Explained | How is the stock market regulated in India? Premium

What is the regulatory framework in place to protect investors from share market volatility? Does the Securities and Exchange Board of India have the powers to act in the interest of investors? What are the laws to help SEBI? When can it step in?

The story so far: On February 10, the Supreme Court asked the Securities and Exchange Board of India (SEBI) and the government to produce the existing regulatory framework in place to protect investors from share market volatility. After short-seller Hindenburg Research published a report in January accusing the Adani Group of stock market manipulation and accounting fraud, its shares plummeted and investors were reported to have lost lakhs of crores.

The securities market in India is regulated by four key laws — The Companies Act, 2013, the Securities and Exchange Board of India Act, 1992 (SEBI Act), the Securities Contracts (Regulation) Act, 1956 (SCRA) and the Depositories Act, 1996. The framing of these laws reflect the evolution and development of the capital market in India.

The SEBI Act empowers SEBI to protect the interests of investors and to promote the development of the capital/securities market, besides regulating it. SEBI was given the power to register intermediaries like stock brokers, merchant bankers, portfolio managers and regulate their functioning by prescribing eligibility criteria, conditions to carry on activities and periodic inspections. It also has the power to impose penalties such as monetary penalties, including suspending or cancelling the registration. The SCRA empowers SEBI to recognise (and derecognise) stock exchanges, prescribe rules and bye laws for their functioning, and regulate trading, clearing and settlement on stock exchanges. As part of the development of the securities market, Parliament passed the Depositories Act and SEBI made regulations to enforce the provisions. This Act introduced and legitimised the concept of dematerialised securities being held in an electronic form. Today almost all the listed securities are held in dematerialised form. SEBI set up the infrastructure for doing this by registering depositories and depository participants. The depository regulations empower SEBI to regulate functioning of depositories and depository participants by prescribing eligibility conditions, periodic inspections and powers to impose penalties including suspending or cancelling the registration as well as monetary penalties.

While SEBI does not interfere to prevent market volatility, exchanges have circuit filters — upper and lower — to prevent excessive volatility. But SEBI can issue directions to those who are associated with the market, and has powers to regulate trading and settlement on stock exchanges. Using these powers, SEBI can direct stock exchanges to stop trading, totally or selectively. It can also prohibit entities or persons from buying, selling or dealing in securities, from raising funds from the market and being associated with intermediaries or listed companies.

The Companies Act, which regulates companies incorporated/registered in India, has delegated the authority to enforce some of its provisions to SEBI, including the regulation of raising capital, corporate governance norms such as periodic disclosures, board composition, oversight management and resolution of investor grievances. In order to regulate fund-raising activities, SEBI first brought out a set of guidelines called the Disclosure and Investor Protection Guidelines which were thereafter subsumed into a more comprehensive Issue of Capital and Disclosure Requirement Regulations. In order to ensure that listed companies followed corporate governance norms, SEBI notified the Listing Obligations and Disclosure Requirements Regulations in 2015.

Besides these regulations, the Collective Investment Regulations define a CIS (collective investment scheme) and provide for penal actions against those running unregistered CIS schemes. Entities involved in fund-raising through issue of capital such as merchant bankers are also regulated through specific regulations.

The SCRA has empowered SEBI to recognise and regulate stock exchanges and later commodity exchanges in India; this was earlier done by the Union government. In fact, the term “securities” is defined in the SCRA and powers to declare an instrument as a security remain vested in SEBI. The rules and regulations made by SEBI under the SCRA relate to listing of securities like equity shares, the functioning of stock exchanges including control over their management and administration. These include powers to determine the manner in which a settlement is done on stock exchanges (and to keep them with the times for e.g. T+1) and recognising and regulating clearing corporations, which are central to the management of the trading system.