Market Participants — investors, issuers, intermediaries and the regulations that bind them

Where this chapter sits

Chapter 2 carries 10% of the paper. It is the reference chapter for the whole of Securities Operations and Risk Management — the definitions here reappear in Chapters 3 to 8.

The exam: 120 minutes, 100 marks, 50% to pass, 25% negative marking. That last figure changes how you answer. A wrong answer costs 0.25 marks; a blank costs nothing. This chapter is full of near-miss numbers — ₹2 lakh against ₹2 crore, three years against five, ₹75 crore against ₹50 crore — so answer only what you know.

The four elements of the market

The important participants of securities markets are the investors, the issuers, the intermediaries and regulators.

Investors place surplus funds in financial claims or securities at the disposal of the spenders (i.e., Issuers) and in turn get benefits such as interest, dividend, capital appreciation, bonus.

Intermediaries act as conduits between the investors and issuers.

Regulators develop fair market practices and regulate the conduct of issuers of securities, investors and the intermediaries. They are also in-charge of protecting the interests of the investors, and the regulator ensures a high service standard from the intermediaries and supply of quality securities and non-manipulated demand for them in the market.

Investors

Based on primary public issuance categorization, investors fall into three classes:

An FPI is an entity established or incorporated outside India that proposes to make investments in India.

FPI categories

Under the SEBI (Foreign Portfolio Investors) Regulations, 2019:

Category 1 covers:

• Government and Government related investors such as central banks, sovereign wealth funds, international or multilateral organizations.
• Entities controlled or at least 75% directly or indirectly owned by such Government and Government related investors.
• Pension funds and university funds.
• Appropriately Regulated entities such as insurance or reinsurance entities, banks, asset management companies, investment managers, investment advisors, portfolio managers, broker dealers and swap dealers.
• Entities from Financial Action Task Force (FATF) member countries, with conditions.
• An entity whose investment manager is from a FATF member country and is registered as a Category I FPI, or which is at least seventy-five per cent owned, directly or indirectly, by another eligible entity from a FATF member country.

Category 2 covers:

• Appropriately Regulated funds not eligible as Category-I.
• Endowments and foundations.
• Charitable organizations.
• Corporate bodies.
• Family offices.
• Individuals.
• Regulated entities investing on behalf of their clients.
• Unregulated funds in the form of limited partnership and trusts.

A footnote worth carrying: Category-2 FPIs who are corporate bodies, individuals and family offices are treated as non-institutional.

Accredited investors

The concept recognises a class of investors who have an understanding of various financial products and the risks-returns associated with them and therefore are able to take informed decisions. Elsewhere they are termed as Accredited Investors or Qualified Investors or Professional Investors.

Eligibility — individuals, HUFs, family trusts and sole proprietorships must meet any one of:

• Annual Income ≥ ₹2 crore; OR.
• Net Worth ≥ ₹7.5 crore, out of which at least ₹3.75 crore is in the form of financial assets; OR.
• Annual Income ≥ ₹1 crore AND Net Worth ≥ ₹5 crore, out of which at least ₹2.5 crore is in financial assets.

Other entities:

• Partnership firms under the Indian Partnership Act, 1932 in which each partner independently meets the Accredited Investor criteria for individuals.
• Trusts (other than family trusts) with Assets under Management greater than or equal to ₹50 crore.
• Body corporate with net worth greater than or equal to ₹50 crore.
• The eligibility of foreign investors shall be determined on the basis of the rupee equivalent of their income and/or net worth.

Deemed accredited investors — no certificate needed. These are treated as accredited from the start:

• The Central Government and the State Governments.
• Developmental agencies set up under their aegis, and funds set up by them.
• Qualified institutional buyers as defined under the SEBI (ICDR) Regulations, 2018.
• Category I foreign portfolio investors.
• Sovereign wealth funds and multilateral agencies.
• Any other entity as may be specified by SEBI.

Who issues the certificate? Accreditation Agencies. They are subsidiaries of depositories and stock exchanges or any other institutions meeting eligibility criteria specified by SEBI. They shall grant accreditation solely based on the KYC and the financial information of the applicants.

Validity — three cases:

Three benefits:

• Lower ticket size — to participate in investment products with an investment amount lesser than the minimum mandated.
• Regulation-light framework — relaxation from regulatory requirements such as prudential norms, investment conditions, filings with SEBI, frequency of audit/valuation/reporting.
• Exclusive products — to participate in investment products designed and offered exclusively to Accredited Investors.

Market makers

Market makers provide liquidity to facilitate efficiency in the functioning of the financial markets, operating under the guidelines provided by SEBI or by Exchanges.

In case of regular cash market and derivatives market, the liquidity scheme is mainly introduced by the Exchanges. However, for the Small and Medium Enterprise (SME) Exchange, market making has been made mandatory in respect of all scrips listed and traded on SME Exchange.

The main responsibility of a market maker is to provide two-way (buy as well as sell) quotes on a continuous basis with certain minimum amount and reasonable bid-ask spread.

Issuers

The public and private sector enterprises, banks and other financial institutions tap the securities market to finance their capital expansion and growth plans. Funds can be raised in the primary market from the domestic market as well as from international markets, and through public offer and/or through private placement.

Raising money abroad

Indian companies can raise resources from international capital markets through Global Depository Receipts (GDRs)/American Depository Receipts (ADRs), Foreign Currency Convertible bonds (FCCBs) and External Commercial Borrowings (ECBs) including Masala Bonds. These are regulated primarily by the Reserve Bank of India under the Foreign Exchange Management Act (FEMA) and, for equity instruments, by SEBI.

The 1991 reforms allowed Indian companies to raise resources by way of equity issues in the international markets, and recent government and SEBI regulations permit certain Indian companies to list their securities directly on overseas stock exchanges.

In the other direction: foreign companies can raise capital from Indian markets. They can issue IDR (Indian Depository Receipts). This will be in rupee terms. Standard Chartered Bank is the first entity to raise capital through issuing IDR.

Regulations for issuers

SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 — the ICDR Regulations. They set the rules for raising capital. They lay down:

• General conditions for capital market issuances like public and rights issuances.
• Eligibility requirements.
• General obligations of the issuer and intermediaries.
• Regulations governing preferential issues, qualified institutional placements and bonus issues by listed companies.
• Issue of IDRs.

While the eligibility and disclosure obligations are applicable to the Issuer, the merchant banker/lead manager/book runner is central — registered entities with SEBI appointed by the issuer to manage the issue, and in case of a book built issue the lead manager acts as Book Running Lead Manager (BRLM).

SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 — an issuer desirous of listing its securities on a recognized stock exchange shall execute a listing agreement with such stock exchange. The company must obtain "in-principle" approval for listing before issuing further shares or securities:

• From the exchanges having nationwide trading terminals where it is listed.
• Where not listed on any exchange having nationwide trading terminals, from all the stock exchanges in which the securities are proposed to be listed.
• Where listed on both nationwide and non-nationwide exchanges, from all recognized stock exchanges having nationwide trading terminals.

Other important issuer regulations: SEBI (Issue and listing of securitized debt instrument and security receipt) Regulations, 2008, SEBI (Issue and Listing of Municipal Debt Securities) Regulations, 2015, and SEBI (Issue and Listing of Non-Convertible Securities) Regulations, 2021.

Market Infrastructure Institutions

Stock exchanges, depositories and clearing corporations are collectively referred to as securities Market Infrastructure Institutions (MIIs).

Stock exchanges

The legal definition has two limbs. The SCRA, 1956 defines "Stock Exchange" as:

• (a) any body of individuals, whether incorporated or not, constituted before corporatization and demutualization under sections 4A and 4B, or
• (b) a body corporate incorporated under the Companies Act, 1956, whether under a scheme of corporatization and demutualization or otherwise,

for the purpose of assisting, regulating or coordinating the business of buying, selling or dealing in securities. Put simply, limb (a) covers exchanges as they stood before corporatisation and demutualisation, and limb (b) covers exchanges formed as companies.

Earlier investors and stock-brokers met in the trading hall or the "Ring" of the Stock Exchanges to transact in stocks, whereas in the modern world, on-line trading takes place through computers connected through VSATs, leased lines and Internet.

The seven typical functions:

• To provide the trading platform.
• Dissemination of information.
• Investor education, awareness and protection.
• Facilitate redressal mechanism.
• Surveillance and investigation.
• Listing of securities and monitoring compliance of listed companies.
• Inspection and monitoring of member compliance.

Clearing corporations

The SECC Regulations 2018 define a Clearing Corporation as an entity established to undertake the activity of clearing and settlement of trades in securities or other instruments or products dealt with or traded on a recognized stock exchange, and includes a clearing house and a limited purpose clearing corporation.

A Clearing Corporation performs three main functions: clearing, settlement of all transactions executed in the stock market — completing the process of receiving and delivering shares/funds to the buyers and sellers — and carrying out risk management.

And the term that recurs throughout this paper: the Clearing Corporation acts as a central counterparty i.e., it provides financial guarantee for all transactions executed on the Exchange. This process is called novation.

Pay-in is a process whereby a Clearing Member and Custodian (in case of Institutional deals) bring in money and/or securities to the Clearing House/Corporation. This forms the first phase of the settlement activity.

Pay-out is a process where the Clearing House/Corporation pays money or delivers securities to the Clearing Member and Custodians. This is the second phase of the settlement activity.

Depositories

A "Depository" is an entity facilitating holding securities in electronic form and enables transfer of securities by book entry. Its objective is to provide maintenance of ownership or transfer records of securities in an electronic book entry form resulting in paper-less trading rather than paper-based trading, and to ensure transferability of securities with speed, accuracy and safety.

Under the Depositories Act, 1996, a "depository" means a company formed and registered under the Companies Act, 1956 and which has been granted a certificate of registration under sub-section (1A) of section 12 of the SEBI Act, 1992.

There are two Depositories in India, Central Depository Services Limited (CDSL) and National Securities Depository Limited (NSDL), both established under the Depositories Act 1996.

The Depository provides its services to clients through its agents called depository participants (DPs). These agents are appointed by the depository with the approval of SEBI.

Who may become a DP: Banks, Financial Institutions, NBFCs, Clearing Corporations, Registrar and Transfer Agents, Custodians of Securities, State Financial Corporations and SEBI registered trading members.

The four membership types

In India, investors cannot access the Exchange platform directly. They have to compulsorily trade through registered stock brokers/trading members of the Exchanges.

A trading member can be an individual (sole proprietor), a partnership firm, Limited Liability Partnership, Corporate or a bank who is a member of a Stock Exchange.

SEBI registered custodians and Banks recognized by clearing corporations are eligible to become PCM, subject to the prescribed criteria.

Custodians are also clearing members like PCMs but not trading members. They settle trades on behalf of the clients of the trading members, when a particular trade is assigned to them for settlement. The custodian is required to confirm whether he is going to settle that trade or not. In case the custodian fails to confirm, then the onus of settling the trade falls on the trading member or clearing member of the trading member who has executed the trade.

Registration and eligibility of a stock broker

Under the SEBI (Stock Brokers) Regulations, 2026 (which replaced the SEBI (Stock Brokers) Regulation 1992):

• A new entity shall apply to SEBI through the respective stock exchange or clearing corporation.
• The entity shall be issued one certificate of registration by SEBI, irrespective of the stock exchange(s)/clearing corporation(s) or number of segment(s).
• A stock broker registered with SEBI may operate in any recognised stock exchange or any segment, subject to the approval of such recognized stock exchange.
• A stock broker registered with the Board does not need a separate registration to act as a clearing member in any segment of the clearing corporation, subject to that clearing corporation's approval — and vice versa.
• The membership of each segment of the Exchange is separate from the membership of the other segments.

Admission as a trading member is based on age, capital adequacy, financial track record, education, experience and fulfilment of the "fit & proper person" criteria as laid down in the SEBI (Intermediaries) Regulations, 2008. The Exchanges may stipulate additional requirements over and above the SEBI prescribed rules.

Base Minimum Capital (BMC) is the deposit given by the member of the exchange against which no exposure for trades is allowed. The BMC is maintained based on risk profile of the member.

Eligibility criteria by constitution

Individual trading membership:

Partnership firms registered under the Indian Partnership Act, 1932: the applicant shall identify a Dominant Promoter Group as per the norms of the Exchange, and any change in the shareholding of the partnership firm including that of the Dominant Promoter Group or their sharing interest shall be effected only with the prior permission of Exchange/SEBI. They must identify at least two partners as designated partners who would be taking care of the day to day management, each at least 21 years old, at least HSC or equivalent, with a minimum of 2 years' experience.

Limited Liability Partnership under the Limited Liability Partnership Act, 2008: same two designated partners, minimum age 21, at least HSC, minimum 2 years' experience. Additionally the designated partners must not be disqualified under rule 8 of the SCRR, 1957, and must not have held offices of Directors in any company or body corporate or partner in any firm or LLP which had been a member of the stock exchange and had been declared defaulter or expelled.

Corporations/Companies under the Companies Act, 2013:

Other criteria SEBI examines: infrastructure facility, experience of directors, disciplinary proceedings against key management persons. At any point of time, either the proprietor / one designated director / partner or the Compliance Officer of the applicant entity should be meeting the certification requirements as specified by SEBI or the Stock Exchanges.

Fit and proper person

Under Schedule II of the SEBI (Intermediaries) Regulations, 2008, in determining whether an applicant, stock broker, Authorized Person, trading member or clearing member is fit and proper, SEBI may consider:

• (a) Integrity, reputation and character.
• (b) Absence of convictions and restraints order.
• (c) Competence including financial solvency and net worth of the applicant.
• (d) Absence of categorisation as a wilful defaulter.

Authorized Persons

An Authorized Person is not a member of a Stock Exchange but is any person, individual, partnership firm, LLP or body corporate, who is appointed as such by a Stock Broker (including Trading Member) and who provides access to the trading platform of a Stock Exchange as an agent of the Stock Broker.

• Trading members are entitled to appoint authorized persons to operate the trading workstations of various segments, with the approval of the exchange.
• The trading member has to obtain specific prior approval for each such person, and it is segment specific.
• The AP should have the necessary infrastructure like adequate office space, equipment and manpower.
• The Trading Member and Authorised Person shall enter into written agreement(s) in the form(s) prescribed by the Exchange, covering scope of the activities, responsibilities, confidentiality of information, commission sharing, termination clause.
• The Trading Member shall be responsible for all acts of omission and commission of the Authorised Person as it shall be deemed to be that of the Trading Member.

That last rule is the one to remember: the broker cannot disown its authorized person.

Custodians

Custodian means any person who carries on or proposes to carry on the business of providing custodial service. A Custodian is an entity that is responsible for safeguarding the securities of its clients. Besides safeguarding securities, a custodian also keeps track of corporate actions on behalf of its clients. It also helps in:

• Maintaining a client's securities account.
• Collecting the benefits or rights accruing to the client in respect of securities.
• Keeping the client informed of the actions taken or to be taken by the issuer of securities, having a bearing on the benefits or rights accruing to the client.
• Maintaining and reconciling records of the above services.

Under the SEBI (Custodian) Regulations, 1996, the entity should have a net worth of a minimum ₹75 crores and fulfil other eligibility criteria.

Its obligations: the activities relating to his business as custodian shall be separate and segregated from all other activities, and its officers and employees engaged in providing custodial services shall not be engaged in any other activity carried on by him. Every custodian shall open a separate custody account for each client, in the name of the client, and the assets of one client shall not be mixed with those of another client. It must have adequate internal controls to prevent any manipulation of records and documents, appropriate safekeeping measures to ensure that securities, goods, assets or documents are protected from theft and natural hazards, and must ensure compliance with the Investor Charter specified by SEBI.

The regulators

How powers are divided: most of the powers under the SCRA are exercisable by the Department of Economic Affairs (DEA) of Ministry of Finance while a few others by SEBI. The powers of the DEA under the SCRA are also concurrently exercised by SEBI.

The powers in respect of the contracts for sale and purchase of securities, gold related securities, money market securities and securities derived from these securities and ready forward contracts in debt securities are exercised concurrently by RBI.

The SEBI Act and the Depositories Act are primarily administered by SEBI. The rules under the securities laws are framed by Government and regulations by SEBI.

The powers under the Companies Act relating to the issue and transfer of securities and non-payment of dividend are administered by SEBI in case of listed public companies and public companies proposing to get their securities listed.

Self-Regulatory Organizations (SROs) ensure compliance with their own rules as well as with the rules relevant for them under the securities laws.

SEBI's role

SEBI is the regulatory authority in India established under Section 3 of the SEBI Act, 1992 under an Act of Parliament. SEBI's primary role is to protect the interest of the investors in securities and to promote the development of securities market and regulate the securities market, by measures it thinks fit.

Its listed roles:

• Protecting the interests of investors in securities.
• Promoting the development of the securities market.
• Regulating the business in stock exchanges and any other securities markets.
• Registering and regulating the working of stock brokers, Authorized Persons etc.
• Promoting and regulating self-regulatory organizations.
• Prohibiting fraudulent and unfair trade practices.
• Calling for information from, undertaking inspection, conducting inquiries and audits of the stock exchanges, intermediaries, self-regulatory organizations, mutual funds and other persons associated with the securities market.

The regulatory framework

The process of liberalization of the Indian securities market started in 1992. The four main Acts governing the securities market are:

• The SEBI Act, 1992.
• The Securities Contract (Regulation) Act, 1956.
• The Depositories Act, 1996.
• The Companies Act, 2013.

SEBI Act, 1992 — enacted to empower SEBI with statutory powers for (a) protecting the interests of investors in securities, (b) promoting the development of the securities market, and (c) regulating the securities market. Its regulatory jurisdiction extends over corporates (who list or propose to list their securities) in the issuance of capital and transfer of securities, in addition to all intermediaries and persons associated with the securities market. It can conduct enquiries, audits and inspection of all concerned and adjudicate offences under the Act, and has powers to register and regulate all market intermediaries and to penalize them.

And the appeal route: the orders of SEBI under the securities laws are appealable before a Securities Appellate Tribunal (SAT).

SCRA, 1956 — provides for direct and indirect control of virtually all aspects of securities trading and the running of Stock Exchanges and aims at preventing undesirable transactions in securities. It gives the Central Government regulatory jurisdiction over (a) Stock Exchanges through a process of recognition and continued supervision, (b) contracts in securities, and (c) listing of securities on Stock Exchanges. The Stock Exchanges determine their own listing regulations which have to conform to the minimum listing criteria set out in the Rules.

Depositories Act, 1996 — enables the setting up of multiple depositories in the country, to ensure that there is competition in the service. Only a company registered under the Companies Act and sponsored by the specified category of institutions can set up a depository in India. Before commencing operations, depositories should obtain a certificate of registration and a certificate of commencement of business from SEBI.

The key structural rule: a depository, however, cannot directly open accounts and provide services to clients. Any person willing to avail of the services of the depository can do so by entering into an agreement with the depository through any of its Depository Participants.

Companies Act, 2013 — deals with issue, allotment and transfer of securities and various aspects relating to company management. Section 24 delegates the power to regulate and transfer securities to SEBI — specifically, provisions relating to (i) issue and transfer of securities and (ii) non-payment of dividend by listed companies or those companies which intend to get their securities listed are administered by SEBI, and in any other case, by the Central Government.

Securities Contract (Regulation) Rules, 1957 — made under section 30 of the SCRA, providing guidelines on application and recognition of stock exchanges, qualifications for membership, books of account and other documents to be maintained and preserved, and requirements with respect to the listing of securities.

SECC Regulations, 2018 — notified on 3 October 2018, providing procedural norms on recognition, net worth, ownership and governance for stock exchanges and clearing corporations, modalities for monitoring shareholding limits and compliance with "fit and proper" criteria for all shareholders, and mandating that the compensation policy for key management personnel be in accordance with the norms specified by SEBI. They also mandate segregation of regulatory departments in a stock exchange from other departments.

SEBI (Stock Broker) Regulation, 2026 — its Chapter VIII provides the code of conduct: the stock broker shall:

• Maintain high standards of integrity, promptitude and fairness in the conduct of all his business.
• Act with due skill, care and diligence.
• Not indulge in manipulative, fraudulent or deceptive transactions or schemes or spread rumours with a view to distorting market equilibrium or making personal gains.
• Not create false market either singly or in concert with others.

In his dealings with clients and the general investing public he shall faithfully execute the orders for buying and selling of securities at the best available market price, and shall issue without delay to his client a contract note for all transactions in the form specified by the exchanges.

Prevention of Money Laundering Act, 2002

Money laundering has been defined as "any process or activity connected with proceeds of crime including its concealment, possession, acquisition or use and projecting or claiming it as untainted property".

Section 3 — the offence. A person is guilty if such person is found to have directly or indirectly attempted to indulge or knowingly assisted or knowingly is a party or is actually involved in one or more of the following processes or activities connected with proceeds of crime: (a) concealment; or (b) possession; or (c) acquisition; or (d) use; or (e) projecting as untainted property; or (f) claiming as untainted property, in any manner whatsoever.

And it is a continuing offence: the process or activity connected with proceeds of crime is a continuing activity and continues till such time a person is directly or indirectly enjoying the proceeds of crime.

Section 4 — punishment. Rigorous imprisonment which shall not be less than three years, but which may extend to seven years, and shall also be liable to fine. Where the proceeds of crime relate to any offence specified under paragraph 2 of Part A of the Schedule, the rigorous imprisonment shall extend to ten years.

Section 6 confers powers on the Central Government to appoint an Adjudicating Authority.

Section 9 — on an order of confiscation, all the rights and title in such property shall vest absolutely in the Central Government without any encumbrances.

Section 11 — the Adjudicating Authority shall have the same powers as are vested in a civil court under the Code of Civil Procedure for:

• Discovery and inspection.
• Enforcing the attendance of any person, including any officer of a banking company or financial institution, and examining him on oath.
• Compelling the production of records.
• Receiving evidence on affidavits.
• Issuing commissions for examination of witnesses and documents.
• Any other prescribed matter.

Every proceeding shall be deemed to be a judicial proceeding within the meaning of sections 193 and 228 of the Indian Penal Code.

Section 12 — record keeping by every reporting entity (a banking company, financial institution, intermediary or a person carrying on a designated business or profession):

• Maintain a record of all transactions, in such manner as to enable it to reconstruct individual transactions. The records shall be maintained for a period of five years from the date of transaction between a client and the reporting entity.
• Furnish to the Director information relating to such transactions, whether attempted or executed.
• Maintain record of documents evidencing identity of its clients and beneficial owners as well as account files and business correspondence. These records shall be maintained for a period of five years after the business relationship has ended or the account has been closed, whichever is later.
• Every information maintained, furnished or verified shall be kept confidential.

Section 12AA — enhanced due diligence. Prior to each specified transaction, every reporting entity shall verify the identity of the clients by authentication under the Aadhaar Act, 2016 (or another prescribed mode where the person is not entitled to an Aadhaar number), take additional steps to examine the ownership and financial position, including sources of funds, and record the purpose behind conducting the specified transaction and the intended nature of the relationship between the transaction parties. The information obtained shall be maintained for a period of five years.

Where the client fails to fulfil the above conditions, the reporting entity shall not allow the specified transaction to be carried out.

"Specified transaction" means:

• Any withdrawal or deposit in cash exceeding such amount.
• Any transaction in foreign exchange exceeding such amount.
• Any transaction in any high value imports or remittances.
• Such other transaction or class of transactions, in the interest of revenue or where there is a high risk of money-laundering or terrorist financing, as may be prescribed.

Where any specified transaction or series of them is considered suspicious or likely to involve proceeds of crime, the reporting entity shall increase the future monitoring of the business relationship with the client, including greater scrutiny of transactions.

Sections 16 and 17 — powers of the authorities to carry out summons, searches and seizures.

Section 24 — the reversed burden of proof. In the case of a person charged with the offence of money laundering under section 3, the Authority or court shall, unless the contrary is proved, presume that such proceeds of crime are involved in money-laundering. Hence, when a person is accused of having engaged in money-laundering, the burden of proving that the proceeds of the alleged crime are untainted shall be on the accused.

Sections 25 and 26 — establishment of an Appellate Tribunal and the procedures for filing an appeal. Sections 41 and 42 — appeals to the High Court against any decision or order of the Appellate Tribunal within stipulated time. Section 43 — empowers the Central Government to designate one or more Courts of Session as Special Courts for the trial of the offence of money-laundering.

SEBI's AML guidelines

SEBI has laid down guidelines/master circulars on Anti-Money Laundering (AML) Standards and Combating the Financing of Terrorism (CFT) for all SEBI-registered intermediaries.

The reporting entities include a stock-broker, share transfer agent, banker to an issue, trustee to a trust deed, registrar to an issue, asset management company, depository participant, merchant banker, portfolio manager, investment adviser and any other intermediary associated with the securities market and registered under Section 12 of the SEBI Act, and stock exchanges.

Client risk categorisation. All registered intermediaries shall develop client acceptance policies and procedures that aim to identify the types of clients that are likely to pose a higher than average risk of Money Laundering or Terrorist Financing. SEBI has advised members to categorise clients as Low Risk, Medium Risk and High Risk based on the due diligence or KYC documents.

The risk category is based on several parameters such as location of client, nature of business activity, volume and value of turnover, nature of transaction, manner of payments. Clients of special category like politically exposed persons, clients from high risk countries etc. may, if necessary, be classified with an even higher degree of risk.

SEBI also advises intermediaries to appoint a Principal Officer and a Designated Director to ensure compliance with provisions of PMLA.

SEBI (Prohibition of Insider Trading) Regulations, 2015

Insider Trading essentially denotes dealing in a company's securities on the basis of confidential information relating to the company which is not published or not known to the public (known as unpublished price sensitive information), used to make profits or avoid loss. These regulations came into force with effect from May 2015.

Why it is prohibited: any dealing/trading done by an insider based on information which is not available in public domain gives an undue advantage to insiders and affects market integrity. This is not in line with the principle of fair and equitable markets.

An "insider" is any person who is: (i) a connected person; or (ii) in possession of or having access to unpublished price sensitive information.

Note how wide that is: anyone in possession of or having access to unpublished price sensitive information should be considered an "insider" regardless of how one came in possession of or had access to such information.

On the burden of proof: the onus of showing that a certain person was in possession of or had access to unpublished price sensitive information at the time of trading would be on the person levelling the charge, after which the person who has traded may demonstrate that he was not in such possession, or that he has not traded, or that he could not access, or that his trading was squarely covered by the exonerating circumstance.

"Connected Person" means any person who is or has been, during the six months prior to the concerned act, associated with a company, in any capacity, directly or indirectly. The link can come about in several ways:

• By reason of frequent communication with its officers.
• By being in any contractual, fiduciary or employment relationship.
• By being a director, officer or an employee of the company.
• By holding any position including a professional or business relationship, whether temporary or permanent, with the company.

The test is whether that link allows such a person, directly or indirectly, access to unpublished price sensitive information or is reasonably expected to allow such access. Note the look-back: someone who left the company five months ago can still be a connected person.

Deemed connected persons — unless the contrary is established:

1. Relative of a connected person.
2. A holding company or associate company or subsidiary company.
3. An intermediary as specified in Section 12 of the SEBI Act, or an employee or director thereof.
4. An investment company, trustee company, asset management company, or an employee or director thereof.
5. An official of a stock exchange or a clearing house or corporation.
6. A member of the board of trustees of a mutual fund or a member of the board thereof.
7. A member of the board of directors or an employee of a public financial institution as defined in Section 2(72) of the Companies Act, 2013.
8. An official or an employee of a self-regulatory organization recognised or authorised by SEBI.
9. A banker of the company.
10. A concern, firm, HUF, company, or association of persons wherein a director of the company or his immediate relative or banker of the company has more than ten percent of the holding or interest.
11. A firm or its partner or its employee in which a connected person is also a partner.
12. A person sharing household or residence with a connected person.

Unpublished price sensitive information is any information, relating to a company or its securities, directly or indirectly, that is not generally available which upon becoming generally available, is likely to materially affect the price of the securities, ordinarily including:

• Financial results.
• Dividends.
• Change in capital structure.
• Mergers, de-mergers, acquisitions, delisting, disposals and expansion of business, award or termination of order/contracts not in the normal course of business.
• Changes in key managerial personnel, other than due to superannuation or end of term, and resignation of a Statutory Auditor or Secretarial Auditor.
• Change in rating(s), other than ESG rating(s).
• Fund raising proposed to be undertaken.
• Agreements, by whatever name called, which may impact the management or control of the company.
• Initiation of forensic audit, by whatever name called, for detecting mis-statement in financials, misappropriation/siphoning or diversion of funds, and receipt of the final forensic audit report.
• Outcome of any litigation(s) or dispute(s) which may have an impact on the company.
• Granting, withdrawal, surrender, cancellation or suspension of key licenses or regulatory approvals.

This list is not exhaustive.

SEBI (Prohibition of Fraudulent and Unfair Trade Practices) Regulations, 2003

These regulations enable SEBI to investigate into cases of market manipulation and fraudulent and unfair trade practices.

"Fraud" includes any act, expression, omission or concealment committed whether in a deceitful manner or not by a person or by any other person with his connivance or by his agent while dealing in securities in order to induce another person or his agent to deal in securities, whether or not there is any wrongful gain or avoidance of any loss, and includes:

1. A knowing misrepresentation of the truth or concealment of material fact.
2. A suggestion as to a fact which is not true by one who does not believe it to be true.
3. An active concealment of a fact by a person having knowledge or belief of the fact.
4. A promise made without any intention of performing it.
5. A representation made in a reckless and careless manner whether it be true or false.
6. Any such act or omission as any other law specifically declares to be fraudulent.
7. Deceptive behaviour by a person depriving another of informed consent or full participation.
8. A false statement made without reasonable ground for believing it to be true.
9. The act of an issuer of securities giving out misinformation that affects the market price of the security, resulting in investors being effectively misled even though they did not rely on the statement itself.

Section 3 — prohibition of certain dealings. No person shall directly or indirectly buy, sell or otherwise deal in securities in a fraudulent manner; use any manipulative or deceptive device or contrivance; employ any device, scheme or artifice to defraud; or engage in any act, practice or course of business which operates as fraud or deceit upon any person.

Section 4 — no person shall indulge in a manipulative, fraudulent or an unfair trade practice in securities markets. The deemed instances include:

• Knowingly indulging in an act which creates a false or misleading appearance of trading.
• Dealing in a security not intended to effect transfer of beneficial ownership but only to operate as a device to inflate, depress or cause fluctuations in the price.
• Inducing any person to subscribe to an issue for fraudulently securing the minimum subscription.
• Inducing any person to deal in securities for artificially inflating, depressing, maintaining or causing fluctuation in the price.
• Any act or omission amounting to manipulation of the price of a security, including influencing or manipulating the reference price or benchmark price.
• Knowingly publishing information relating to securities, including financial results, financial statements, mergers and acquisitions or regulatory approvals, which is not true.
• Entering into a transaction in securities without intention to perform it or without intention to change the ownership of such securities.
• Selling, dealing or pledging of stolen, counterfeit or fraudulently issued securities — unless the person was a holder in due course, or the securities were previously traded through a bonafide transaction.
• Disseminating information or advice through any media, whether physical or digital, which the disseminator knows to be false or misleading.
• A market participant entering transactions on behalf of a client without the knowledge of or instructions from the client, or mis-utilizing or diverting the funds or securities of the client held in fiduciary capacity.
• Circular transactions to artificially provide a false appearance of trading.
• Fraudulent inducement of any person by a market participant to deal in securities with the objective of enhancing his brokerage or commission or income.
• An intermediary predating or otherwise falsifying records including contract notes, client instructions, balance of securities statements, client account statements.
• Any order placed while directly or indirectly in possession of information that is not publicly available regarding a substantial impending transaction.
• Knowingly planting false or misleading news or information.
• Mis-selling of securities or services.
• Illegal mobilization of funds by sponsoring or carrying on any collective investment scheme.

"Mis-selling" means sale of securities or services by any person, directly or indirectly, by:

• (i) knowingly making a false or misleading statement, or
• (ii) knowingly concealing or omitting material facts, or
• (iii) knowingly concealing the associated risk, or
• (iv) not taking reasonable care to ensure suitability of the securities or service to the buyer.

The last limb needs no intent. A seller who simply fails to check whether a product suits the buyer can still be guilty of mis-selling.

Front running

"Front running" means usage of non-public information to directly or indirectly, buy or sell securities or enter into options or futures contracts, in advance of a substantial order, on an impending transaction, in the same or related securities or futures or options contracts, in anticipation that when the information becomes public the price of such securities or contracts may change.

It is an illegal act on part of a dealer/stock broker in which the broker places his own/firm's order ahead of the client's order or when the client's order is pending. This act gives him an unfair advantage if the price of a security is likely to be affected by the client's order.

It amounts to violation of Section 12A (a), (b) and (e) of the SEBI Act, 1992, and Regulations 3(a) to (d) and Regulation 4(q) of the FUTP Regulations, 2003.

Dabba trading

As per SCRA 1956, trading in the shares of companies between persons other than members of a recognized stock exchange is illegal. Certain unregistered persons carry out trades in securities outside the stock exchange mechanism which are illegal trades and are referred to as "Dabba Trading".

How it works: one person or group of persons carry out trading in securities by using price/quotes of securities available from the stock exchange trading platform/internet/tv screen. The details of such dealings are noted down in a separately maintained book which may be either in physical or electronic form. In order to avoid audit trail, settlement of the transaction is largely done by receiving/paying the difference on account of price movements of securities and without receipt/delivery of securities. Payment/receipt of funds in dabba trades is done using cash, i.e. without using the banking system.

The consequences: investors are subjected to credit risk as there is a possibility of the person who has carried out illegal trading defaulting in making payment, or that person becoming insolvent/bankrupt. In such situations, the investors would not have access to the official complaints redressal/arbitration mechanism. More broadly, it encourages growth of "Black Money", perpetuates a parallel economy, money laundering and criminal activities, leads to tax evasion incurring loss to the exchequer, gives no guarantee for settlement of transactions and circumvents the regulatory environment.

The SCRA provisions violated:

The punishment: under section 23(1) of SCRA, any entity/person who contravenes sections 13, 16, 17 or 19 shall be prosecuted and on conviction shall be punishable with imprisonment for a term which may extend to ten years or with fine up to ₹25 crores or with both.

Under section 25 of the SCRA, offences punishable under section 23 are cognizable offences within the meaning of the Code of Criminal Procedure, 1973, and as such can be investigated by state law enforcement authorities also. Section 26 permits lodging of complaints of violation of the Act by the state authorities.

In addition, illegal trading also falls within the purview of section 406, 420 and section 130-B of the Indian Penal Code.

Two more regulations

SEBI (KYC Registration Agency) Regulations, 2011 — introduced in 2011 with a view to eliminate duplication of the KYC process to be executed by investors and have a uniform KYC process across SEBI registered intermediaries. All members have to be registered with any one or more KRAs.

Guidelines for intermediaries:

• The client shall be allowed to open an account and transact in the securities market as soon as the KYC process is completed.
• After doing the initial KYC of new clients, the intermediary shall forthwith upload the KYC information on the system of the KRA within 3 working days from the date of completion of KYC process.
• Where a client's KYC documents are not complete, the KRA shall inform the intermediary who shall forward the required information promptly.
• The intermediaries shall maintain electronic records of KYCs of clients and keeping physical records would not be necessary.
• The intermediary shall have adequate internal controls to ensure the security/authenticity of data uploaded by it.

Guidelines for KRAs:

• KRA shall send a letter to the client within 2 working days of the receipt of the initial/updated KYC documents from the intermediary, confirming the details thereof, and shall maintain the proof of dispatch.
• KRAs shall develop systems, in co-ordination with each other, to prevent duplication of entry of KYC details and ensure uniformity in formats.
• KRA shall maintain an audit trail of the upload/modifications/downloads made in the KYC data.
• KRA shall ensure that a comprehensive audit of its systems, controls, procedures, safeguards and security is carried out annually by an independent auditor. The Audit Report along with the steps taken to rectify deficiencies shall be placed before its Board of Directors, and thereafter the KRA shall send the Action Taken Report to SEBI within 3 months.
• KRA systems shall clearly indicate the status of clients falling under PAN exempt categories — investors residing in the state of Sikkim, UN entities/multilateral agencies exempt from paying taxes/filing tax returns in India.
• KRAs shall upload the verified/validated KYC information on to the system of the Central KYC Record registry (CKYCRR) within 7 days of receiving the same from intermediaries, having commenced uploading from 1 August 2024.

SEBI (Intermediaries) Regulations, 2008. Here "Intermediary" includes:

• An asset management company under the Mutual Funds Regulations.
• A clearing member of a clearing corporation or clearing house.
• Foreign portfolio investors.
• A trading member of a derivative segment or currency derivatives segment of a stock exchange.

But it does not include foreign venture capital investor, mutual fund, collective investment scheme and venture capital fund. Note the pairing: the AMC is an intermediary, but the mutual fund it manages is not.

Chapter III B — "Usage of Artificial Intelligence". Any person regulated by SEBI who utilizes artificial intelligence and machine learning tools and techniques, whether developed in-house or procured from third party providers, shall be solely responsible for their use, regardless of the scale or scenario of adoption. Specifically responsible for:

• The privacy, security and integrity of investors and stakeholders data including data held in a fiduciary capacity throughout the processes involved.
• The output arising from the usage of such tools and techniques upon which the entity relies.
• Full compliance with applicable laws currently in force.

Chapter III C addresses "Verification of past risk and return metrics".

SEBI (Depositories and Participants) Regulations, 2018. These cover:

• Registration, ownership and governance of depositories and depository participants.
• Rights and obligations of depositories and depository participants.
• Procedure of creating pledge and hypothecation.
• Listing of security and surrender of security.