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Front running: Sebi likely to soon initiate stringent action

On May 19, Axis Mutual Fund terminated its chief dealer Viresh Joshi, who was under investigation for irregularities, including front-running the AMC’s transactions.

Written by Sandeep Singh | Mumbai |
Updated: May 23, 2022 4:21:08 pm
Sebi building, Mumbai. (File)

Concerned over the recent case of front-running in the mutual fund industry and possibility of similar practices happening, the Securities and Exchange Board of India (Sebi) is likely to take stringent action, which may include action against top officials of the fund house. A source close to the development said Sebi is closely monitoring the situation and its actions may follow soon.

On May 19, Axis Mutual Fund terminated its chief dealer Viresh Joshi, who was under investigation for irregularities, including front-running the AMC’s transactions. A couple of days later, it sacked its second fund manager Deepak Agrawal on similar charges. The fund house had suspended the two fund managers on May 6, after irregularities running into several crores at the fund house came under the scanner of the market regulator.

Front-running involves purchasing a stock based on advance non-public information regarding an expected large transaction that will affect the share price of a company. When MFs purchase in huge quantities, it leads to rise in share price, resulting into illegitimate gains for the front runners.

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Sebi has investigated and penalised several brokers, fund houses and fund managers in the past for front-running. In June 2021, it passed an order against three dealers of Reliance Securities for front-running the trades of an alternative investment fund. In the HDFC MF front-running case, Sebi passed several orders, over the last few years, including disgorgement of illegal gains and penalty on several entities including the former equity dealer of HDFC MF for numerous instances of front running in 2006 and 2007.

Stating that investor protection is one the key roles of the regulator, the source added that Sebi is looking at various aspects of primary and secondary market in order to safeguard retail investors, who have been entering the markets in large numbers over the last two years. The number of investor accounts with CDSL and NSDL has jumped from 4.06 crore in March 2020 to 9.2 crore at the end of April 2022.

While on the primary market front, the regulator is keen on enhancing disclosure and compliance requirement for listing of new-age technology companies, for the secondary market participants, it is keen on enhancing awareness around responsible investing as lot of new customers are going for speculative trading.

“What we worry about is the increasing amount of trading in the  segment. As margins have increased for futures, they are shifting to options and largely in index options. It is pure trading … People need to be educated and made aware of the risks of these trades and so there is a thinking that it might be the right time for the broking community to come out with campaigns like responsible trading,” said the source.

As concerns have been growing around valuations being commanded by new-age loss-making technology companies when they come out with their public issues, the regulator may be of the view that while it may leave the price determination with the markets, it may introduce disclosures that may take away liberty of the company management and merchant bankers from commanding unreasonable valuations.

The source said that the companies will have to disclose the change in financially quantifiable metrics that have resulted in increase in valuation and if there is no change in such metrics, then they will have to disclose upfront that there has been no change in the financial metrics but the valuation has gone up by ‘x’ times. So, they will have to disclose reasons for the increase in valuation since the last funding round.

The source added that there was a thinking in the past that if the regulator had brought stringent regulations at the time of permitting loss-making new age technology companies to raise funds through public issues, it would have attracted lot of criticism. But now, with some not-so-happy experiences across several listings, additional regulations and compliances can be brought in and there is call for it, too.

“Sometimes you need to buy the time. And after what has happened with a couple of issues the regulator thinks that they can bring in the reform as people sometimes need to understand the need for reform and now everyone is aware of the issue and they feel that changes are needed,” the source said.

The regulator is also looking at adding more disclosures for such companies.

Among some other key changes, the regulator is also learnt to be closely monitoring the appointment of chief financial officers (CFO) by several of these companies and may bring in a new compliance requirement with respect to CFO appointment for companies coming with public offering.

“It has been noticed that in several cases the CFOs are appointed few days before the issue and he/she signs up on all the financial details. Sebi is considering to make it mandatory for companies to appoint the CFO atleast 2-3 quarter before the IPO and deliberations are going on this particular issue as of now,” the source said.

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