Emulate NASDAQ on settlement of cases

Emulate NASDAQ on settlement of casesAT Invest India’s annual summit a week ago, David Katz of the National Association of Securities Dealers Regulation Inc.(NASDR Inc.) admitted that if an investigation goes through formal proceedings it takes “forever” (almost two years) to be completed, even in the USA. L.K.Singhvi, senior executive director of the Securities and Exchange Board of India (SEBI), perked up visibly on hearing Katz. Singhvi, who is in charge of enforcement and surveillance, is often under considerable pressure because of the slow and ponderous pace of SEBI’s investigations. Brokers and companies, involved in the payment crises precipitated by the price rigging allegedly led by Harshad Mehta in June 1998 have still to be punished. Investigations into violation of the takeover code, insider trading, non-disclosure by companies, etc, also go on forever and SEBI is complaining about the absence of adequate powers to deal with offenders. The few cases that have led to punishment invariably gointo appeal and then land up in court, with very little deterrent effect on wrongdoers. If anything, they assume the air of the defiant injured party. Contrast the helplessness of the Indian regulators with a self-regulated entity — NASDAQ of the US. The exchange has a separate company to handle regulation and enforcement, at which Katz is assistant chief counsel. He says that the separation or the regulatory function allows it to regulate members without interference or influence by member brokers. The self-regulation at NASDAQ, which was admittedly tightened dramatically after a massive clean-up ordered by America’s Securities Exchange Commission (SEC) a few years ago, is now worth emulating. In an average month, the NASDR posts on its website at least 100 punitive actions against its members firms and companies listed on it. While very few are outright expulsions of trading members, most pertain to trading malpractice, inadequate reporting and training, not providing information in the requiredformat and even shielding other members/individuals against regulatory action. Punishment ranges from suspension to fines starting at around $10,000 and rising in proportion to the offence. Often it is accompanied by the humiliating order to re-qualify as a registered securities dealer and, in cases directly affecting investors, compensation or restitution is ordered. The statement that the intermediary has agreed to comply with the punitive action without admitting to or denying the charges accompanies most orders. There is a set of people who believe that punishment without admitting the charge is meaningless. But Katz explains why this works. He says even if the member does not specifically admit to a charge, the fines are usually high enough to take away all the wrongful gain from the offence and then some. The incentive for repeating the mischief is eliminated. Over 95% of Nasdaq investigations are thus “settled” without admitting to the charges. The member firm not only pays up but allowsits misdemeanour to be published on an open website. In India investors and investors’ associations are coming round to the view that such `settlements’ are badly needed. At a national convention of investor associations in Ahmedabad in March, the associations demanded such a system. The Dhanuka panel set up by SEBI to suggest comprehensive securities regulation had also recommended the practice of “compounding” offences. This should be permitted, both at the self-regulation stage as well as direct investigation by the regulator. It would prevent investigations being bogged down in red tape, stop regulators from blaming the judicial system and intermediaries from taking advantage of it, and provide quick compensation to investors. and , as Katz says, the hefty fines take away ill-gotten profit and create a disincentive to repeat the mischief. Compounding can be made ineffective unless it follows some critical ground rules. Even if the charges are not admitted, the punishment will have to be publishedthrough a comprehensive order and posted on the Internet for future reference. Second, the fines/suspension have to be exemplary to serve as a deterrent. The settlement has to take place within a fixed time. Finally, the body which decides the penalty should have representation from investor associations. In India, compounding of offenses is already allowed by several investigating agencies, but it is meaningless because it is never publicised. Curiously, self-regulatory bodies, with the odd exception, have shown little interest in tightening regulation. In the Indian situation, the role of NASDAQ will have to be played by SEBI and it can be made far more effective even without giving it the powers of search and seizure. Tailpiece Anand Rathi, the new President of the Bombay Stock Exchange (BSE), had an interesting new line last week. He was quoted as saying that he has had several meetings with officials and regulators to demand a level playing field between the National Stock Exchange and the BSE.Interesting, isn’t it? Clearly the savvy Rathi is banking on short public memory. In fact, the NSE owes its very existence to the BSE. Had the BSE not refused to change, computerise, clean up its act, complete settlements on schedule and stop broker defaults from hurting innocent investors, the NSE would never have been thought of. Further, if the BSE did not continue to fight regulation or fail to anticipate the challenge posed by a professionally run exchange, the NSE would never have overtaken its turnover in three months flat. Also, if the BSE did not continue to have problems with its clearing house, its various executive directors, president and vice presidents, Rathi’s charges would be credible. It is certainly possible that Rathi will transform the BSE, but he should not get carried away about cleaning up an imperfect past. The truth is that far from stymieing the BSE’s progress, the system has been far too lenient with the BSE’s recalcitrance because of its 130-year pedigree. Authorse-mailsuchetadalal@yahoo.com