Security And Exchange Commission And Security And Exchange Board Of India A Comparative Study On Insider Trading.docx

Project Assignment on Company Law II Topic: SECURITY AND EXCHANGE COMMISSION AND SECURITY AND EXCHANGE BOARD OF INDIA: A COMPARATIVE STUDY ON INSIDER TRADING

Submitted by: - Apurv Luniyal Division: - B

B.A. LL.B.

PRN: - 16010323108

Symbiosis Law School, Hyderabad Symbiosis International University, Pune In December, 2018 to April, 2019 Under The Guidance of Mr. Chandrasekhar Alladi (Asst. Professor) Company Law SLS-Hyderabad

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CERTIFICATE

The project entitled “Security and Exchange Commission and Security and Security and Exchange Board of India: A Comparative Study on Insider Trading” submitted to the Symbiosis Law School, Hyderabad for Company Law II as part of Internal Assessment is based on my original work carried out under the guidance of Mr. Chandrasekhar Alladi from December, 2018 to April 2019. The Research work has not been submitted elsewhere for award of any degree. The material borrowed from other sources and incorporated in the research paper has been duly acknowledged.

I understand that I myself would be held responsible and accountable for plagiarism, if any, detected later on.

Signature of the Candidate: Date: 28th March, 2019

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ACKNOWLEDGEMENT

Before we get into thick of things, I would like to add a few words of appreciation for the people who have been a part of this project right from its inception. The writing of this project has been one of the significant academic challenges I have faced and without the support, patience and guidance of the people involved, this task would not have been completed. It is to them I owe my deepest gratitude.

It gives me immense pleasure in presenting this project report on “Security and Exchange Commission and Security and Security and Exchange Board of India: A Comparative Study on Insider Trading”. The success of this project is a result of sheer hard work, and determination put in by me with the help of my project guide. I hereby take this opportunity to add a special note of thanks for my Company Law teacher Mr. Chandrasekhar Alladi who undertook to act as my mentor despite his many other academic and professional commitments. His wisdom, knowledge, and commitment to the highest standards inspired and motivated me. Without his insight, support and energy, this project wouldn’t have kickstarted and neither would have reached fruitfulness.

I also feel heartiest sense of obligation to my library sir & ma’am, and other staff members, who helped me in collection of data and resource material and also in its processing as well as in drafting manuscript. The project is detailed to all those people, who helped me while doing this project.

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Table of Contents

Introduction ................................................................................................................................ 1 Aim(s) ........................................................................................................................................ 3 Objective(s) ................................................................................................................................ 3 Scope and Limitations................................................................................................................ 3 Review of Literature .................................................................................................................. 3 Research Questions .................................................................................................................... 4 Research Methodology .............................................................................................................. 5 INSIDER TRADING AND ITS REGULATION IN INDIA ............................................... 6 JUDICIAL INTERPRETATION ........................................................................................... 8 A COMPARISON BETWEEN THE LEGAL SYSTEMS IN INDIA AND THE UNITED STATES.................................................................................................................. 10 LACUNAE IN THE FRAMEWORK: THE AREAS THAT NEED A RELOOK .......... 13 Conclusion .............................................................................................................................. 15

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Abstract The growth of business in India after the reforms in 1993 led to many structural changes, one among the prominent one was the formation of SEBI to regulate the markets in India. Insider Trading generally refers to trading by a person based on inside information. Even though economists around the world have not yet reached a consensus on whether banning insider trading enhances market efficiency or not, the regulators all over the world have been attempting to curb insider trading for a long time now. Insider trading has been a controversial issue in India as well and is closely monitored by the Securities and Exchange Commission. Section 16 of the 1934 Act prevents short-term trading and other transactions in a corporation’s securities by corporate insiders. In this research paper an effort is made to compare the legal framework in India to the one present in the United States for the regulation of matters relating to insider trading. In addition to this the areas of the regulations which suffer from certain lacunae will also be recognised. A study of how the court has over the years interpreted various cases relating to insider trading will also be considered, thereby creating a clear view as to how and what changes must be incorporated in the present law in order to have a more advanced system of regulation like that in the USA.

Introduction After the liberalisation policy was taken up by India in 1991, the growth of Capital market started to increase at a rapid speed. The already existing organisations of the time like the CCI (Controller of Capital Issues) and the Department of Company Affairs were looking after other aspects which made the people realised the need for a single authority to regulate and administer the security law in the country. Keeping this point in mind SEBI (Security and Exchange Board of India) which was earlier established as an administrative body in April 1988, was given a statutory status under section 3 of Securities and Exchange Board of India Act, 1992 on 30th January 1992.1 This made SEBI a corporate body, thus having a separate legal existence. The SEC on the other hand was set up in an era that was ripe for reform. Before the great depression of 1930, there was little support for the regulation of the securities market. People tempted by the promise of ‘rags to riches’ transformation and easy credit, most investors gave little thought to the systematic risk that arose from the widespread abuse of margin financing and unreliable information about securities in which they were investing.2 After the First World War a large number of shareholders took advantage of the post-war prosperity and made their fortune, also the $50 billion in new securities that was offered during this period half had become meaningless. Moreover, the

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Rajiv Kumar Singh, Role of Securities & Exchange Board of India (SEBI) in regulating Mutual Funds, http://sgsrjournals.com/paperdownload/5.pdf 2 U.S. Securities and Exchange Commission, https://www.sec.gov/about/whatwedo.shtml

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Great Depression made the people lose confidence in the market and resulted in the both the large and small investors lose huge sums of money. The Congress realised that it was essential to bring back the trust of the public in the capital markets and so held hearings to identify the issues and find solutions to them. Based on the findings in these hearings, Congress — during the peak year of the Depression — passed the Securities Act of 1933. This law, together with the Securities Exchange Act of 1934, which created the SEC, was designed to restore investor confidence in our capital markets by providing investors and the markets with more reliable information and clear rules of honest dealing.3 Insider trading means the dealing in securities a company on the basis of certain confidential information relating to the company which is not published or not in the public domain. It classically involves the breach of a fiduciary duty by the officers of any company or by such connected persons. SEBI is the regulatory authority in India which deals with such manipulative and deceptive trade practises. In the USA, it is the SEC which has been entrusted with the function of regulating such mal-practises by the persons involved in trade practises. Section 16 of the SEC act deals with matters relating to insider trading in the United States. This research paper will be dealing with various aspects of SEBI and the SEC and will analyse the different functions and objectives that the carried out by both the institutions in matters of Insider trading. It will further make a comparative analysis of both the commissions and will focus on the areas in which the SEBI needs a relook considering the functions of SEC.

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Ibid at 2

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Aim(s) The aim of this research paper is to study the role of SEBI in dealing with the matters of insider trading in India. It will also make a comparative study of the provisions and regulations that governs insider trading in India to that in the United States by the SEC. Objective(s)  To study the laws relating to regulation of insider trading in India that are regulated by SEBI.  To analyse and compare the role of SEBI and SEC in regulating insider trading in India and USA.  To recognise the areas of the regulations that suffer from certain lacunae and the changes that can

be made thereon.  To study the various judicial interpretation of the courts in matters relating to insider trading in

India and to recognise the role it has played in the development of the regulations in India. Scope and Limitations The scope of this research paper is limited to the study of the insider trading regulations in India and it comparison to the regulations put in place in the USA by the SEC. It will be limited to a comparative study of the regulations of the two legal system and it point out any lacunae in the Indian law if any is found

. Review of Literature 

Sumit Agarwal & Robin Joseph Baby, SEBI ACT: A LEGAL COMMENTARY ON SECURITIES & EXCHANGE BOARD OF INDIA ACT,1992, Taxman Publication, New Delhi A Legal Commentary on Securities & Exchange Board of India Act, 1992.This book serves as one of the first comprehensive legal commentaries on the SEBI Act, 1992. The section-wise study of the statute includes extensive reference to judicial pronouncements and their analysis, the recommendations of various expert committees, comparative study of similar powers of other regulators - both domestic as well as foreign. The book also chronicles the evolution of securities law in India and provides insights on the road ahead.

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The book also deals with the concepts of insider trading in India in a very lucid and exhaustive manner. It begins from the origin of the insider laws in India, and traces it back to even how the laws had developed in India. In addition to this, the books also deals in details with the related concepts of insider trading like that of unpublished price sensitive information, the motive of the insider trading in a very detailed manner. The book is also a good work on the regulations that have been taken up by the SEBI to prevent the act on insider trading in the country. Moreover, it has also dealt with the pre amendment and post amendment changes in the regulations and gives an idea as to the fundamental changes that were triggered by the latest changes. 

Arun Kumar Singh, “INSIDER TRADING: COMPARATIVE ANALYSIS OF INDIA AND USA”, SSRN Journal

Insider trading, the occurrence of which has become rampant in many industrialized countries, the research seeks to examine the legal mechanism prevalent in India and assess the extent to which it has been implemented by interpreting cases taken up by the Courts. The research shall further draw a comparison between the legal frameworks of India and USA pertaining to insider trading and shall highlight the merits and demerits of each by analysing cases which have taken place at an international level which have led to the breach of fiduciary duties by connected persons and misappropriation of large amount of funds involving Raj Rajaratnam, the billionaire founder of the Galleon hedge fund, which is one of the most controversial and widely deliberated issues in the field of securities regulation followed by Rajat Gupta’s scam. The research shall also analyse whether India would benefit from assimilating certain features from the legal system of the United States, and if so which features would help India strengthen its regulatory mechanism.

Research Questions  What are the laws relating to regulation of insider trading in India?  How is the SEC in the USA different from SEBI in regulating insider trading?  Which are the areas of the regulations that suffer from certain lacunae and what changes that can

be made thereon?  How has the courts in India interpreted matters relating to insider trading in India and how

successful has it been in development of the regulations in India?

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Research Methodology In this project doctrinal research was involved. Doctrinal Research is a research in which secondary sources are used and materials are collected from libraries, archives, etc. Books, journals, articles were used while making this project. Further, explanatory type of research was used in this project, because the project topic was not relatively new and unheard of and also because various concepts were needed to be explained.

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INSIDER TRADING AND ITS REGULATION IN INDIA Insider Trading generally refers to trading by a person based on inside information. Even though economists around the world have not yet reached a consensus on whether banning insider trading enhances market efficiency or not, the regulators all over the world have been attempting to curb insider trading for a long time now. Laws prohibiting insider trading surely seek to curb the disparity in information, non-transparency in dealings and erosion of investor confidence, if not enhance market efficiency.4 In other words insider trading refers to the buying or selling of securities based on information that are privileged or confidential and are unavailable to the general public. Insider trading has been a controversial issue in India as well and is closely monitored by the Securities and Exchange Commission. Section 16 of the 1934 Act prevents short-term trading and other transactions in a corporation’s securities by corporate insiders.5 In India, the menace of insidertrading was first narrated by PJ Thomas in 1948, in his report titled ‘Report on the Regulation of the Stock Market in India’ recognised several threats of insider trading in India. He highlighted in his report the effective provisions that werein place in the U.S.A that were made by the Securities Exchange Act,1934. He also mentioned the measures taken in countries like Canada and UK which were trying to make all such transactions public. Later in 1979 the Sachar Committee recommended the amendments to the Companies Act,1956 to restrict insider trading, which was later followed by the Patel Committee report which recommended amendments to be made to the Securities Contracts Act, 1956. But until 1992 there was no legal sanction on the activities concerning insider trading. The definition of insider trading has been provided in the SEBI (Prohibition of Insider Trading) Regulations, 1992 (PIT Regulations) framed under section 11(2)(g) of the SEBI Act. The PIT regulations prohibit insider trading and regulate trading by insiders. In addition they also prohibit communication, solicitation and counselling of the unpublished price sensitive information6 in a bid to enhance transparency in the securities dealings. An insider is defined under the PIT Regulations such that the person who receives unpublished price sensitive information is also covered within its ambit.

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Sumit Agarwal & Robin Joseph Baby, SEBI ACT:A LEGALCOMMENTARY ON SECURITIES & EXCHANGE BOARD OF INDIA ACT,1992, 1st ed., p.p. 303 5 http://www.business.illinois.edu/broker/pdf/insider.pdf 6 AO Order No. PB/ AO-15/2011, In respect of Mr. Naval Choudhary, dated 28.02.2011 where the communication of information by husband to his wife as an insider was penalised

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Insider trading is however considered to lawful when the insiders of the company who are in possession of price sensitive information, buy or sell securities of their own company within the confines of company’s policy and regulations governing this trade.7 An insider is defined under regulation 2(e) of the PIT regulations as: Insider means any person who: (i)

Is or was connected with the company or is deemed to have been connected with the company and is reasonably expected to have access to unpublished price sensitive information in respect of securities of a company, or

(ii)

Has received or has had access to such unpublished price sensitive information.

A person to be qualified within the first clause regulation 2(e) must fall within the definition of a ‘connected person’ as provided under regulation 2 (c) or a ‘person deemed to be a connected person’ within the scope of Regulation 2(h). A connected person is defined as defined under regulation 2(c) includes firstly, a director or a person deemed to be a director or secondly, any person who (a) occupies the position of an officer of the company, (b) occupies the position of an employee of the company (c) any person who holds a position involving a professional or business relationship between himself and the company, whether temporary or p`ermanent and who may reasonably be expected to have access to unpublished price sensitive information in relation to that company. It has been further clarified that a connected person means a person who is a ‘connected person’ within the scope of the definition for a period of six months prior to an act of insider trading.8 The definition of a person ‘deemed to be a connected person’ have been defined in a very wide manner bringing into its ambit a wide group of associated individuals. Also, the definition of the connected persons has been furthered widen after the 2002 amendment which bought intermediaries within the ambit of such persons. Any member of the Board of Directors, an employee of a self-regulatory organisation recognised or authorized by Board of regulatory body, a relative of the aforementioned persons, banker of the company have all been included under the definition of a connected person after the 2002 amendment. It also now includes any firm, trust, Hindu Undivided family, company or association of persons under regulation 2(h). A person to be qualified as an insider will also have to fulfil clause second of the regulation, i.e., he has to have access to unpublished price sensitive information. Exclusion of the second clause may further the definition of term ‘insider’ beyond desirable limits.

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ThummuluriSiddaiah, FINANCIAL SERVICES, 2nd ed., 2011, pg 226 Arun Kumar Singh and Anil Kumar, Insider Trading: Comparative Analysis of India and USA, http://dx.doi.org/10.2139/ssrn.2552418

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JUDICIAL INTERPRETATION In the case of Hindustan Lever Ltd. v. SEBI9which was one of the earliest cases of insider trading in India it was fiercely contested as to whether a person obtained certain information through such connections or not. In this case Hindustan Lever Ltd (HLL) was alleged to have been involved in insider trading when it purchased 8 lakh shares of Brooke Bond Lipton India Ltd (BBLIL) from Unit Trust of India (BBLIL) on the basis of unpublished price sensitive information regarding the impending merger of HLL and BBLIL. Both HLL and BBLIL were two subsidiaries of a common parent and one dealt in the shares of the other. The information of the proposed merger was therefore known to core team. The SAT set aside the contention of SEBI on the ground that the knowledge of the merger was generally known. The significant outcome of this case was however the amendment made to the SEBI regulations, which made any information known to the media unqualified as unpublished price sensitive information. It is also to be considered here that this case was prior to the 2002 amendment. Relying on the post 2002 definition, in the case of Dr. Anjali Beke v SEBI10 a person who received information from the Managing Director of the Company was held be practising insider trading by the SAT. One of the most significant case in relation to insider trading in India is the case of Rakesh Agrawal v. SEBI11 in which Mr.Rakesh Agarwal who was the Managing Director of ABS Industries Ltd was alleged to have been involved in insider trading while having access to price sensitive information regarding the merger of ABS Industries Ltd. to Bayer AG. After investigation SAT found that the intention behind acquiring of the share was only to facilitate the entry of Bayer and not to gain unfair personal gain. SAT held that although it was true that in the process the shares purchased at a lower price fetched a higher price when offered in the public offer, this gain was only incidental, and certainly not to cheat. Thus, SAT held that Rakesh Agrawal was not guilty of insider trading. SEBI appealed from the decision of SAT to the Hon’ble Supreme Court which has settled the matter by its consent order whereby Mr.Rakesh Agrawal has agreed to pay Rs. 48,00,000 towards the settlement. Also with respect to the prosecution initiated by SEBI in 2001, the offence was compounded by payment of Rs. 4,90,000 by the accused to SEBI.12 In the case of Samir Arora v. SEBI13 the court stressed on the fact that where an employee through his position in a company cannot be reasonably expected to have access to unpublished price sensitive 9

[1998] 18 SCL 311 (SAT). Appeal No. 148/2005 11 [2004] 49 SCL 351 (SAT). 12 Arun Kumar Singh and Anil Kumar, Insider Trading: Comparative Analysis of India and USA, http://dx.doi.org/10.2139/ssrn.2552418 13 [2005] 59 SCL 96 (SAT) 10

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information it is necessary to prove that such employee has in fact received such information and in the failure to do so, the person cannot be held liable for insider trading. A similar case was the case of Mrs.SadhanaNabera v. SEBI14where in the absence of any documentary evidence to show the accessibility of an auditor to unpublished price sensitive information, the auditor was not held to be an ‘insider’. At present the question relating to what would constitute insider trading can be found by the perusal of Regulations 3, 3A, 3B and 4 conjointly. According to Regulation 4 any insider who deals in securities in the violation of Regulations 3 or 3A shall be guilty of insider trading. Regulation 3 prohibits certain actions: it provides that no insider shall, firstly, either on his own behalf or on behalf of any other person, deal in securities of a company listed on any stock exchange when in possession of any unpublished price sensitive information; or secondly, communicate or counsel or procure directly or indirectly any unpublished price sensitive information to any person who while in possession of such unpublished price sensitive information shall not deal in securities.15 In addition to this, section 3A also restricts any company from dealing with the securities of another company or associate of that other company when in possession of any unpublished price sensitive information.

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Appeal No. 26/2007, SAT order dated 19.02.2008 Arun Kumar Singh and Anil Kumar, Insider Trading: Comparative Analysis of India and USA, http://dx.doi.org/10.2139/ssrn.2552418

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A COMPARISON BETWEEN THE LEGAL SYSTEMS IN INDIA AND THE UNITED STATES Before a comparative analysis of Security Exchange Commission of U.S.A and SEBI is carried out, it must be kept in mind that the legal framework of USA dealing with insider trading is much older than the Indian framework. While the United States’ framework is about eight decades old, the Indian regulatory framework in only about two decades old. The most notable difference between the two regimes in case of insider trading is that in India there is no separate legislation to govern such cases and is governed wither by the SEBI (Prohibition of Insider Trading) Regulations, 1992 and certain provisions of the SEBI Act, 1992, whereas in the United States of America there are the provisions of the Securities Exchange Act,1934which specifically deals with the cases of insider trading. Thus, on the very onset it can be made out that USA have a much more specified and structured system to deal with the issues arising out of fraud or insider trading. The next important aspect of both jurisdictions which must be compared would be whether or not it is essential for there to be a breach of fiduciary duty for there to arise a liability for insider trading.16 In the USA there has been a demise of fiduciary principles in cases of liability in insider trading is concerned. In the case of Chiarella v. United States17 in which the decision of the Supreme Court has often been termed as the ‘classical theory’ of insider trading is a case where the court focused on the need of a fiduciary breach for insider trading. In fact they made fiduciary duty as a sine qua non for the establishment of fraud or insider trading under Rule 10b-5. However, after the Dirks Case there was a change in the way courts looked at insider trading as it decided that people who use material information even without the intention to make profit can be held responsible. In this case, the judge in formulated the famous concept of ‘constructive insiders’ meaning who receive sensitive confidential information in the process of providing services to the corporation. This was contained in what is now popularly known as ‘Dirks footnote 14’. Even before this case in 1981, the Second Circuit Court adopted the “misappropriation” theory, holding in the case of United States v. Newman that a person with no fiduciary relationship to an issuer nonetheless may be liable under Rule 10b-5 for trading in the securities of an issuer while in possession of information obtained in violation of a relationship of trust and confidence.18A similar movement of affixing liability even in cases where there is no breach of fiduciary duty has also been taking place in India after the 2008 amendment. Before such amendment, the need for

16

Ibid at 15 445 U.S. 222 (1980). 18 Comparative study of the Insider Trading regulations prevailing in the different countries e.g. USA & UK https://www.wirc-icai.org/downloads/BFSIcM-Comparative-study-of-the-Insider-regulation.pdf 17

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establishing a fiduciary duty breach was implicit to establish the violation of insider trading regulations in India.19 Another very significant issue surrounding insider trading in USA and India is the extent of liability of a person who has made certain transactions based on misappropriated data. As discussed earlier, the misappropriation theory is the most widely accepted theory in the USA whereas in India it can be observed that the SEBI has followed a much wider approach. It is evident from Regulation 2(e)(ii) that the liability of people have been expanded by SEBI to any person who may have received any unpublished price sensitive information. The joint reading or Regulation 2(e)(ii), regulation 3 and regulation 4 makes it clear that any person who is a ‘receiver’ of any unpublished price sensitive information who deals with securities may be held liable for insider trading even in situations where he has not breached any duty to the company or the source of the information. Another significant area of controversy in both the legal regimes of India and the United States is the ‘possession v. use’ i.e. whether liability for insider trading may be affixed if there is a trade while the insider was in possession of the relevant information or whether it is essential to prove that the relevant information was actually used in the trade.20 While in USA it is not necessary to prove any relationship between the misappropriated information and security dealings, in India through Regulation 3 the system of ‘possession’ in followed where the insider is prohibited form dealing with securities when in the possession of unpublished price sensitive information. Section 15G of the SEBI Regulations provides a civil penalty of twenty five crore rupees or three times the amount of profits made out of insider trading whichever is higher. The criminal prosecution for insider trading is envisaged in clause 1 of Section 24 which provides for a punishment of a maximum of ten years imprisonment, or a maximum fine of 25 crores or both. Clause secondly of section 24 also provides that in case of the failure of the civil penalty imposed, he may be punished for a period of ten years but which shall not be less than one month and a fine which may extend to twenty five crores or both. While the criminal liability incorporated under Section 32(a) of the Securities Exchange Act, 1934 the USA is similar to that in India as even in USA, the punishment is for 20 years, or a fine of $5,000,000 or both, except that if not a natural person, a fine upto $25,000,000 may be imposed.21 The position of the Securities Exchange Act, 1934 can be best described through the landmark judgment of Raj Rajaratnam, a New York hedge fund manager who was charged with fourteen counts of securities fraud and conspiracy by the Justice Department in USA. 19

Rakesh Agrawal v. SEBI, [2004] 49 SCL 351 (SAT). Arun Kumar Singh and Anil Kumar, Insider Trading: Comparative Analysis of India and USA, http://dx.doi.org/10.2139/ssrn.2552418 21 Securities Exchange Act Of 1934,https://www.sec.gov/about/laws/sea34.pdf 20

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Rajaratnam, was found guilty on all fourteen counts on May 11, 2011,and had allegedly cultivated a network of executives at, Intel, McKinsey, IBM, and Goldman Sachs. These insiders provided him with material non-public information. PreetBharara, the government’s attorney, argued in the case that Raj Rajaratnam had made approximately $60 million in illicit profits from inside information. There were many players i.e Raj Rajaratnam was the manager of the hedge fund Galleon Group, which managed $6.5 billion at its height. Rajat Gupta is a former director at Goldman Sachs and head of McKinsey consulting. On September 23, 2008, Warren Buffet agreed to pay $5 billion for preferred shares of Goldman Sachs. This information was not announced until 6 p.m., after the NYSE closed on that day. Before the announcement, Raj Rajaratnam bought 175,000 shares of Goldman Sachs. The next day, by which time the infusion was public knowledge, Rajaratnam sold his shares, for a profit of $900,000. In the same period of time financial stocks as a whole fell. Rajat Gupta had called Rajaratnam immediately after the board meeting at which Warren Buffet’s infusion had been announced, and told him of the money Goldman expected to receive. This information was material to the price of Goldman stock, thus inciting Rajaratnam to make the trade, something he would otherwise not have done. By buying 175,000 shares of Goldman stock immediately before the market closed on September 23, 2008, Rajaratnam inflated its price, making this reflect the then-unknown fact that Berkshire Hathaway would invest $5 billion in the bank. It is clear that Rajaratnam’s actions caused Goldman Sachs stock to more accurately reflect its true value.22 A comparison of the system of regulation in USA and India make it evident that the system of regulation in the USA is much older, aggressive and systematic than the one followed in India. Because of fact that the laws relating to fraud and insider trading were introduced in the USA much earlier, the SEC has evolved over time through various judicial interpretations into a much more aggressive regulatory body. In India on the other hand the problem with the Insider trading laws are not the Regulations in place but their execution. While SEBI has been given wide powers to inspect information and witnesses along with the power to summon them, it has been seen that its rulings have been overruled several times by the SAT due to lack of evidence.23

22 23

http://sevenpillarsinstitute.org/case-studies/raj-rajaratnam-and-insider-trading-2 (last visited on 12/10/2016) Samir C Arora v. SEBI, 2004 http://www.sebi

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LACUNAE IN THE FRAMEWORK: THE AREAS THAT NEED A RELOOK

The regulatory laws in India suffers from some significant lacunae which calls for immediate attention of the law makers. The definition of the word ‘insider; under Regulation 2(e) suffers from ambiguity. The section talks about two elements to be fulfilled for qualifying a person as an insider: (a) proof of a connection with the entity concerned (b) a reasonable belief of his having had access to unpublished price sensitive information. In addition to this, subsection (ii) of section 2 says that inorder to qualify as an insider although a relationship with the company is not essential, it is essential to actually prove receipt of the information. The definition of the word is such that it has widened the scope to such an extent that even outsiders are bought within the ambit of an insider under the SEBI regulations. There also seems to be disconnect in Section 15G of the SEBI Act which provides the penalty for insider. There is a grey areas which appear to emerge from clauses (i) and (iii) of this provision, where the liability is said to have arisen when an insider or a person to whom he has communicated unpublished price sensitive information to deals in securities, ‘on the basis of’ such information.24 The phrase ‘on the basis of’ which was used in Regulation 3 was however replaced by amendment in 2002 amendment and was substituted with the phrase ‘when in possession of’. However, a similar amendment has not been made in Section 15G which has given rise to an anomalous situation making it unclear as to when the liability arises. Another very significant issue is relating to the scope and ambit of unpublished price sensitive information. The issue of such information was discussed at length in the case of Hindustan Lever Ltd. v. SEBIin which the information which was speculated by the media was not held to be unpublished price sensitive information. Though the amendment in 2(k) had somewhat managed to reduce this controversy, the point of conflict had come with the decision of SAT in the Samir Arora case. Though in the present case it was held that the information which was incorrect cannot be regarded as unpublished price sensitive information, going by the definition of Regulation 2(k) it merely states about any information that has not been published by the company irrespective of whether it is correct or not correct. This shows that there is a fundamental contradiction of principles in the decision of the SAT and the SEBI Regulations. The degree of mensrea is which is required to establish the charge of insider trading is another very significant aspect that has been bought into concern. The failure to establish the requisite mensrea is a

24

Arun Kumar Singh and Anil Kumar, Insider Trading: Comparative Analysis of India and USA, http://dx.doi.org/10.2139/ssrn.2552418

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major dilemma for enforcing agencies, especially given the covert nature of the offence of insider trading. A clear example is the Rakesh Agrawal Case wherein it was held to establish a violation of Regulation 3 it was necessary to prove an element of ‘deceit’ or ‘manipulation’, which the SEBI was unable to prove in the facts of that case25. The SAT had rejected the contention made by the SEBI that it was not necessary to establish a profit motive to establish the charge of insider trading making it clear that although not contemplated directly, the establishment of the mental element is of prime importance in case of establishing the offence of insider trading.

25

Arun Kumar Singh and Anil Kumar, Insider Trading: Comparative Analysis of India and USA, http://dx.doi.org/10.2139/ssrn.2552418

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Conclusion A study of the regulatory mechanisms of India and America depicts a clear picture of the level of evolution of the law and the areas which needs focus. The laws of United States were introduced as early as in 1934 and gone over several changes to be a position where it is much better equipped than the regulations in India. The biggest disadvantage in India is the absence of a specific law to deal with insider trading unlike the USA the provisions of Securities Exchange Act,1934 deal with the these aspects. Moreover, the problem with the cases of insider trading is the establishment of the mental element along with the establishment of the facts in order to prove whether the access to such unpublished price sensitive information was possible for the person in question. The changes made to the act in 2002 made it mandatory for the directors and other officers of the company and other related persons are subjected to mandatory disclosures. It is a fact that the SEBI is not having enough powers for more exhaustive and efficacious investigation of cases involving Insider Trading. As witnessed in US, empowering the regulator would definitely be helpful in imparting justice and convicting every such violator of the Insider Trading regulations by providing greater degrees of positive evidence supporting every such conviction thus proving every case beyond reasonable doubts. Because despite of not having to prove the connection of the accused with the company, most of the cases are not established owing to the lack of evidence gathered against the accused. This is the peculiar problem faced in countries like India.

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Bibliography List of Books  Sumit Agarwal & Robin Joseph Baby, SEBI ACT:A LEGALCOMMENTARY ON SECURITIES & EXCHANGE BOARD OF INDIA ACT,1992, 1st edition  ThummuluriSiddaiah, FINANCIAL SERVICES, 2nd edition., 2011

List of Articles  Arun Kumar Singh and Anil Kumar, Insider Trading: Comparative Analysis of India and USA, http://dx.doi.org/10.2139/ssrn.2552418  Bekaert, G. and C. Harvey, 1997, Emerging equity market volatility, Journal of Financial Economics 43, 29-77.  Dutta, P. and A. Madhavan, 1995, Price continuity rules and insider trading, Journal of Financial and Quantitative Analysis 30, 199-221.  Dye, R., 1984, Insider trading and incentives, Journal of Business 57, 295-313.  Engle, R., D. Lilien and R. Robins, 1987, Estimating time varying risk premia in the term structure: The ARCH -M model, Econometrica 55, 391- 407.  Fishman, M. and K. Hagerty, 1992, Insider trading and the efficiency of stock prices, Rand Journal of Economics 23, 106-122.  Handbook of World Stock, Derivative and Commodity Exchanges, 1998, International Financial Publications, London.  Harvey, C., 1991, The world price of covariance risk, Journal of Finance 46, 111-157.  Rajiv Kumar Singh, Role of Securities & Exchange Board of India (SEBI) in regulating Mutual Funds, http://sgsrjournals.com/paperdownload/5.pdf  U.S. Securities and Exchange Commission, https://www.sec.gov/about/whatwedo.shtml  http://www.business.illinois.edu/broker/pdf/insider.pdf

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