16 March 2019

Regulator regulate yourself

I have an op-ed in today's Economic Times. In summary I believe that interim ex parte orders though useful should be used very rarely and narrowly by SEBI. Here is the piece from the paper and linked here:
While appearing in the securities appellate tribunal for a matter, I saw aperson upset. He was the CEO of a large company that had been barred by Sebi by way of an ex parte interim order — that is, his company was barred without hearing, without as much of an investigation. All its demat account and bank accounts had been frozen. To top it all, the CEO’s personal bank accounts and demat accounts had also been frozen, even though there was no allegation of any personal misconduct.
I later reviewed the order passed by Sebi that reflected injustice in the way the regulator rather regularly passes ex parte interim orders. To be sure, these powers can be very effective in preventing harm. For instance, where a massive fraud is underway and third party rights are being created, Sebi would rightly block the transfer of securities by way of such an order.
An ex parte interim order virtually freezes the business, securities and bank accounts of dozens of people in one swift order. Few facts are available and the order is passed on merely a prima facie view. Since the order is passed without a hearing, a hearing is given within a few weeks.
Once this hearing is given, again, without any additional facts, Sebi often confirms the barring order.
So, a person presumably not guilty is barred from accessing his own bank account. Sometimes, such orders extend to the entire family of the promoter of a company. After this ‘confirmatory order’, Sebi goes into ‘fact-finding’ mode, which can last well over a year. If the interim freeze order has not been qualified or raised, a person must suffer the freezing of his bank accounts and mutual fund/demat accounts till the time Sebi completes its investigation, gives another hearing to the accused and passes a final order.
This process currently takes 1-3 years. In an ordinary criminal case, an accused is usually given bail, a chance to defend himself before a final conviction. In ex parte interim cases, Sebi first passes the economic ‘beheading’ order, gives a hearing and then investigates whether the beheading was justified.

Three issues are at play. One, that once you have ‘beheaded’ someone, it is difficult to justify letting that person off. That would suggest that the interim action was wrong in the first place. Two, the availability of such orders gives Sebi the appearance of being a merciless regulator even when it is not needed to be merciless.
Three, the interim order gives Sebi afree pass to investigate for an indefinite period, all the time barring the suspected violator not just from acting in the market, but also restricting any withdrawal of personal bank funds.
The longer the order stays, the more harsh the penal consequences. So, should the process be consigned to the dustbin of history? Not at all.
We have seen cases where the powers have been effectively used to prevent further harm to the market. Almost none of these cases relied on freezing bank accounts and securities accounts, and powers used have been very specific in their scope. For instance, where bogus securities are created, afreezing order of those counterfeit securities is in order to prevent third party victims.
Second, apart from in the most exceptional cases, freezing of bank accounts, particularly personal bank accounts, is almost always disproportionate. In most cases where some violation has occurred — say, insider trading — the promoters have a lot of skin in the game, and there is almost no chance of them running away to Antigua or London to evade paying whatever amount they are alleged to have made, assuming they have committed the violation.
Finally, in the few cases where such an order is warranted, Sebi should set an internal deadline of finishing its investigation within two weeks, or lift the interim order automatically. In short, Sebi should stop behaving like a swashbuckling Tarantino character.

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