G] INVESTIGATION, ENFORCEMENT AND SURVEILLANCE

A well-regulated market fosters investors’ confidence in its fairness and integrity by ensuring true and fair price discovery, prompt detection of market manipulations and safety of the markets through risk containment measures and effective enforcement. With a view to achieve these objectives, the SEBI took several initiatives both at macro and micro level, which are briefly discussed below.

Market surveillance

The Investigation, Enforcement and Surveillance Department since its inception organised itself to carry out its responsibility of protecting the investors and ensuring a healthy development of the securities markets. Market Surveillance Division was set up in the SEBI in July 1995, with a view to effectively monitor abnormal market movements and detect market manipulations. It was involved in monitoring the market movements, identifying price volatility, analysing its causes and overseeing the surveillance activities of the stock exchanges. The main source of information for the Market Surveillance Division is the trading data obtained from the stock exchanges, newspaper reports, investor complaints, market intelligence, etc. It also analyses major market movements in the wake of significant market sensitive information. Some of the surveillance systems and risk containment measures that were put in place during 1997-98 are:

• market monitoring by independent surveillance cells of stock exchanges;
• stock exchanges reporting to SEBI through settlement reports and pre-issue monitoring reports;
• risk containment measures in the form of elaborate margining system comprising of daily, special, penal and mark to market margins;
• circuit filters, daily price bands and weekly price caps to curb abnormal price behaviour and volatility;
• intra-day trading and gross exposure limits for stock brokers linked with capital adequacy;
• suspension of trading in scrips to prevent market manipulation;
• inspection of intermediaries;
• enhancement of SRO capabilities of stock exchanges;
• interactive and pro-active oversight by the SEBI;
• formation of Inter Exchange Market Surveillance Group for prompt and effective co-ordination between stock exchanges.

During 1997-98, further steps were taken at the level of the SEBI and the stock exchanges under the oversight of the SEBI to improve and strengthen their surveillance capabilities. Some of the developments in this regard are briefly given below.

Meetings of the Inter Exchange Market Surveillance Group

During 1997-98, SEBI convened two meetings of the Inter Exchange Market Surveillance Group. The first meeting was held on July 14, 1997 and the second meeting was held on December 17, 1997. The Group discussed market trends, various risk containment measures that needed to be revised and new measures to be implemented. It also discussed issues relating to dissemination of price sensitive information to the public, dealing with market rumours and co-ordination between stock exchanges. The Group was reconstituted with representatives from the Stock Exchange, Mumbai, NSElL, Delhi, Calcutta, Ahmedabad, Ludhiana and Bangalore stock exchanges. The further initiatives taken by the SEBI during the year are given in the following paragraphs.

Uniform intra-day price band of 10 per cent

Presently, there is a price variation cap of 25 per cent during a settlement which was uniformally implemented by all the stock exchanges. The intra-day price variation was flexible in range upto 10 per cent subject to the settlement variation cap of 25 per cent. Now, it is implemented uniformly at 10 per cent intra-day variation by all the stock exchanges.

Price bands in respect of infrequently traded scrips

There was a need to have a uniform guideline in respect of price bands on infrequently traded scrips. A small group was formed comprising of representatives of Mumbai, NSEIL and Delhi stock exchanges to frame guidelines and a basis on which such price bands could be fixed. The group has already given some deliberation on this issue and their final report is expected shortly.

Public disclosure of information relating to actions taken against stockbrokers

As the action taken against the member brokers of the stock exchanges including penal actions were not disclosed to other market participants by all the stock exchanges, it was felt that such actions need to be disclosed in the larger interest of the investors and market participants. The stock exchanges were therefore asked to make public the actions taken by the Disciplinary Action Committee of the stock exchanges against their member brokers. The stock exchanges were also asked to issue press releases when such actions are of serious nature.

Dissemination of price sensitive information to public

There was a need to have proper method for dissemination of price sensitive and other important information relating to corporate and market to the public so that they can make informed investment decisions. The stock exchanges were asked to display such information on their terminals in the quickest possible manner.

Dealing with market rumours

Market rumours can do considerable damage to the normal functioning and behaviour of the market. It is therefore essential to have quick verification of such rumours from the corporates as well as from other entities whenever it is so necessary. Therefore, it was decided that all stock exchanges should verify such rumours in the quickest possible manner and inform investors and other market participants, if possible through their terminals. The SEBI had asked around 150 companies to designate compliance officers who could be contacted by the stock exchanges whenever such verification is needed. As much as 115 of such companies have already designated compliance officers and have informed SEBI. The SEBI subsequently has circulated the names of the companies and details about their compliance officers to all the stock exchanges.

Co-ordination between stock exchanges

To facilitate better and quicker co-ordination among the stock exchanges, all stock exchanges were asked to designate a co-ordination officer who could be contacted by other stock exchanges for immediate exchange of information.

Joint inspection and investigation in case of stock brokers having multiple membership

It was decided that in some suitable cases the stock exchanges would co-ordinate and carry out joint inspection of member brokers having multiple membership. Besides there should be sharing of information in such cases between the stock exchanges.

Inspection of surveillance cells of stock exchanges

The surveillance cells of stock exchanges have been strengthened in terms of manpower and systems at the behest of the SEBI. Since December 1996, the inspections of the surveillance cells are being taken up on a regular basis for the purpose of assessing the quantum and quality of surveillance done and suggesting improvements in the proactive surveillance capability of the stock exchanges. During 1997-98, the SEBI inspected surveillance cells of 10 stock exchanges and the shortcomings and suggestions have been communicated to them for improvement of the functioning of the surveillance cells.

Development and implementation of Stock Watch System

While the existing risk containment measures have served well their intended purpose of imparting safety, fairness and transparency to the Indian securities markets, the challenge lies in enmeshing the surveillance measures with the development of the market. Trading in the Indian securities markets now being on-line has become more sophisticated, which calls for further sophistication in surveillance and regulatory oversight. A system of market monitoring and surveillance was initiated and the stock exchanges are reporting abnormal price and volume movements to SEBI in prescribed formats. In this direction, to have more effective system of market surveillance keeping in line with the international standards, it was been decided to develop a Stock Watch System at the level of the stock exchanges under the initiative and oversight of the SEBI. The objectives of the Stock Watch System is to give suitable indicators or alerts for the detection of potential illegal or improper activity to protect the integrity of the securities markets and its participants. The Stock Watch System would consist of various databases of issuers, securities, trading and members with the stock exchanges that would help in generating various alerts. These alerts would assist the stock exchanges in keeping effective surveillance on the market to bring an era of transparency and fairness in the dealings.

The Core Group, which was formed during 1996-97 consisting of representatives from the major stock exchanges of the country, to help in the process of implementation of the Stock Watch System, held several meetings. A workshop on the Stock Watch System was also organised by the SEBI and conducted by the NASDAQ staff in which the Core Group and the staff of surveillance cells of the stock exchanges participated.

With the help of the Core Group, the SEBI has finalised the basic parameters for various databases and generation of alerts for Phase I of the Stock Watch System. The same has been communicated to stock exchanges and they are in the process of implementation of the same.

Interaction and co-ordination with stock exchanges

There is frequent informal exchange of information and ideas to create purposeful market monitoring and surveillance between the SEBI and stock exchanges. During exceptional market conditions, the SEBI calls for information and feedback on market conditions from the stock exchanges and steps taken by them. This, in turn results in timely and effective surveillance by the SEBI.

Role of market surveillance in exceptional market conditions

The stock markets had witnessed several periods of volatility and turbulence during 1996-97. For example, the BSE Sensex, which is the benchmark index for the Indian securities markets, decreased sharply by 5.45 per cent and 6.52 per cent on January 16, 1997 and March 31, 1997 respectively. On January 16, 1997, intra-day volatility of 357 points was witnessed at the Stock Exchange, Mumbai. The safety of the market, however, was not affected during these periods of volatility mainly on account of the risk containment measures that were in place.

During 1997-98 also, the market witnessed certain periods of volatility. Since July 1997, economies in Asia, especially Thailand, Malaysia, Philippines, Indonesia as well as South Korea have been severely affected by large depreciation of their currencies following the severing of currency regimes which had been in place for several years. The fall out on Indian securities markets exhibited unusal price volatility on couple of occasions during this period when the BSE Sensex fell by more than 3 per cent to 7 per cent against an annual average intra-day price volatility of around 1.9 per cent. On August 20, 1997 the intra-day price volatility of the BSE Sensex was exceptionally high at 3.4 per cent. On October 28, 1997, The Stock Exchange, Mumbai was closed due to festive holidays. However, the National Stock Exchange of India Ltd,(NSEIL) another premier stock exchange in India was open on this day and the Nifty (fifty scrip index of NSEIL) fell by 7.9 per cent on a single day. The relatively steep decline on this day was affected by events in other emerging and developed markets specially the decline in equity prices in Hong Kong. Equity prices in the United States, Japan and Europe fell on October 27, 1997, with the Dow Jones Industrial Average of U.S stocks falling by 7.1 per cent on the same day. This fall in the Dow affected sentiments in the Asian markets when they opened on October 28, 1997 and the equity prices in Hong Kong led the decline. Hang Seng fell by 13.7 per cent , Indian market took cue. On this day, 294 securities out of 1350 securities traded on the NSEIL attracted the scrip specific price bands. Only 12 out of such scrips are related to the index and 9 out of them bounced back and trading was restarted.

Apart from the strict monitoring of market movements and positions of brokers which is now being done automatically in the stock exchanges, the SEBI took pro-active action after discussing with the stock exchanges to arrest the fall. The NSEIL reduced the daily price band from the standard 10 per cent level to 7 per cent level. This measure coupled with exposure limits helped in stabilising the market. On January 15,1998, the Indian securities markets again witnessed high level of activity and the intra-day price volatility of the BSE Sensex was close to 3 per cent. On the following day, the market improved marginally reversing the previous day’s trend. However, there was not a single default or failure in the market and market stability and safety was maintained.

Some of the other regulatory measures taken by the SEBI and the stock exchanges to stabilise the markets during the period of exceptional market volatility have been stringent administration of mark to market margining system and adherence to prudential exposure norms. In Indian securities markets, securities specific circuit breakers and price bands are followed. Experience has shown that scrip related circuit breakers and price bands compared to index related circuit breakers were more appropriate. It ensured that the market remained open and only those counters where volatile scrips which touched the lower of the daily band of 10 per cent or weekly band of 25 per cent , were closed. On account of such measures the panic that had set in all over the world could not aggravate the market conditions in India. In fact the situation was well under control.

Investigations

Background of investigation process

Investigation activities were further strengthened during 1997-98. Investigations carried out by the SEBI during the year yielded positive results resulting in fewer number of cases reported for alleged market manipulation and price rigging. Pursuant to completion of investigation, various actions like administrative directions and penal actions under the SEBI Act and the various SEBI Rules and Regulations were undertaken. These actions include monetary penalties, warning, suspension of activities and cancellation of registration, refund of issue proceeds, prohibiting access to the securities markets and ordering compensation of undue or ill-gotten gains.

Investigation proceedings

During 1997-98, investigations were taken up in several cases including price rigging, creation of false market, circular trading, price maintenance, dealing in fake shares, insider trading, front running and take-over of companies without the compliance with the relevant regulations, mis-statement in the prospectus and price manipulation prior to the public and rights issue. The details of such cases are given in Table II.19 and Figure II.8.

Table II.19: Investigations by SEBI

 
Source: SEBI

Figure II.8 : Investigations by SEBI

As can be seen from the table II.19, the SEBI took up investigations in 53 cases in 1997-98 bringing the total cases taken up for investigation to 242 in the last six years. These cases include preliminary inquiries and investigations initiated. Out of the above 126 cases have already been completed. The break up of 53 cases in respect to nature of violations alleged, taken up during 1997-98 is given in Table II.20 and Figure II.9.

Table II.20: Nature of Investigations by SEBI

 
Source: SEBI

Figure II.9: Nature of Investigations by SEBI

Show cause notices were issued to 32 non-intermediaries pursuant to completion of investigation, asking them as to why they should not be debarred from trading in securities and prohibiting access to the securities markets, for an appropriate period, for market manipulations. These non-intermediaries include individuals, firms as well as corporates. In addition to the above, show cause notices have also been issued for initiating prosecution proceedings against the intermediaries and the non-intermediaries involved in market manipulation.

Enquiry proceedings

During 1997-98, on completion of investigations, enquiry proceedings were started in respect of 52 intermediaries who have been issued show cause notices under the provisions of the relevant regulations. The break up of the 52 intermediaries is given in Table II.21. In 1997-98 enquiry proceedings were completed against 81 intermediaries, which also includes cases where investigations were taken up in earlier years, the details of which are given in Table II.22.

Table II.21: Details of cases where enquiry officer has been appointed

 
Source: SEBI

Table II.22: Details of cases where enquiry proceedings have been completed in 1997-98

 
Source: SEBI

Adjudication proceedings

During 1997-98, adjudication proceedings were initiated in 7 cases, and in 13 cases adjudication proceedings were completed which also included cases relating to violation of the SEBI (Substantial Acquisition of Shares and Take-over) Regulations.

Action taken

On the basis of the report of the enquiry officer who is appointed in terms of the various SEBI Regulations pursuant to the completion of the investigation, action was taken by way of suspension 39 intermediaries, cancellation of registration of 2 intermediaries, warning issued to 9 intermediaries, issue proceeds refunded in 3 cases and prohibitive action was taken under section 11B of the SEBI Act against 10 non-intermediaries. The intermediaries against whom action was taken include stock brokers, merchant bankers, registrars to an issue and share transfer agents, bankers to an issue and debenture trustees. Action taken during 1997-98 is given in Table II.23 and Figure II.10.

Table II.23: Action Taken in 1997-98

 
Source: SEBI

Figure II.10: Action Taken

Insider trading

Investigations were taken up in 5 cases during 1997-98. One of the cases where investigation was completed during 1997-98 is discussed below.

Hindustan Lever Limited: With the announcement of the merger of Brooke Bond Lipton Limited with Hindustan Lever Limited to the stock exchanges, there were allegations in the market regarding leakage of information and insider trading. The SEBI initiated investigation into the matter and according to the findings of the investigation, inter alia it concluded that Hindustan Lever Limited was an "insider" and has violated the provisions of the SEBI (Prohibition of Insider Trading) Regulations, 1992. The purchase of eight lakh shares of Brooke Bond India Limited, was made by Hindustan Lever Limited, from the Unit Trust of India, on the basis of "unpublished price sensitive information" about the impending merger, just a few days prior to the announcement of the "merger" of Brooke Bond Lipton Limited with Hindustan Lever Limited. The public at large including Unit Trust of India were not aware of the news of the impending merger, though Hindustan Lever Limited was in possession of the same, at the time of the purchase. The SEBI passed an order directing Hindustan Lever Limited to compensate Unit Trust of India to the extent of Rs.3.04 crore, which is the difference between the market price of the shares of Brooke Bond India Limited sold by Unit Trust of India to Hindustan Lever Limited after the announcement of merger and the market price of the shares prior to the announcement of the merger. It also ordered that prosecution proceedings should be initiated against Hindustan Lever Limited and its five directors who were party to the decision of the purchase of shares.

Market manipulation and price rigging

Investigations were taken up in 29 cases of market manipulation and price rigging in 1997-98. Such actions coupled with effective market surveillance under the oversight of the SEBI have resulted in significant reduction in cases of market manipulation and price rigging. Some of the cases where investigation was completed during 1997-98 are discussed below.

Stock Brokers of Pune Stock Exchange: The SEBI conducted investigation about the abnormal fall of the stock prices between the period October 1995 and January 1996. During the course of the investigations, it was noticed that many of the stock brokers of the Pune Stock Exchange were indulging in unauthorised carry forward transactions and consequent depression in prices. The SEBI appointed an Enquiry officer to inquire into the allegations. Pursuant to investigation and enquiry SEBI issued show cause notices to the stock brokers involved in the case. After considering the submissions made by the stock brokers, SEBI concluded that the stock brokers were guilty of violating the provisions of the SEBI Act, Rules and Regulations and ordered suspension of activities and cancellation of registration.

North Star Gems (India) Limited: The SEBI conducted investigation to look into abnormal rise in price and volume in the scrip of North Star Gems (India) Limited, just after its maiden public issue. Investigation concluded that a group of persons with the help of its associate entities operated in the scrip with a view to manipulate the prices. This group of persons in collusion with the promoters of the company cornered the shares offered in the public issue and through secondary market purchases. The buying pressure created a false market in the scrip and some of the investors were induced to sell short at the higher level of prices. This resulted in auction and closeout at abnormally high prices. On completion of investigations, the SEBI ordered impounding of the amount (amounting to Rs.1.75 crore) to ensure that the manipulators should not be in a position to receive ill-gotten gains arising out of such market manipulations. The SEBI directed this amount to be transferred to the Investor Protection Fund of the concerned stock exchange. Enquiry proceedings were also initiated against the stock brokers involved in the case and against the registrar to the Issue. Show cause notices are also being issued to the non-intermediaries including the promoters of the company.

JVG Departmental Stores Limited: The SEBI conducted investigation to look into the alleged creation of false market in the scrip of JVG Departmental Stores Limited. Abnormally high volumes accompanied with unusual price rise were noticed right from the first day of listing of the scrip. The investigation prima facie revealed that Hoffland Finance Limited, a portfolio manager and a stock broker had purchased large quantities of the shares of the company. It was involved in the creation of a false market by maintaining the traded price at artificially high levels and did not act in the best interest of their portfolio clients. Enquiry proceedings were initiated to inquire into the violations of SEBI Rules and Regulations by Hoffland Finance Limited. After considering the investigation report, Enquiry Officer’s report and submissions on record, SEBI concluded that Hoffland Finance Limited is guilty of creating a false market in the scrip of JVG Departmental Stores Limited and suspended Hoffland Finance Limited to carry on its activities as a stock broker for a period of six months. It was also prohibited from carrying on its activities as merchant banker and portfolio manager.

Jyoti Resins and Adhesives Limited: The SEBI conducted investigation to look into the unusual increase in price and volumes in the scrip of Jyoti Resins and Adhesives Limited. The SEBI concluded that the share price of the company was manipulated and the main promoter of the company in collusion did the manipulation with an operator. With a view to prevent manipulators from benefiting from undue gains arising out of manipulation, the proceeds of auction and close out were frozen. The investigations concluded that the promoter of the company along with the manipulator were the main persons who would have walked away with the proceeds of auction /close out. Nearly Rs 3.25 crore of the proceeds were impounded in pursuant to the investigations. Enquiry proceedings were initiated against the intermediaries-brokers, registrar to the issue and merchant banker. Actions are being undertaken as per the SEBI Act and Regulations against non-intermediaries including promoter and other manipulators.

"Issue" related manipulations

During 1997-98, the SEBI took up 14 cases for investigation of "issue" related manipulation. These cases mainly pertained to allegations of grey market operations and acceptance of late applications, misuse of stock invests, arrangement of subscription to circumvent minimum subscription requirement, buyback of shares by companies and their promoters, and contravention of the various SEBI’s guidelines and the provisions of the Companies Act, 1956. In 3 cases, after completion of investigations, the SEBI ordered refund of the issue proceeds. Some of the cases where investigation was completed during 1997-98 are discussed below.

Boom Securities and Leasing Limited: The SEBI conducted investigation to look into the alleged irregularities relating to the subscription of the public issue of Boom Securities and Leasing Limited. The investigation concluded that subscription received during the public issue in effect were substantially less than the minimum required subscription of 90 per cent. The actual subscription received was not more than 42 per cent of the total offer to the public. It was also noticed that issue was subscribed with certain stock invests which were discovered to be fake and were reportedly lost. The listing was obtained for the issue without getting the stock invests realised. Pursuant to investigation, a show cause notice was issued to the company and it was asked to show cause why the proceeds of the public issue should not be refunded. After considering the material on record and submissions made from time to time by the company, the SEBI concluded that the company has not genuinely achieved the minimum subscription of 90 offered to the public. It directed the company that in the interests of the investors and the fairness of the securities market the issue proceeds be refunded to the original applicants and where the original applicant has sold the shares, the last holder should be given the face value of the shares. It also suspended the Merchant Banker and the Registrar to an Issue for carrying on their activities for three months and one year respectively.

Rich Paints Limited: Another instance of irregularities in the public issue came to light in the case of Rich Paints Limited. Investigations conducted by the SEBI revealed that the public issue of the company was not getting fully subscribed so the promoters approached one financier to arrange subscription. The arrangement was that the company would buy back the shares subscribed by the financier who would get interest on the amount of subscription in the public issue. The applications in the public issue were made by the financier with stock invests which were encashed in a current account of the company opened specifically for this purpose. The funds against stock invests were brought in the bank by the financier on the day of allotment and on the same day the stock invests were encashed and the amount repaid to the financier. No money actually came into the account of the company. By resorting to this modus operandi, the requirement of Section 69 and 73 of the Companies Act, 1956 were circumvented. Gujarat High Court dismissed the writ petition of the company against the order for not allowing the listing of the shares at the Stock Exchange, Mumbai. The court has upheld the views of the SEBI and the interpretation of the Companies Act adopted by it in this case.

It was also gathered during the investigations that promoters did not bring in their part of their subscription and created an illusion by showing receipt of application money through book entries only. Ostensibly, the application money was received in cash, which was deposited in bank, and against this receipt certain cheques were issued. Investigation revealed that payments were being shown to fictitious parties and in reality no money was received and the employee of the company withdrew all the payments shown through book entries through bearer cheques. The SEBI directed the company to refund the amounts collected in the public issue with interest. The promoters of the company were also prohibited from accessing the securities markets for a period of one year. Enquiry proceedings have been commenced against merchant bankers, registrars to the issue and bankers to the issue.

Other cases: Some of the cases of abuse of stock invests scheme came to the notice of SEBI. In these cases, stock invests were ante dated in order to subscribe after the closure of the issue. In one case, the amount was refunded to the subscriber as the company did not receive the minimum subscription. Actions against the intermediaries involved and the promoters are in progress.

Impounding of auction and close-out proceeds

Several measures were taken to prevent manipulators from benefiting from undue gains arising out of manipulation in respect of 14 cases. Such measures included freezing of the proceeds of manipulation arising from auction and close out. After freezing of the amount, these cases were followed up by investigation and Rs. 37 crore were impounded.

Prosecutions

The SEBI initiated prosecution proceedings in 11 cases in 1997-98 bringing the total prosecution proceedings initiated so far to 29 in the last three years. Out of these, 24 prosecution proceedings were initiated under the powers delegated to SEBI under the Companies Act and three prosecution proceedings were initiated for violations of the SEBI (Substantial Acquisitions of Shares and Take-overs) Regulations, 1997. Similarly, 2 prosecution proceedings were initiated for violations of the SEBI (Prohibition of Fraudulent and Unfair Trade Practices relating to the securities market) Regulations, 1995. The details of the above prosecution cases filed in the Court of Law till the end of 1997-98 are given in Table II.24 and Figure II.11. The prosecution proceedings initiated in 11 cases involved 81 persons. The SEBI till the end of 1997-98 initiated prosecution proceedings against 191 persons involved in 29 cases, the break-up of which is given in Table II.25.

Table II.24 : Nature of prosecution initiated

 
Source: SEBI

Table II.25 : Number of persons prosecuted

 
Source: SEBI

Figure II.11: Nature of prosecution initiated