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SEBI finds it difficult to crack down
October, 21st 2009

US regulator SECs action against Raj Rajaratnam and his hedge fund Galleon for alleged insider trading has brought market practices in India under the spotlight. While the Indian capital markets regulator (Sebi) has been attempting to crack down on insider trading, it has met with limited success.

The perception that insider trading was widespread, prompted the Indian government to come out with rules to curb this practice in 1992. Interestingly, under Indian securities law, regulations prohibiting insider trading were among the first to be issued after Sebi was set up as an independent regulator under an act of Parliament.

A slew of measures including disclosure norms, Companies Act and listing agreement helped curtail insider trading activities in the primary market, that is buying or selling when a company is about to go in for a public issue. But the practice soon shifted to the secondary market.

Recently, Sebi tightened its insider-trading norms by broadening the definition of the term insider to include any person who is and was connected with a company and is the recipient of price-sensitive information. The norms prohibit trades by a designated insider for a period of six months of him/her acquiring the shares. The stricter regulations were aimed at curbing the misuse of price-sensitive information, especially by those working in senior positions in listed companies.

Says former Sebi executive director-legal affairs Sandeep Parekh: Insider trading occurs in every jurisdiction in the world. A simple look at the stock chart of a company just before a major corporate announcement would reveal hectic buying activity starting a few days or even a few weeks in advance of the public news.

However, catching an insider trader who flies under the radar is nearly impossible. Insiders can go undetected, if purchases or sales are made in some friends name and are of a small number. This ensures merging with the rest of the crowd, which is acting on rumours of inside information.

During 2007-08, of the 169 cases in which investigation were completed about 17% pertained to insider trading.
Under the new rules, there is also an absolute prohibition on such persons from taking positions in derivative transactions in the shares of the company at any time. In the case of subscription to initial public offers, a designated insider will have to hold their investments for a minimum period of one month. Says C Achuthan, former presiding officer of SAT: It is very difficult to prove insider trading cases, because of the evidentiary requirements in such cases.

In the Rajaratnam case, US SEC has taken into account the recorded conversations between various accused. Added Mr Parekh: In an insider trading case, it must be shown that inside information actually went from the insider to the person who actually traded. Mere friendship of the two is not sufficient. Thus, the link must be proven using telephone records, etc which can be difficult to obtain.

The only cases where insider trading is easy to prove is where the number of shares bought or sold is very large and some level of communication and other circumstantial evidence can be shown indicating a preponderance of probabilities of trading arising out of such communication, he said.

Legal experts opine that unlike Sebi, the SEC has a lot more resources at its disposal to go after such cases with a budget nearly 100 times that of Sebi. Also the SECs enforcement division has manpower that is more than twice that of Sebi.

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