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JPC draft report on stock scam blames Sebi

Surajeet Das Gupta in New Delhi

A draft report of the joint parliamentary committee looking into the stock market scam has blamed the Securities and Exchange Board of India for lack of alertness and poor risk-management measures with regard to the automated lending and borrowing mechanism.

The draft says Sebi's failure to set a limit on financing of the automated lending and borrowing mechanism enabled a single player, Reliance, to influence the market.

"It is appalling that Sebi never realised the role played by the automated lending and borrowing mechanism in the market crash of 2001, nor did it initiate any investigation," the report said.

The automated lending and borrowing mechanism came into being as an alternative source of funds to the capital market, which was plagued by the non-availability of a transparent and regulated source of funding through the banking system.

The criticism comes in the wake of information that Reliance Shares and Stock Brokers Ltd had deployed Rs 19 billion in February 2001 in the automated lending and borrowing mechanism and in vyaj badla financing in the Calcutta Stock Exchange.

But the funds were withdrawn from the market between February 28 and March 7.

In its oral evidence, former Sebi chairman D R Mehta admitted that the withdrawal of funds from the market on such a scale "could certainly influence share prices".

The JPC draft report has criticised the delay on the part of Sebi in taking action on the modified automated lending and borrowing mechanism even though the regulator was well aware of the serious ramifications of the scheme.

It has suggested that the matter be thoroughly investigated by the finance ministry and identification made of those who were responsible for this inaction in Sebi as well as in the National Stock Exchange.

A Reliance spokesperson, however, said, "The execution of transactions under the automated lending and borrowing mechanism by the company was as per rules and regulations."

He also pointed out that each financing transaction was valid for only one week, and there was no procedure or facility to carry it forward.

This clearly established that there was no withdrawal of the financing under the automated lending and borrowing mechanism at any point of time. It was for each financier to decide from week to week as to what quantum of funds was to be deployed, the spokesperson said.

He also pointed out that in several cases when Reliance reduced its deployment of funds, the market actually went up.

He said in its submission to Sebi, Reliance argued that this was illustrative of the fact that the movement of stocks had no correlation with the increase or decrease of deployment of financing under the automated lending and borrowing mechanism.

Mehta would not comment on the issue. But the draft report points out that when asked whether withdrawal of funds would not amount to manipulation of the market, Mehta had said, "My submission is that if one is entitled to put in money, if one is a registered entity, one is entitled to withdraw the money if the activity is legal, unless there is some additional factor to prove that this was done with some kind of intention."

The draft paper points out that Sebi's handling of the issue relating to the revised automated lending and borrowing mechanism leaves much to be desired.

Though the National Stock Exchange had filed the revised scheme with Sebi in October 1999, and operationalised it in December 1999, Sebi did not consider the proposal for revision even though the carried forward character of the revised scheme had become known to them in early January 2000 itself.

It took seven months for Sebi to decide that the issue needed to be examined by an expert group. The J R Verma-led Committee submitted its report in July 2000, and on the basis of its recommendations, Sebi prescribed some risk-containment measures. However, adequate safeguard measures were still not put in place till October 2000.

The regulator permitted the withdrawal of securities from the clearing house under the automated lending and borrowing mechanism despite the fact that the G S Patel Committee, which went into the issue of reintroduction of badla, had recommended as early as in 1995 not to permit the withdrawal of securities under the modified carry-forward scheme.

It was only in February 2001 that Sebi rescinded the provision for the withdrawal of shares from the clearing house under the automated lending and borrowing mechanism.

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