of corporate debts outstanding, corporate debts accounted for only about 5% of overall WDM market capitali-

zation as of September 2012, with a total mar-ket capitalization of INR 2.36 trillion compared with the overall WDM market capitalization of INR 47.15 trillion. For its part, the NSE’s whole-sale debt market saw persistently high growth in market capitalization, growing by 21.04% in September 2012 compared with 16.51% in Janu-ary 2012 or 14.92% in the same period last year. High market capitalization growth was largelyattributable to the growth in government securi-ties, which accounted for more than half of the WDM’s total market capitalization at INR 27.03 trillion in September 2012 as compared to less than 3% of the total number of securities out-standing since mid-2010.

NSC Wholesale Debt Market (Market Capitalization)

Contents | 61

Investors are drawn to government securities, which have seen modest increases in the compos-ite total returns index since early 2012, record-ing an average monthly growth of 8.23% year-on-year in September 2012. However, of interest to many analysts has been the rising duration for the composite bond index portfolio. The monthly average duration for the composite bond index rose from 5.21 years during its recent trough in April 2012 to 5.43 years in September 2012. Pre-viously, the duration had displayed a generally downward trend since the middle of 2009. Giv-en the general expectation of a more permissive monetary policy by the Reserve Bank of India,

rising duration may signal increased bond price volatility in the near future.Present turbulence in the global financial markets has fuelled investor appetite for safer investment al-ternatives. Indeed, market capitalization in NSE’s wholesale debt market is approximately 73.3% as large as its equity markets as of September 2012 – despite the relative illiquidity of WDM to equity markets – while seeing larger turnover values rela-tive to the previous year. Given that the situation in the global financial markets is unlikely to reverse in the near future, the NSE’s wholesale debt mar-ket is expected to see continued heightened activity over the coming months.

Source: http://blog.securities.com/2012/11/india-a-glance-at-the-national-stock-exchanges-wholesale-debt-market/

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ANNEXURE 5 Indian Corporate Debt Market: Current Status

India has been distinctly lagging behind other emerging economies in developing its long-term debt market (LTDM), be it corporate or munici-pal bonds. The equity market has been more ac-tive, developed and at the centre of media and investor attention. Traditionally, larger corporates have used bank finance, equity markets and exter-nal borrowings to finance their needs. Small and medium enterprises face significant challenges in raising funds for growth.

Comparison with Other Countries

In India, the proportion of bank loans to GDP is approximately 36%, while that of corporate debt to GDP is only 4% or so. In contrast, corporate bond outstanding is 70% of GDP in USA, 147% in Germany, 41% in Japan, & 49% in South Ko-rea. The size of the Indian corporate debt market is very small in comparison to both developed markets, as well as some of the major emerging market economies. For a sample of eight Indian corporates that featured in Forbes 2000, corporate bonds account for only 21% of total long term financing. In contrast, corporate bonds account for nearly 80% of total long term debt financing by corporates in the four developed economies of USA, Germany, Japan and South Korea1. In these countries, the share of corporate bonds is close to 87% for corporates graded above BBB and 66% for the rest. Corresponding figures in major emerging economies such as South Africa, Brazil, China and Singapore, are 57% and 33% for corporates rated above BBB and those rated at BBB or below respectively.Drawing on the cross sectional experience of G7 countries since the 1970s, it is estimated that the overall capitalization of the Indian debt market (including public-sector debt) could grow nearly four-fold over the next decade. This would bring

it from roughly USD 400 billion, or around 45% of GDP, in 2006, to USD 1.5 trillion, or about 55% of GDP, by 2016. This growth, if not crowded out by public sector debt, could result in increased access to debt markets for Indian cor-porates.

Comparison with the G-Sec Market and Equity Market

In India the long-term debt market largely con-sists of government securities. The market for corporate debt papers in India primarily trades in short term instruments such as commercial pa-pers and certificate of deposits issued by Banks and long term instruments such as debentures, bonds, zero coupon bonds, step up bonds etc. In 2011, the outstanding issue size of Government securities (Central and State) was close to Rs. 29 lakh crores (USD 644.31 billion) with a second-ary market turnover of around Rs. 53 lakh crores (USD 1.18 trillion). In contrast, the outstanding issue size of corporate bonds was close to Rs. 9 lakh crores (USD 200 billion). Moreover, the turnover in corporate debt in 2011 was roughly Rs. 6 lakh crores (USD 133 billion) whereas in 2011, the Indian equity market turnover was roughly Rs. 47 lakh crores (USD 1.04 trillion.)

Average Funding Split of Long Term Debt Raised

Developed Economies IndiaEmerging Economies

Corporate bonds

90%

80%

70%

60%

50%

40%

30%

20%

10%

0%

Loan from FI/Banks

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Corp debt and G-Sec marketSome Challenges in the Indian Market

The total corporate bond issuance in India is highly fragmented because bulk of the debt raised is through private placements. Small and medi-um-size enterprises are unable to access the debt markets. Furthermore, trading is concentrated in a few securities, with the top five to ten traded issues accounting for the bulk of total turnover. The secondary market is also minuscule, account-ing for only 0.03% of the total trading.Development of the domestic corporate debt mar-ket in India is constrained by a number of factors viz: low issuance leading to illiquidity in the sec-ondary market, narrow investor base, high costs of issuance, lack of transparency in trades and so on. The market suffers from deficiencies in products, participants and institutional framework.All this is despite the fact that India is fairly well placed insofar as pre-requisites for the develop-ment of the corporate debt market are concerned. There is a reasonably well-developed government securities market, which generally precedes the development of the market for corporate debt securities. Another emerging economy, South Af-rica for instance, witnessed nearly a decade long

public sector debt market reform before the mar-ket for corporate debt securities began to develop. The major stock exchanges in India have trading platforms for transactions in debt securities. In-frastructure also exists for clearing and settlement in the form of the Clearing Corporation of India Limited (CCIL). Finally, the presence of multiple rating agencies meets the requirement of an as-sessment framework for bond quality. In the subsequent blogs in this series, our objec-tive is to analyze the evolution of and develop-ments in the Indian corporate debt market over the last couple of decades, identify the challenges and also discuss possible recommendations to further improve and deepen this critical area of the Indian financial system.

Source: http://www.ifmr.co.in/blog/2012/08/08/indian-corporate-debt-market-current-status/

Crop debt market o/sas % of GDP (2011)

2004

40,000

60,000

80,000

100,000

120,000

140,000

160,000

180,000

Money Market (covers call money, term money, CBLO, repo market)

Equity Market (NSE & BSE)

Equity derivative (NSE & BSE)

Govt Securities Market

Corporate Bonds (NSE,BSE % FIMMDA, 2009-11)

Forex Market

INR

Cror

es

20,000

2005 2006 2007 2008 2009 20010 20011

G-Sec mkt o/s as % GDP (2011)

India

0%

SA Brazil China Singapore

60%

50%

40%

30%

20%

10%

Turnover in Financial Market in India

Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ) GmbH

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T +91 11 26526024/25. F +91 11 26528612E [email protected] www.giz.de

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