Regulations
Minimum capital deposit for stock brokers hiked to Rs50 lakh

SEBI has increased the minimum capital deposit required to be maintained by a stock broker to up to Rs50 lakh from a maximum of Rs10 lakh

Mumbai, Dec 19 (PTI) Market regulator Securities and Exchange Board of India (SEBI) has increased the minimum capital deposit required to be maintained by a stock broker to up to Rs50 lakh, from a maximum of Rs10 lakh earlier, to safeguard against any risks posed by them to the overall market, reports PTI.

 

The base minimum capital (BMC) is the deposit maintained by the member of a stock exchange against which no exposure for trades is allowed and these deposits were last hiked by SEBI nearly 16 years ago in 1996.

 

These are meant for meeting contingencies in any segment of the exchange and are commensurate with the risks that the broker may bring to the system.

 

Announcing the increase and other changes in the BMC requirements, which would be implemented by 31 March 2013, SEBI said the market structure has undergone significant structural changes over the years.

 

"The various technological changes and the increased speeds of trading have brought to fore the greater quantum of risks arising during the course of execution of transactions. Hence based on deliberations at various forums, it has been decided to review and enhance the BMC requirement," it said.

 

As per the revised BMC framework, it would be enhanced for members holding registration as 'stock-broker' in cash segment, while BMC would also be introduced for members holding registration as 'trading member' in any derivative segment.

 

SEBI has proposed a higher BMC requirement for those using high-frequency algorithmic trading facilities, while the deposits would be comparatively lower for the trading members indulging in only proprietary trading.

 

The new BMC deposit requirements, as per the profile of the members, range from Rs10 lakh to Rs50 lakh for members of stock exchanges having nation-wide trading terminals, while the same for members of other stock exchanges would be 40% of the same.

 

Way back in 1996, SEBI had asked the stock exchanges to double the base minimum capital requirement for their members from Rs5 lakh to Rs10 lakh in the case of BSE and Calcutta Stock Exchange, from Rs3.5 lakh to Rs7 lakh in the case of Delhi and Ahmedabad Stock Exchange and from Rs2 lakh to Rs4 lakh in the case of other stock exchanges.

 

Later in 2005, SEBI had made certain changes in the BMC framework, but the deposit amounts remained same at that time.

 

The regulator said stock brokers or trading members should maintain a minimum capital of Rs10 lakh in case of trading of securities are done through their own money rather than customer's without using Algo trade.

 

Algo refers to orders on bourses that are generated using high-frequency and automated execution logic.

 

SEBI said BMC limit should be Rs15 lakh in case of a stock broker trades on behalf of client (without proprietary trading and without Algo) and it should be Rs25 lakh in case of proprietary trading as well as trading on behalf of client without Algo.

 

Besides, SEBI has fixed the BMC limit to Rs50 lakh for all trading members and brokers who participates in the trades through Algo.

 

The regulator said a minimum 50% of the deposit should be in the form of cash and cash equivalents.

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RBI to speed up process for issuance of banking licences

Referring to issuing of licences to corporates, the RBI deputy governor said first the guidelines on banking licences should be in place

Mumbai: Days after Lok Sabha passed the Banking Laws (Amendment) Bill, Reserve Bank of India (RBI) Deputy Governor KC Chakrabarty said the process for issuing new banking licences will be expedited, reports PTI.

 

"The process will be expedited... I don't think, it should take much time," Chakrabarty told reporters on the sidelines of an event organised by IDBI Bank.

 

He, however, didn't give a timeframe.

 

Referring to issuing of licences to corporates, the deputy governor said first the guidelines on banking licences should be in place.

 

Yesterday, Lok Sabha passed the Banking Laws (Amendment) Bill, 2011.

 

Among other things, the bill seeks to raise the voting rights of retail/minority investors in private sector banks to 26% from 10%.

 

The Bill also allows RBI to supersede boards of private sector banks and increase the cap on voting rights of private investors in public sector banks to 10% from the present 1%.

 

Changes brought by the new Bill will enable RBI to issue new banking licences.

 

Replying to a question whether the RBI is comfortable with the fact that Competition Commission of India (CCI) will regulate mergers and acquisitions in banking space, Chakrabarty said, "This law is approved by the Parliament and in a parliamentary democracy, what Parliament says is supreme.

 

So, I can't say as an institution that I am uncomfortable."

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Derivatives mess in India: Supreme Court’s ‘defaulter’ blow to corporates does not clarify core issues

The Supreme Court has ruled that dues by borrowers with regard to derivatives contract shall be covered under RBI’s Master Circular providing rules on wilful defaulters. The ruling does not resolve the controversy as it only addresses a minor issue. The heart of the matter—whether banks oversold, mis-sold or illegally sold derivatives to borrowers which were shown to be hedges but actually were not hedges—is yet to be resolved

Derivatives contracts have been a bone of contention with corporates and banks since 2007-08 and have been contested and argued before various judicial authorities. In several such derivatives litigations in India, banks have been classifying companies as wilful defaulters[1] under the Reserve Bank of India’s (RBI) ‘Master Circular on Wilful Defaulters’ and the companies have been long contesting the issue arguing that the RBI Master Circular only covers “lender-borrower transactions” and that derivatives transactions does not involve a lender borrower relationship between the bank and the company.

 

The Supreme Court in its landmark judgement dated 11 December 2012 has held that dues by borrowers with regard to derivatives contract shall be covered under RBI’s Master Circular providing rules on wilful defaulters.

 

The order related to three different petitions—Kotak Mahindra Bank Vs Hindustan National Glass & Ind & Ors; Emcure Pharmaceuticals & Anr Vs ICICI Bank and Finolex Industries & Anr Vs Reserve Bank of India & Ors. An appeal arising out of a Special Leave Petition was made before the Supreme Court against the Calcutta High Court’s order (Writ Petition No. 7729(W) of 2009) dated 1 September 2009 whereby the Calcutta High Court held that the Master Circular applied only to lending transactions of banks and financial institutions and in case of foreign exchange derivatives transactions there was no relation between the banks and the companies and therefore no action could be taken under the Master Circular against these companies on account of derivatives transactions. On the other hand the appeal before the apex court also entailed judgement of the Bombay High Court which held the view decision contrary to that of Calcutta High Court.

 

RBI’s stand in the appeal:

RBI, being party to the appeal, argued that the purpose of the Master Circular is to be taken into consideration. It may not specifically cover the definition of wilful defaulters but the Master Circular should be interpreted in an expansive way to cover new products as may evolve from time to time in the markets which includes derivatives transaction. Further, Clause 2.6 of the Master Circular states that when bank guarantees were invoked and are not honoured by the defaulting units on whose behalf the bank guarantee has been furnished, the defaulters are to be treated as wilful defaulters under the Master Circular. Similar was the case with derivatives dues as well.
 

Who is a wilful defaulter?

In the appeal before the Supreme Court, the interpretation of the term wilful defaulters under the Master Circular was made whereby the definition of wilful defaulters is reproduced below:

 

A "wilful default" would be deemed to have occurred if any of the following events is noted:-

  1. The unit has defaulted in meeting its payment/repayment obligations (emphasis ours) to the lender even when it has the capacity to honour the said obligations.
  2. The unit has defaulted in meeting its payment/repayment obligations to the lender and has not utilised the finance from the lender for the specific purposes for which finance was availed of but has diverted the funds for other purposes.
  3. The unit has defaulted in meeting its payment/repayment obligations to the lender and has siphoned off the funds so that the funds have not been utilised for the specific purpose for which finance was availed of, nor are the funds available with the unit in the form of other assets.
  4. The unit has defaulted in meeting its payment/ repayment obligations to the lender and has also disposed off or removed the movable fixed assets or immovable property given by him or it for the purpose of securing a term loan without the knowledge of the bank/lender.

The apex court stated the following on the issue:

  1. The settled principle of interpretation is that the word is a statute or a document are to be interpreted in the context or subject matter in which the words are used and not in according to its literal meaning. Hence the interpretation of the word ‘lender’ in the definition of wilful default as considered by Calcutta High Court to construe a lender-borrower relation does not hold good.
  2. On the other hand, the stand taken by Bombay High Court on wilful default to include derivative dues relying on the other circulars on prudential norms, classification of assets as non-performing, etc is not correct as these circulars do not clarify the definition of wilful default and do not constitute the context or the subject matter in which the definition of wilful default in the Master Circular has been construed.
  3. On reading the ‘Introduction’ paragraph of the Master Circular, it indicates that the Master Circular originated pursuant to instructions of Central Vigilance Commission (CVC) for improving vigilance administration in banks. The instructions of the CVC pursuant to which the scheme relating to collection and dissemination of credit information on wilful defaulters was formulated by the RBI were to cover “all cases of wilful defaults of Rs25 lakh and above.” The purpose was to improve the intra-bank communications on cases of wilful defaults, frauds, cheating, etc. The intent was to ensure that all cases of wilful default of Rs25 lakh and above were to be reported by banks to RBI and such cases were not confined to wilful default by a borrower of his dues to a bank in a lender-borrower relationship.
  4. The purpose of the Master Circular is “to put in place a system to disseminate credit information pertaining to wilful defaulters for cautioning banks and financial institutions so as to ensure that further bank finance is not made available to them.”
  5. The purpose of the Master Circular being to caution banks and financial institutions from giving any further bank finance to a wilful defaulter, credit information cannot be confined to only the wilful defaults made by existing borrowers of the bank, but will also cover constituents of the bank, who have defaulted in their dues under banking transactions with the banks and who intend to avail further finance from the banks.

The judgement of Calcutta High Court was set aside and that of Bombay High Court was sustained.
 

Consequences of being declared as a wilful defaulter:

Under the Master Circular, the following measures may be taken by bank/ financial institution against a wilful defaulter:

  1. No additional financing facility from banks/ financial institutions. Entrepreneurs/ promoters of companies to be debarred from institutional finance for a period of five years from the date the name of the wilful defaulter is published in the list of wilful defaulters by the RBI.
  2. Legal action against borrowers/ guarantors and foreclosure of recovery of dues this includes initiating criminal proceedings against wilful defaulters.
  3. Banks/ financial institution may ask for change in management of the wilfully defaulting unit.
  4. The borrowing company not to induct a person who is a promoter/ director another company which has been identified as a wilful defaulter or take steps to remove such a person from the board of directors.
  5. In case of guarantees/ letter of comfort, where the group companies have provided for guarantee or letter of comfort and the same has been invoked by the bank but not honoured then such group companies will be reckoned as wilful defaulters.

The big picture:

Forex derivatives in India shot up in 2007. The rupee was getting stronger and the dollar was weakening in the aftermath of the US sub-prime crisis. As the demand for derivatives contract shot up during that period, bankers too became aggressive in selling derivatives products. For some months the derivatives transactions remained tempting.

It was only after the dollar started to strengthen the transactions started to bleed. The derivative losses that the Indian corporates suffered went into few thousand crores per year over 2007 to 2010.
 

The legality of the derivatives were challenged in several cases, first amongst those being case of Rajshree Sugars[2] and many of these cases are on various stages of arbitral and judicial proceedings. Several aspects of derivatives deals have been put to challenge and includes legality of derivatives, fraud and mis-selling, violation of exchange control, whether SARFAESI Act is applicable to derivatives dues of banks, whether a user contesting the bank’s claim is a “wilful defaulter”, and so on.

 

The present ruling does not resolve the controversy as the present ruling only addresses a minor issue—whether a counterparty to a derivative contract—the company entering into a derivative with a bank is a ‘defaulter’ to a ‘facility’, or is it merely a trading transaction between the two where one of the counterparties may dispute the obligation.

 

The real heart of the matter—whether banks oversold, missold or illegally sold derivatives to borrowers which were shown to be hedges but actually were not hedges, is yet to be resolved.



[1] Reserve Bank of India on 1st July, 2008 issued a Master Circular on Wilful Defaulters whereby banks and financial institutions were required to report of wilful defaulters to other banks and financial institutions and also provided for the measures to be imposed on such wilful defaulters.

 

 

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