Regulations should not be onerous
It is tempting to write a new regulation or enact a new law when transgressions happen. However, in the context of improving the ease of doing business, such an approach is counterproductive
Harmonisation of regulations is, without question, a desirable objective, since it removes doubts and difficulties and imparts clarity to the conduct expected of regulated entities. However, the attempt to harmonise can also lead to overkill regarding the procedural requirements set in motion. For example, the proposal to bring mutual funds (MFs) within the fold of the Securities and Exchange Board of India (SEBI)’s Prohibition of Insider Trading Regulations, 2015 (PIT regulations) is, in some sense, an illustration of needless procedural complexities being set in motion.
The proposal has been occasioned by the misconduct of people associated with the MF industry. As SEBI’s consultation paper states, there has been a case of a registrar and transfer agent (RTA) redeeming units from a scheme as the person was privy to sensitive information not yet in the public domain. In a second case, people associated with an asset management company (AMC), and the trustees of the MF being managed by the AMC, reportedly violated SEBI’s circular dated October 28, 2021. The circular prohibited insiders from transacting in any scheme while possessing sensitive information not communicated to the unit holders. It is also necessary to note the SEBI Act’s provisions prohibit “any person to directly and indirectly engage in insider trading and deal in securities, while in possession of non-public information.” Securities have been defined in the Securities Contracts Regulation Act, 1956, to include “units or any other such instrument issued to the investors under any mutual fund scheme”.
In the light of these provisions, it is necessary to ask whether a specific chapter must be added to the PIT regulations for MFs. The mischief, perhaps unintentional and not anticipated, was due to the exclusion of MFs from the PIT regulations. It needs to be examined whether the omission of the words “except units of a MF” from the PIT regulations will suffice, without all the consequential provisions that are sought to be added in the regulations to merit a separate chapter.
As far as employees of AMCs and trustees of MFs are concerned, there have been circulars from SEBI from May 8, 2001, onwards, imposing conditions under which these categories of persons could trade in units of MF schemes. There was also, inter alia, the requirement of reporting such transactions to the compliance officer.
It is tempting to write a new regulation or enact a new law when one or two transgressions happen. The whole sector or industry is then seen with suspicion. However, in the context of improving the ease of doing business, such an approach is counterproductive.
No one questions the need for appropriate regulations to prevent misconduct in the marketplace. The stated purpose of the proposed new chapter in PIT regulations is “to cover transactions… so as to avoid complexities and unintended consequences”. Should fear of the unknown, the unexpected, and the unanticipated translate to new regulations that entail additional reporting and procedural pain points?
Is there an alternative? In the MF industry, there is an entity that ought to be given more rights and responsibilities and be visited with penal consequences of a deterrent nature to prevent misconduct. That body is the board of trustees of the MF. It is useful to look at the basics. Those that buy units in the MF industry do so not only because they trust the management skills of the AMC members, but also because they repose confidence in the members of the board of trustees. Instead of looking at trustees as parts of the regulated universe, it is high time that SEBI saw them as first-level regulators. This trust in trustees can arise only if, at the time of their appointment, SEBI subjects them to scrutiny to determine whether they are truly fit for the responsibilities. To believe they are a part of the problem will only compound the existing difficulties.
It is for the trustees to put in place measures to ensure that neither the employees of the AMC, nor the employees of the RTA, are given the opportunity for misconduct. Any aberration should be effectively put down, and problematic employees should be shown the door. In such matters, natural justice requirements can be addressed through post-decisional hearings.
The consultation paper does not indicate whether it is the product of detailed deliberations by SEBI’s MF advisory committee. Without a clear statement, it is difficult to arrive at that conclusion.
One aspect that ought to have been considered is the existence of the Association of Mutual Funds in India (AMFI) as a representative body for the MF industry. Constructive conversations with AMFI might have led to a more balanced approach. The reaction of AMFI members, if not AMFI as a body, indicates that they too were taken by surprise when the paper emerged. Since this is a consultation paper, it is hoped that the feedback and the comments will be taken seriously to decide whether a separate chapter is necessary and, if so, the contents thereof. There is one sentence in the paper that is music to the ears of those who have advocated a pragmatic approach to corporate governance. That sentence — “at the same time, it is also felt that the regulatory approach should not be onerous” — should give hope to the regulated universe.
M Damodaran is chairperson, Excellence Enablers Private Limited. He is former chairman, SEBI, UTI and IDBIThe views expressed are personal