Regulatory Issues in Indian Stock Markets

Security Analysis and Portfolio Management

IIM Shillong
Group 3

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Table of Contents
Abstract...................................................................................................................................................4 Introduction ............................................................................................................................................5 Importance of Stock Markets .............................................................................................................5 Indian Context.....................................................................................................................................6 Regulation in Stock Market.....................................................................................................................7 Importance of Regulation ...................................................................................................................7 Regulatory Bodies in Indian Stock Markets ........................................................................................8 Securities and Exchange Board of India (SEBI)....................................................................................9 Regulatory Issues in Indian Stock Markets .............................................. Error! Bookmark not defined. Disclosure............................................................................................. Error! Bookmark not defined. Volatility ............................................................................................... Error! Bookmark not defined. Corporate Governance......................................................................... Error! Bookmark not defined. Political economy and governance ...................................................... Error! Bookmark not defined. Retail investors..................................................................................... Error! Bookmark not defined. Implementation of regulations ............................................................ Error! Bookmark not defined. Investor Activism.................................................................................. Error! Bookmark not defined. Integration with other financial markets ............................................. Error! Bookmark not defined. Initial Public Offer .................................................................................... Error! Bookmark not defined. Indian IPO market ................................................................................ Error! Bookmark not defined. Issue Pricing Regimes in India .............................................................. Error! Bookmark not defined. History of Regulations in IPO ............................................................... Error! Bookmark not defined. Some Issues Requiring the Attention of the Regulatory Bodies.......................................................11 Grading Of IPOs.............................................................................................................................11 Allocations Mechanism of IPO ......................................................................................................12 Issues in Withdrawal of IPO ............................................................. Error! Bookmark not defined. Issues in Refund of Money............................................................... Error! Bookmark not defined. Suggestions .......................................................................................... Error! Bookmark not defined. Market Distortions and Regulations Needed .......................................................................................14 Market Related Fraud .......................................................................... Error! Bookmark not defined.

Page |3 Bull/Bear operations ........................................................................ Error! Bookmark not defined. Circular Trading ................................................................................ Error! Bookmark not defined. Benami Deals ................................................................................... Error! Bookmark not defined. Price Rigging..................................................................................... Error! Bookmark not defined. Insider Information .......................................................................... Error! Bookmark not defined. Concentration of Market in a few hands ......................................... Error! Bookmark not defined. IFCI: A Case in point ..........................................................................................................................14 SEBIs Recent Initiative......................................................................................................................16 Regulatory Issues Related To FIIs in India.............................................................................................17 Introduction ......................................................................................................................................17 Stock Market Volatility......................................................................... Error! Bookmark not defined. FII Taxation Aspect ............................................................................... Error! Bookmark not defined. Analysis & Suggestions......................................................................................................................19 Conclusion.............................................................................................................................................21 References ............................................................................................................................................22

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Abstract
Efficient capital markets are a critical component for any developed economy. The key to developing effective capital markets as an engine of growth is to design facilitating regulatory structures. Indian capital markets today are amongst the best regulated markets providing efficient trading and settlement infrastructure, high levels of disclosure and fostering an environment for innovation. The regulatory framework has kept pace with the significant growth in the securities markets and can be benchmarked with markets in developed nations. Increasing integration with global markets will be the key agenda going forward as Indian corporate expand their presence across the globe and companies in the region look at listing in India. While events during the past decade have resulted in strengthening of the regulatory framework, the environment is proactive and continues to develop with a strong industry interface and open minded approach. This paper talks about various regulatory issues in the Indian Stock Markets. After giving an introduction to the stock markets, we go on to see the importance of regulation. Then, we look at the various regulatory bodies in India namely RBI, SEBI, FMC and IRDA and explain the functions of SEBI in brief. Then we try and cover the regulatory issues being faced by the Indian Stock Markets. After listing all the issues we look at three issues that require attention of the regulators the most. The first is the regulatory issues in raising IPO. SEBI has done a lot in it but still more requires to be done. This is because it is an avenue for the companies to raise money from the capital market. After analyzing various issues we put up some suggestions that SEBI should look into. Secondly, we look at the various ways in which market can be distorted and investors can be duped. We analyze each issue and give the initiatives which have been taken up by SEBI to resolve them. A case study in IFCI is also discussed. Finally we look at the regulatory aspects related to FII in India. FII are a very important source of investment in Indian Stock Market and is a cause of much of the volatility in stock market. Thus we analyze various issues and give suggestions.

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Introduction
The Indian capital market is undergoing structural transformation since liberalization. The chief aim of the reforms exercise is to improve market efficiency, make stock market transactions more transparent, curb unfair trade practices and to bring our financial markets up to international standards. Further, the consistent reforms in Indian capital market, especially in the secondary market resulting in modern technology and online trading have revolutionized the stock exchanges. Recognizing the importance of increasing investor protection, several measures were enacted to improve the fairness of the capital market. There have been significant reforms in the regulation of the securities market since 1992 in conjunction with overall economic and financial reforms. In 1992, the SEBI Act was enacted giving SEBI statutory powers as an apex regulator. And a series of reforms were introduced to improve investor protection, automation of stock trading, integration of national markets and efficiency of market operations. SEBI in 1993 initiated a significant move which involved the shift of all exchanges to screenbased trading being motivated primarily by the need for greater transparency.

Importance of Stock Markets

Stock Markets are part of closely integrated financial system. It is one of the most important sources for companies to raise money. It allows businesses to be publicly traded, or raise additional capital for expansion by selling shares of ownership of the company in a public market. The liquidity provided by exchange affords investors the ability to quickly and easily sell securities. This is an attractive feature of investing in stocks, compared to other less liquid investments such as real estate. History has shown that the price of shares and other assets is an important part of the dynamics of economic activity, and can influence or be an indicator of social mood. An economy where the stock market is on the rise is considered to be an up and growing economy. In fact, the stock market is often considered the primary indicator of a country's economic strength and development. Rising share prices, for instance, tend to be associated with increased business investment and vice versa. Share prices also affect the wealth of households and their consumption. Therefore, central banks tend to keep an eye on the control and behaviour of the stock market and, in general, on the smooth operation of financial system functions. Exchanges also act as the clearinghouse for each transaction, meaning that they collect and deliver the shares, and guarantee payment to the seller of a security. This eliminates the risk to an individual buyer or seller that the counterparty could default on the transaction. The smooth functioning of all these activities facilitates economic growth in that lower cost and enterprise risks promote the

Page |6 production of goods and services as well as employment. In this way the financial system contributes to increased prosperity.

Indian Context
The Indian capital market is one of the oldest in the world with an uninterrupted history for well over a century. The first Indian stock exchange, the Bombay Stock Exchange (BSE), opened in 1875. A number of regional stock exchanges have emerged since. While the aggregate market capitalization of the Indian stock market is modest compared to the U.S., reflecting the relative sizes of the two economies, the number of issues are more comparable across the two markets. The Indian economy has historically been heavily regulated. Major deregulation set in around 1991, when open market reforms were initiated in response to a balanceofpayments crisis. Deregulation of the securities market followed a similar path. Before 1992, multiple regulations and regulatory authorities governed and had jurisdiction over the securities market. With respect to new issues, the primary governing law was the Capital Issues (Control) Act of 1947, under which any firm wishing to issue securities had to obtain approval from the Central (i.e., Federal) Government. The law was quite different in content and scope compared to the 1933 and 1934 Securities Acts that govern the operation of the U.S. stock market. In the U.S., the objective of regulation is truthindisclosure. In the Indian environment, the pre1992 regulations mandated a role for the government in determining the amount, type and price of the issue through the Controller of Capital Issues. In 1992, there was a significant shift in the regulatory framework of the Indian capital market. The 1947 Capital Issues (Control) Act was repealed and the government allowed a larger role for market forces. Under the new framework, a new regulatory authority, the Securities and Exchange Board of India (SEBI), roughly analogous to the U.S. Securities and Exchange Commission, was given the authority to regulate and develop an orderly securities market. A variety of developments have accompanied the new regulatory regime. India moved to completely paperless trading in January 1998. A new electronic exchange, the National Stock Exchange, was established. As of 2005, two depositories, the National Securities Depository Limited (NSDL) and Central Depositories Services Ltd. (CDSL) provide instantaneous electronic transfer of securities. Since the rate of financial innovation is high, regulatory practices should retain flexibility, even at the cost of some regulatory uncertainty, as long as they satisfy general principles. They would be able to encourage market functions, while moderating market flaws. Regulatory practices also need to be attuned to country specific features.

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Regulation in Stock Market

Importance of Regulation
People are destined to be regulated, and they can either regulate themselves, or sit back and wait for the government to do it for, and to, them Theodore Roosevelt

The Indian financial sector has become more voluminous and vibrant over the last decade and a half since liberalization. The markets have become more diversified with more players coming in and newer instruments being introduced. The markets have been liberalized and the regulations have been rationalized to a large extent in tune with the global scenario. The restrictions on capital flows are being dismantled and the move is towards fuller capital convertibility. The equity markets have been developing at a fast pace and have achieved depth over the years even though there have been many tough times involving scams. But the debt markets, especially the corporate debt markets, have not kept up the pace despite several governmental efforts to develop them. The banking system in the country has been well entrenched and has a sound regulatory environment. The system is to adopt the best practices in the global banking system by migrating to the Basel II recommendations. The industry is consolidating with the introduction of newer technologies and hence the importance of economies of scale. The commodities market has been developing of late with the establishment of various commodity exchanges at the regional as well as national level. The insurance industry has been growing fast and with the coming in of private players, there has been very good growth both in the volumes and in the sophistication of the instruments evolving. The Indian stock markets are now amongst the best in the world in terms of modernisation and the technology. Policy makers attribute this to the slow and cautious pace of capital account liberalisation. However, it has also been a decade marred with scams, which were huge even by international standards, revealing the many gaps in our regulatory regime. In 1991, a group of stockbrokers, headed by key trader 'Big Bull' Harshad Mehta artificially jacked up prices of worthless securities to rake in Rs 5,000 crore (Rs 50 billion). The Sensex tumbled down, after the scam story broke out on April 23, 1992. Fortunes were lost overnight. As a result, the ambit of the Securities Exchange Board of India, the stock exchanges and regulatory financial institutions was widened. Nearly a decade later, after a 'dream budget' by Yashwant Sinha, the then finance minister, on February 28 2001, the Bombay Stock Exchange index rose initially but thereafter crashed. Nearly 700 points were lost in eight trading sessions leading to erosion in market capitalisation of Rs 146,000 crore (Rs 1,460 billion). This erratic behaviour was once again traced to a handful of brokers, wishing

Page |8 to trap a leading 'bull', Ketan Parekh, who had manipulated prices of shares of a few select companies in information technology, communication and entertainment sector. Units of US64, the flagship scheme of Unit Trust of India the largest public sector mutual fund in India, dropped from a peak of Rs 19 to Rs 5.81 in January 2002. Middle class people and retirees were the hardest hit because of the irregularities. With the fall of Indian Stock market as on Jan, 2008 concerning Pnote issues and recent fall in Indian stock market with Sensex touching 21000 mark with falling down till 8500 has again raised serious concerns over Indian stock market regulatory issues. The recurrence of financial 'scams' periodically exhibits the helplessness of regulators, particularly the SEBI and the Reserve Bank of India. The regulatory body claims It is easier to build a modern stock exchange from scratch than change centuryold trading practices. Traders loathe any change in the market because many thrive on its imperfections. Against this backdrop, the regulatory bodies are making endeavours to mitigate these irregularities and bring up the Indian market to international standards. It is working towards making India a global benchmark for capital market development. In this context, the regulatory authorities are trying to make the markets more vibrant and at the same time investor friendly and in alignment with the developments in the global financial markets. The regulatory developments have been continuous, reflecting the prevailing situations.

Regulatory Bodies in Indian Stock Markets

The Indian financial markets are regulated by various independent bodies. The Reserve Bank of India (RBI) regulates the banking and other financial institutions. RBI undertakes issuance of bank notes of all denominations and the distribution of onerupee and other coins. It also functions as the banker to the government and is the lender of last resort to other banks. RBI is also responsible for a variety of monetary functions such as controlling the amount of credit in the countryits banking system and oversees the functioning of the banking system and other financial institutions. Some key functions of RBI can be as follows Regulates primary dealers in the Government securities market Securities transactions involving a foreign exchange transaction need the permission of RBI. Regulatory involvement in the capital market, but this has been limited to debt management through primary dealers, foreign exchange control and liquidity support to market participants.

The capital markets in the country are regulated by the Securities and Exchange Board of India (SEBI). This autonomous body was created by the Government of India in 1998 to oversee all the regulatory aspects of the capital markets. It regulates the stock exchanges and takes care of the issuance listing and investor protection with respect to the equity and debt markets in the country. The Forward Markets Commission (FMC) has been formed to slowly take over all the regulatory roles to be played with respect to the commodity markets. It comes under the Ministry of Consumer

Page |9 Affairs and Public Distribution, government of India. The economic liberalization has made the commodities market more vibrant and the role of the government in the procurement and distribution of commodities, especially foodgrains, increasingly limited. This has necessitated the FMC to play a more active role in market making for the commodities. The regulatory body for the insurance industry is Insurance and Regulatory Authority (IRDA), set up for the sole purpose of deepening and regulating the insurance industry. The body takes up the regulation of the industry by laying down the guidelines and rules for the insurers and other intermediaries, solving disputes between them and protecting the investors.

Securities and Exchange Board of India (SEBI)

The Capital Issues (Control) Act 1947, which was administered by the Controller of Capital Issues (CCI), governed capital issues in India. As part of liberalizing reforms, CCI was abolished, and SEBI set up in1988, was made a statutory body in 1992. It mandates SEBI to perform a dual function: investor protection through regulation of the securities market and fostering the development of this market. SEBI has been vested most of the functions and powers under the Securities Contract Regulation (SCR) Act, which brought stock exchanges, their members, as well as contracts in securities which could be traded under the regulations of the Ministry of Finance. Following are the powers enjoyed: Certain powers under the Companies Act. Registering and regulating intermediaries, service providers , mutual funds, collective investment schemes, venture capital funds and takeovers Power to issue directives to any person(s) related to the securities market or to companies in areas of issue of capital, transfer of securities and disclosures. Powers to inspect books and records suspend registered entities and cancel registration.

In place of Government Control, a statutory and autonomous regulatory board with defined responsibilities, to cover both development & regulation of the market, and independent powers have been set up. Paradoxically this is a positive outcome of the Securities Scam of 199091. The basic objectives of the Board were identified as: To protect the interests of investors in securities; 2. To promote the development of Securities Market; 3. To regulate the securities market and 4. For matters connected therewith or incidental there to.
1.

SEBIs objectives, in line with public interest, are to protect the interests of investors, ensure the fairness, integrity and transparency of the securities market, and reach best international regulatory practices. SEBIs tasks and powers, expanded over time, are to regulate stock and other securities markets, register and regulate all intermediaries associated with securities markets. Under the SEBI (Amendment) Bill 2002 its powers were expanded to cover all transactions associated with the securities market. Following are the main functions of SEBI Regulates Capital Market

P a g e | 10 Checks trading of securities. Checks the malpractices in securities market. It enhances investor's knowledge on market by providing education. It regulates the stockbrokers and subbrokers. To promote Research and Investigation

The website of SEBI provides a plethora of information in terms of legal framework followed, various orders, rulings, guidelines, and regulations etc, which have been published by SEBI from timeto time. A special section Investor Guidance provides good support for the investor community in terms of FAQs, complaint forms etc. It also hosts various offer documents and their status, including initial public offering, rights issues, takeovers etc.

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xxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxxx xxxxxxxxxxxxxxxxxxxxxxxxxxxxx d allowed depended on investor category. Investors are categorized as small (or retail) and non retail. Retail investors were initially defined as those who bid for up to 1,000 shares. This definition was revised in 2003 when retail investors were defined as investors who bid for shares worth up to INR 50,000 (INR = Indian rupees). This threshold was increased to INR 100,000 in 2005. Retail investors could place market orders by bidding for a fixed number of shares at a price equal to the final offer price set by lead managers. Alternatively, retail investors could place limit orders within the pricing band. Nonretail investors include qualified institutional bidders (QIBs), high net worth individuals bidding above the retail investor threshold (HNI) and corporate bodies. These investors could only place limit orders for shares.

Some Issues Requiring the Attention of the Regulatory Bodies

Grading Of IPOs
Regulation in India requires that all firms coming to the equity markets for the first time after 1st of May 2007 need to be graded on a scale of 1 to 5 with 1 indicating poor fundamentals and indicating strong fundamentals when compared with the listed peers. Prior to the 1st of May 2007 the regulator had required the grading of IPOs to be optional at the discretion of the firm going public. The grading of IPOs in India is carried out by credit rating agencies which are registered with the regulator. These are Credit Analysis and Research Limited (CARE), ICRA Limited, CRISIL and FITCH Ratings. The grades are an independent opinion by an agency which is not connected with the placement of the IPO and has still got a reputational stake. This grade as well as its rationale given by the rating agency is required to be disclosed in the draft prospectus as well as all advertisements by the firm. The primary aim of the grading exercise is to provide some information to the uninformed investors regarding the fundamentals of the firm going public. The fundamentals are based on the comparison with the listed firms in the market. The rating agencies emphasize that the investment decisions are based on analysis of fundamentals, analysis of returns and investors preferences. The Grading of the IPOs addresses only the first of these issues. Therefore a high Grade may not result in an investment decision if the investors feel that the returns that they desire from the IPO and their investment preference do not match. The firm cannot reject the Grade granted to it by a rating agency but it can approach another rating agency. However, the firm must disclose in its prospectus all the grades that it has obtained. The Grade also has a validity period and on expiry needs to be revalidated by the rating agency which takes into account any material developments for or against the firm before this revalidation. The Grading exercise starts simultaneously with the

P a g e | 12 firm filing its draft prospectus before the regulators. In terms of the information content, the rating agencies have more information about the firm than is reflected in the draft prospectus.

Issue identified
The costs of the Grading are to be borne by the IPO firm of about Rs 5 15 Lakh. Therefore there is a likely conflict of interest between the rating agency which is supposed to grade the IPO and the issuing firm who is bearing the costs of this grade. Just like the Investment Bankers however there is likely to be a reputational stake for the rating agencies in the long term. The IPO grading, according to SEBI rules, is aimed at providing the investor with an informed and objective opinion. But at the same time, irrespective of the grade obtained by the issuer, investors need to make an independent judgement regarding the price before subscribing the shares offered through the public issue. Present IPO grading by credit rating agencies do not take the price of the issue into account. What this means is that a company with strong fundamentals may be assigned a higher rating or grade, but if priced expensively, the offering may not succeed in giving investors the expected returns over a period of time. For example, Emaar MGFs IPO grading was 5, but it still failed to attract investors as it was felt that is was priced expensively. That means that a higher grade may be misleading. Similarly, for a company whose initial fundamentals may appear bleak may receive a lower rating, but it may be priced reasonably, which could be beneficial for investors postlisting over a period of time, depending on market conditions. Those plumping for IPO ratings say that such rating is needed as it helps investors benchmark IPOs before investing. For example though the IPO grading of Reliance was 4 but it listed as overpriced. It is also seen that the larger firms get good grades compared to smaller firms and less depends on the viability of the project or the growth potential. Adani issue and NHPC issue both got a grading of 3 and both are said to be reasonably priced.

Giving Some Numerical Value to IPO Grades

Right now as mentioned the IPOs grades between value from 15, do not have the desired effect of bringing the investors and issuers on the same ground and reduce the volatility on the first day of the listing of issue. Some agencies like CRISIL say that it will not comment on pricing nor it will do audit, by saying this it diminishes the power of rating. Thus SEBI must look into this aspect as well so the grades reflect true picture and take the viability of the projects as well. A way needs to be sought so as to link the grades to IPO placement so that the purpose of grading can be fully realized. 1. It should be able to reduce the information asymmetry between issuers and the investors 2. The cost of grading fees paid by the gets offset by additional benefits to the issuers in the form of improved liquidity and valuation 3. Capital allocation is effective (right projects are getting right capital).

P a g e | 13 This can be done by attaching a numerical value to the grades. The ratings agencies need to be more accountable so as to remove any discrepancy.

Increasing the Investor Base in IPO Allocation

The SEBI should look forward to take steps to increase the investor base by increasing the proportion of shares allocated to retail investors. Though this was done in 2005 by SEBI by increasing proportion of retail investors by 10% to 35 %, but it needs to be increased further. This will help in reducing the speculation and volatility in stock prices. It will also prevent the leverage taken by non retail buyers by selling the shares as soon as issue is listed.

Shortening the IPO Process

At present, the process from the day IPO opens for subscription to, till it lists on the stock exchanges takes 2022 days. The more the duration, more is the scope for speculation and manipulation of price of the issue. Some initiatives need to be taken to reduce the duration of this IPO process to ensure a relatively less movement in the price. A possible alternate could be to shift to the electronic mode. Information such as address and bank account details going into a physical IPO application is already available with depositories. Suitable software can import all that information on to an online form through the investors unique depository number or PAN.

Putting a Cap on Bonus Issue

The exchange can put a cap on companies about when bonus share is to be issued. Strictly speaking, the bonus is to be issued only when the company is earning some profit and it wants to distribute the profit. The decision of bonus issue sometimes acts as a tool to increase the price of stock. There should be some time difference between the stock issue and the bonus announcement so that the price at the time of issue could reflect the actual worth of the company.

Putting a Cap on the Level of Subscription

Many IPO have seen multiple times subscription, e.g.: Reliance Power, Future Group was subscribed 73, 133 times before it closed. It causes a lot of speculation and ultimately contributes to the un stability of the market. It also results in locking in of the investors money and additional refund cost for the companies. Though this is purely a market activity, SEBI being a regulator needs to have a cap on how much oversubscription is allowed. This is similar to keeping an upper cap on the listed stocks price in a day.

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Market Distortions and Regulations Needed

There are four broad categories of persons involved in the stock market frauds. They are: Companies Facilitators Individual investors Others

The frauds can also be classified with respect to market. They are, Bull/Bear operations Circular trading Benami deals Price rigging Insider information Concentration of market in few hands

Coe frenzy and the circle become bigger, the Stock Brokers leave the circle leaving behind gullible
individual investors, who lose their money, because of the undue appreciation / fall in the prices of the shares. They make use of the nonuniformity in the settlement dates of various stock exchanges and shift their positions from one exchange to the other, without transfer of funds.

IFCI: A Case in point

About IFCI:
The government established The Industrial Finance Corporation of India (IFCI) on July 1, 1948, as the first Development Financial Institution in the country to cater to the longterm finance needs of the industrial sector. The newlyestablished DFI was provided access to lowcost funds through the central bank's Statutory Liquidity Ratio or SLR which in turn enabled it to provide loans and advances to corporate borrowers at concessional rates.

P a g e | 15 By the early 1990s, it was recognized that there was need for greater flexibility to respond to the changing financial system. It was also felt that IFCI should directly access the capital markets for its funds needs. It is with this objective that the constitution of IFCI was changed in 1993 from a statutory corporation to a company under the Indian Companies Act, 1956. Subsequently, the name of the company was also changed to IFCI Limited with effect from October 1999. Until the establishment of ICICI in 1956 and IDBI in 1964, IFCI remained solely responsible for implementation of the governments industrial policy initiatives. It made a significant contribution to the modernization of Indian industry, export promotion, import substitution, pollution control, energy conservation and generation through commercially viable and market friendly initiatives. Some sectors that have directly benefited from IFCI include Agrobased industry (textiles, paper, and sugar), Service industry (hotels, hospitals), Basic industry (iron & steel, fertilizers, basic chemicals, and cement), Capital & intermediate goods industry (electronics, synthetic fibres, synthetic plastics, miscellaneous chemicals) and Infrastructure (power generation, telecom services) IFCI is one of stocks which is traditionally a punter stock were the prices rise/fall without much of reason. In this case to the same has happened.

Stake sale:
IFCI Limited has informed the Exchange that: The Board of Directors of IFCI at its meeting held on the 6th July, 2007 transacted the following business: a) Approved, in principle, proposal for inviting 'Expression of Interest' from strategic investors in accordance with longterm vision and business objectives of IFCI. This news seems to have not much effect on the stock since there is not substantial rise in the stock price. But the stock price was continuous rising from Rs.12 during the start of the year to about Rs.60 on July 6th 2007 even though there seems to be not much of change in the fundamentals. Goldman Sachs on 14th august acquired 20 Lakh shares of IFCI in open market operation (at prices above Rs 60 per shares). The current holding is around 5.21 %. Again this news did not have much effect on the stock price. On September 17th IFCI announced that it had obtained the names of strategic investors to which it would sell about 26% of the stake (the decision was taken on 15th September 2007). The companies were in that list, GE Capital, Kotak Mahindra Bank, Consortium of Sterlite Industries (India) Limited and Morgan Stanley & Co, Infrastructure Development Finance Company Limited, Newbridge Asia IV, L. P, Consortium of WL Ross & Co. LLC, GS Capital Partners VI Fund, Standard Chartered Bank & Housing Development Finance Corporation Limited, Cargill Financial Services Corporation, Consortium of Shinsei Bank Limited, Punjab National Bank and J.C. Flowers & Co. LLC, Natixis, and The Blackstone Group L.P. Yet again the stock did not change much due to this news. And the stock was rising slowly and reached Rs.100 on 25th September backed by huge volumes (more than twice the average) Price of IFCI on 24th and 25th September 2007 and the volume traded 98.35 145412001

P a g e | 16 101.95 117671326

Goldman Sachs Disposed 24,714,970 shares (3.87%) this news was available on NSE website but did not make it to the news much and as expected there is not much change in the stock price yet again. The whole stake sale news was going on till 20th of December. During this time, IFCI was filtering out the potential strategic partner step by step. At the same time, on 7th December 2007 IFCI announced that it will be offering options to 30 banks and financial institutions to convert less than 50 per cent of their Rs 1,479crore zero coupon debentures into equity. The point to note here is that the price has raised so much (Rs.12 to Rs.101 on 7th December 2007) due to news like stake sale etc. At this juncture IFCI wants to pay off its debtors by way of allowing them to convert their debt to equity. Within 10 days the price rose to its 52 week high of Rs.121 on 17th December 2007 backed by huge volumes (109444579 shares) and the same trend continued on 18th December 2007 too and on 20th December 2007. IFCI came up with the news that it has called off the stake sale, and the price plunged to Rs.76 with an intraday loss of nearly Rs.20, the stock went to as low as Rs.41 on March 2008 and to Rs.17 on October 2008. The most interesting aspect of this case was the price did not rise on good news whereas it was slowing and continuously rising but when the bad news broke out the price plunged. The whole stake sale seems to be way to distort the stock price and the stake sale was called off just two days after the offer to the debtors was made and in these two the volume on this stock was again much more than the 10 day average.

SEBIs Recent Initiative

In 2005, SEBI made a tie up with HCL to put new market surveillance in place. There is an existing library of 200 situations which can be used by the system to prompt a near realtime alert at the SEBI surveillance. Once installed, SEBI's system will be capable of innumerable things, allowing the regulator a `God's eye' view of equity and derivatives trades across the country. If someone places a large order for scrip which rises, only to cancel it later and sell his own stock before the scrip falls, the system can sound an alert. Market manipulation, insider trading, inflating prices at the start of trade in the morning or at close of trade in the evening, wash trades... all these can be recorded and mapped against client IDs. Not only that, the system can record and map transactions against news feeds. Is the stock price based on certain news that may have been planted by interested parties? It can also integrate any nonpublic information that may be available. SEBI's tender for the system took nearly a year to finalise. HCL Infosystems will do the systems integration, providing hardware, implementing software and establishing all the networking that is required in this contract that is worth more than Rs 26 crore. Disaster recovery systems would also be set up to ensure that the system can run 100 per cent of the time. Once installed, SEBI's system will be capable of innumerable things, allowing the regulator a `God's eye' view of equity and derivatives trades across the country.

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Regulatory Issues Related To FIIs in India

Introduction
The growth of institutional investors in the market is having its own advantages as well as its own share of problems on the brighter side almost always purchase stocks on the basis of fundamentals. And this means that it is essential to have information to evaluate, so research becomes important and this leads to increasing demands on companies to become more transparent and more disclosures. This will lead to reduction in information asymmetries that plagued the Indian markets for quite a while. Also, the increasing presence of this class of investors leads to reform of securities trading and transaction systems, nurturing of securities brokers, and liquid markets. If we see the numbers of FII flows, it is increasing every year:

On the flip side the increase of foreign investors in particular will bring a very welcome inflow of foreign capital, but there are always some dangers if certain limits are exceeded.
Year 2003 2004 2005 2006 2007 2008 (10/08/08) Gross Purchases 94410.5 185671.5 286020.5 475622.5 814877 560480.9 Gross Sales 63951.8 146706.4 238839.4 439082.8 743390.7 589650

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From the above chart we can see that FIIs sale in stock market for every year was very close to the purchase figure. This clearly indicates FIIs to be a more of short term player than a long term player. Though, this short term activity has provided liquidity to the market but at the same time has been the reason for the major intraday falls in BSE.
Day (Points Loss in Sensex) 21/01/2008 (1408) 22/01/2008 (875) 18/05/2006 (856) 17/12/2007 (826) 18/10/2007 (717) 18/01/2008 (687) 21/11/2007 (678) 16/08/2007 (643) 02/08/2007 (617) 01/08/2007 (615) Gross Purchases (Rs. Crores) 3062.00 2813.30 761.80 670.00 1107.00 1077.20 640.70 989.50 534.50 809.40 Gross Sales (Rs. Crores) 1060.30 1618.20 527.40 869.00 1372.50 1348.40 791.80 750.30 542.00 956.90 Net Investments (Rs. Crores) 2001.80 1195.10 234.40 -199.00 -265.50 -271.20 -151.10 239.20 -7.50 -147.50

From this table, we can see that the major falls are accompanied by the withdrawal of investments by FIIs. Take the case on January 18, 2008, the Sensex lost almost 687 points. Here, the net sale by FIIs was Rs. 1348.40 Crores. This is a major contributor to the fall on that day. But contrary to that day, take the case on January 21, 2008, the Sensex lost 1408 points and the gross sales was Rs. 1060.30 Crores and the purchases were Rs. 3062.00 Crores. So this can be concluded that after the fall of market, FIIs had invested again into the market. From this, we can see the effect of FIIs.

P a g e | 19 highly influenced by the FII selling sprees that have happened after global meltdown, resulted in such an acute fall of Sensex and Nifty.

Analysis & Suggestions

Following are some of the key SEBI regulations, which should be analyzed in order to understand and address the issue highlighted above. The important issues which exist in the regulations and resulting in such troubles for investors are highlighted. We feel that these regulations should be relooked/revised so as to incorporate the required points. (Source: Press Note dated 14th Sept. 1992 of Department of Economic Affairs, (Investment Division), Ministry of Finance) 1. Foreign Institutional Investors (FIIs) including institutions such as Pension Funds, Mutual Funds, Investment Trusts, Asset Management Companies, Nominee Companies and Incorporated/Institutional Portfolio Managers or their power of attorney holders (providing discretionary and nondiscretionary portfolio management services) and nondiscretionary portfolio management services) would be welcome to make investments under these guidelines. 2. FIIs would be required to obtain an initial registration with Securities and Exchange Board of India (SEBI), the nodal regulatory agency for securities markets, before any investment is made by them in the Securities of companies listed on the Stock Exchanges in India, in accordance with these guidelines. Nominee companies, affiliates and subsidiary companies of a FII will be treated as separate FIIs for registration, and may seek separate registration with SEBI. 3. Since there are foreign exchange controls also in force, for various permissions under exchange control, along with their application for initial registration, FIIs shall also file with SEBI another application addressed to RBI for seeking various permissions under FERA, in a format that would be specified by RBI for this purpose. RBI's general permission would be obtained by SEBI before granting initial registration and RBI's FERA permission together by SEBI, under a single window approach. 4. SEBI's initial registration would be valid for five years. RBI's general permission under FERA to the FII will also hold good for five years. Both will be renewable for similar five year periods later on. 5. There would be no restriction on the volume of investment minimum or maximumfor the purpose of entry of FIIs, in the primary/secondary market. Also, there would be no lockin period prescribed for the purposes of such investments made by FIIs. It is expected that the differential in the rates of taxation of the long term capital gains and short term capital gains would automatically induce the FIIs to retain their investments as long term investments. As we have seen, that the volume game by FIIs lead to extreme volatility and free fall of markets and ultimately resulting in huge investor losses. We feel there should

P a g e | 20 be a restriction on the volume of minimum or maximum or there should be a minimum lockin period for atleast 3 years to ensure that stock volatility is under control investors realize reasonable returns/losses. 6. Portfolio investments in primary or secondary markets will be subject to a ceiling of 30% of issued share capital for the total holdings of all registered FIIs, in any one company. The ceiling would apply to all holdings taking into account the conversions out of the fully and partly convertible debentures issued by the company. The holding of a single FII in any company would also be subject to a ceiling of 10% of total issued capital. For this purpose, the holdings of an FII group will be counted as holdings of a single FII. 7. Disinvestment will be allowed only through stock exchange in India, including the OTC Exchange. In exceptional cases, SEBI may permit sales other than through stock exchanges, provided the sale price is not significantly different from the stock market quotations, where available. 8. All secondary market operations would be only through the recognized intermediaries on the Indian Stock Exchange, including OTC Exchange of India. A registered FII would be expected not to engage in any short selling in securities and to take delivery of purchased and give delivery of sold securities. 9. FIIs investing under this scheme will benefit from a concessional tax regime of a flat rate tax of 20% on dividend and interest income and a tax rate of 10% on long term (one year or more) capital gains.

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Conclusion
The paper has enumerated regulations in the context of capital market development in Indiathe many achievements and further potential improvements. Theres a lot of flexibility in the market, which is a good thing. Deregulation of government controls is accompanied by continuous re regulation, which allows more economic freedoms and incentives but enforces strict rules and more transparency. A safe environment for more participation, depth in instruments, and financial innovation is required. Innovations are necessary to draw in the retail investor, the small firm and startups. This should happen with a revival of growth, better implementation of regulations, and adjustment in procedures to encourage the small investor. As the era of information technology is coming in online trading, online Demat accounts need sufficient amount of regulations and security aspect. Or the convenience for investors can turn into the havens for foul players. Further concrete steps need to be taken in by SEBI as the market is evolving. A lot of volatility was seen in stock market over past 1 and half years with events like financial crisis, Reliance IPO, Satyam fiasco etc. Lots of investors lost their hard earned money in this volatile market. So SEBI needs to work on making stock markets a relatively safe place for investors to invest in. It needs to take concrete step to prevent scams, and market distortions. On 29th July only, SEBI's amended regulations to prohibit companies from issuing shares with superior rights Vis a Vis the rights of existing shareholders. SEBI's step is to prevent situations wherein companies come out with followonissues, rights issues or preferential allotments with higher voting rights per share, helping promoters get greater control in the company. Thus, steps are being taken by SEBI to safeguard interest of the investors, as growth revives and markets become more active, the tight norms established and the deep steady capital market reforms, to which SEBI has contributed, will pay off. The next step for SEBI to look forward to is to bring in self regulation in the various market intermediaries and corporate governance in various market players. Strengthening the self regulation mechanisms is very critical for safe guarding the markets.

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