Judicial rush to save investors is misplaced

Investors need protection from fraud, toxic products and mis-selling. Not from volatility. The Supreme Court may consider widening the terms of the panel on investor protection

The Supreme Court (SC) has advised the government to set up a committee to review the current investor protection regime in light of the recent crash in the Adani Group’s stocks. The government has accepted the advice, and the court will now decide the remit and composition of the committee. These events come as a consequence of the sharp drop in shares of Adani Group companies due to a negative report by Hindenburg Research on January 24. Hindenburg also announced it was short on Adani debt and derivatives (short-selling is a strategy of traders who bet that prices will go down and, therefore, place trades to benefit from it), leading a rout that dissolved an estimated ₹10 trillion of notional investor wealth.

If a panel is set up, it must consider losses of investors in the other regulated parts of the market due to poor regulation and market failure (HT PHOTO)

This market event led petitioners to knock on the doors of the SC to do something about the lost money of Indian investors. The court responded by wondering how to ensure investor protection and asked the question “what role do we envisage for Sebi?”

There are two problems with this. The first is with the limited frame through which investor protection is being viewed by the apex court. Investor protection is not just about the stock market, but also about protecting investors from accessing and trading in fraudulent and toxic products. I wonder where Indian investors in the bubble called cryptocurrencies should go for redress since they lost thousands of crores of their savings due to the SC setting aside a Reserve Bank of India (RBI) order that sought to ban trade in virtual tokens that have no underlying value. An April 6, 2018, RBI order banned its regulated entities, mainly banks, from dealing with virtual currencies, effectively preventing most retail investors easy access to this untested, unregulated and dubious asset. But, in response to a suit by the Internet and Mobile Association of India, the SC, on March 4, 2020, set aside the RBI notice, opening the door for the functioning of crypto exchanges in India. The 180-page judgment cost Indian investors thousands of crores of their hard-earned savings in events that played out subsequently.

Near-zero rates in the United States triggered a rush of money into cryptocurrencies, creating a bubble around them. It was a feeding frenzy. Financially unsavvy Indian investors that RBI was trying to protect, rushed to buy such assets and saw their savings vaporise over the following two years, as the bubble first inflated in 2021 and then burst in 2022. One report claims that Indians have lost more than ₹1,000 crore in fake crypto exchanges. Over 115 million Indians who invested in this non-asset have lost almost 65% of their money from November 2021 to February 2023.

The problem is not limited to investor losses but extends to possible money laundering by the crypto exchanges. The Enforcement Directorate is examining 10 crypto exchanges on charges of laundering over ₹10 billion in ongoing cases.

Should the SC’s interference in the functioning of a regulator acting in investor interest not be judged on the subsequent events that have not only destroyed investor money but also resulted in money laundering? Should a panel not be set up to examine the financial fallout of the court’s ruling?

The second problem is with the SC reacting to what looks to be a market event. The court surely understands that the remit of a market regulator is not to ensure profits for investors. The regulator must oversee an efficient, safe and fraud-free market place, but must stop short of mollycoddling investors. If the regulator is captured or is blind to market failure, then the government and the courts have a role to fix it. To take a market event like a stock crash and call for investor protection is misplaced.

However, if in, its wisdom, the SC has opened the box of investor protection and insists on setting up a panel, it must widen the definition of investors. For example, in the life insurance industry, there is market failure where savings of retail investors are being eroded by toxic products, such as endowment- and money-back policies; 85% of an industry with assets under management of ₹50 trillion are invested in what are called traditional plans in which investors do not get their capital back, should they not complete the term of the policy, even if it is 15 or 20 years later.

While the Insurance Regulatory and Development Authority discloses the 61st-month persistency, which is a dismal 49% (less than half the long-term policies stay alive for five years, causing households to lose almost half their invested money), the 10th or 15th-year persistency is not known. Industry insiders say that less than 10% of all policies sold complete their terms, causing a capital loss to most investors. Who benefits? Insurance firms, agents and now investors into the stocks of these insurance firms. Who loses — households who trusted the agent, the industry and the regulator. In a 2012 peer-reviewed paper, I estimated such losses as ₹1.5 trillion over a seven-year period in unit-linked insurance plans due to such lapsed and surrendered policies. The story for traditional plans will be worse. If a panel is set up, it must consider losses of investors in the other regulated parts of the market due to poor regulation and market failure.

A good way to understand markets is to be affected by them — perhaps the market-linked National Pension System should be extended to the judiciary so that the market risk that all other Indians bear, comes home to this very important pillar of Indian democracy.

Monika Halan is author of the best-selling book, Let’s Talk MoneyThe views expressed are personal