20 Broker Defaults: It’s Time the Finance Minister Demanded These Specific Actions
Thousands of investors have lost big chunks of their savings in the past two years because our ‘well-regulated capital market’, which boasts multiple safeguards such as investor protection funds and settlement guarantee funds, has turned out to be a mirage. 
Many investors were forced to approach the High Court after their fervent attempts to seek redress from the Securities and Exchange Board of India (SEBI) failed. Although justice is still an elusive and long-drawn process in this David versus Goliath battle, collective action by investors has enabled them to get good legal representation and turn the heat on the regulators. The Anugrah Stock and Broking Pvt Ltd (Anugrah) case, in particular, has exposed how SEBI and the National Stock Exchange (NSE) failed to act quickly enough to protect investors. What is worse, NSE continues to protect itself by twisting rules to avoid compensating investors. 
On 8th March, SEBI submitted a detailed note outlining its regulatory action in the case of Anugrah, including action against its associates Teji Mandi Analytics and Om Shri Sai Investments as well as the clearing member Edelweiss Custodial Services Ltd. The note revealed some startling information. 
  • It was SEBI and not NSE, which was first alerted about Anugrah’s dodgy business through ‘market intelligence’. It asked NSE to order a forensic audit in April 2020. 
  • Preliminary findings of the forensic audit by Ernst & Young were discussed on 4 June 2020, based on which a show-cause notice was issued on 17 July 2020 about Anugrah having received Rs165 crore in a derivatives advisory service (DAS). This revealed just a small part of the problem. It eventually turned out that Anugrah, Teji Mandi and Om Shri Sai had garnered over Rs1,300 crore from investors. 
  • A show-cause notice was issued in July and Moneylife has reported extensively on developments since then. But the chronology submitted to the Court shows that a detailed discussion on the forensic audit report happened on 6 October 2020. It revealed: i) a shortfall of client funds; ii) shortfall of client securities; iii) discrepancies in records; and iv) payments made to clients who had debit balances. All these are the hallmark of a Ponzi scheme; but NSE’s risk management systems do not seem to have caught any of it! 
  • On 15 October 2020, NSE finally added some serious violations in a supplementary show-cause notice: i) falsification of accounts; ii) misuse of clients’ funds to the tune of Rs297.6 crore; iii) misuse of clients’ securities of a massive Rs683.8 crore; and iv) payments of over Rs134.15 crore to clients with debit balances, engaging in fraudulent acts and failing to resolve investor complaints, etc. 
This was long after the Ponzi scheme had run its course, trading had stopped and Anugrah no longer had any money to repay investors. In fact, the entire chronology after this, including action against Edelweiss, is pointless since there is no money anymore. SEBI’s adjudication order of 9th March, imposing a penalty of Rs90 lakh on Anugrah, is just as meaningless and only rubs salt into investors’ wounds. Read: SEBI Imposes Rs90 Lakh Penalty on Anugrah Stock & Broking for Repeated Violations of Norms
SEBI goes on to provide a bland status report on the current situation. It says, as of 26 February 2021, NSE has received “claims of Rs761.35 crore from 2614 clients and it has sent out demands of Rs223.15 crore to 854 clients.” How can NSE send out debit notices and demand payments from victims of fraud? Shouldn’t NSE come up with a fair and equitable way of making claims from investors? Why is the regulator standing by and watching NSE’s unfair actions when the forensic audit has established that Anugrah falsified its reports and made payments to clients with debit balances?
NSE’s self-serving actions do not end with this. The Exchange has created an artificial cut-off of 90 days (for Anugrah, Karvy and other failed brokers) for compensation from its investor protection fund (IPF). It has also refused to compensate all those who were part of the fraudulent DAS. The question is: Can NSE simultaneously refuse compensation to one set of DAS victims and send demand notices to extract payments from another 854 investors?
Shouldn’t the capital markets regulator be looking into this, instead of forcing investors to approach the Bombay High Court? Why is SEBI enumerating NSE’s actions for the Court, instead of examining them more closely? As I have repeatedly pointed out, it is SEBI’s job to protect investor interest; this is enshrined in the preamble to its statute, ahead of market development. SEBI’s submission says that it has been holding fortnightly review meetings since December 2019, has taken note of the ‘inadequacy of NSE’s actions’ on broker defaults and has also asked for a plan of action with online verification. The last bit was asked only in February 2021. On 11th March, replying to a Lok Sabha question on Karvy Stock Broking (Karvy), minister Anurag Thakur (http://loksabhaph.nic.in/Questions/QResult15.aspx?qref=20994&lsno=17) said that SEBI has initiated proceedings against NSE “for violating provisions of SEBI circulars pertaining to monitoring of brokers and oversight of members." The latest in the series of defaults is Arcadia Share and Stock Brokers Pvt Ltd on 8 February 2021. Will SEBI initiate a score of separate proceedings against NSE? Or is it time to acknowledge systemic issues and initiate comprehensive action and overhaul of NSE’s processes? 
When NSE suffered a major glitch on 24 February 2021, finance minister (FM) Nirmala Sitharaman’s intervention sent out a signal that the government is treating the issue very seriously and plans to hold the regulator accountable. NSE is the world’s 3rd largest exchange and has a monopoly in the equity futures & options (F&O) market, a 94% market share in the cash market and 72% in currency futures in India according to its latest half-yearly results presentation.
The Exchange is also extraordinarily profitable with a 76% EBITDA (earnings before interest, taxes, depreciation, and amortisation) margin, which makes it among the most profitable companies in the world. While investors lost money because of regulatory failure, NSE’s half-yearly revenue increased 39% to Rs2,658 crore. How can an Exchange with annual revenues of over Rs5,000 crore be allowed to get away with such poor investor protection and investor engagement? 
The buck stops at SEBI. It is the regulator’s job to hold NSE accountable and ensure that it invests substantially more on broker oversight, risk assessment, inspection of security accepted by NSE Clearing Ltd (both India Nivesh and Anugrah’s issues with Edelweiss are examples). Its IPF is still very meagre and, according to advocate Ravichandra Hegde who is fighting the Anugrah case for investors, it has never used its settlement guarantee fund in recent years. 
Maybe is time the FM intervenes and forces NSE to be more accountable for the string of broker defaults that have taken us back to the 1990s when SEBI was still to get its teeth. 
Here are a few things that the finance ministry can insist on. 
  • A complete overhaul of NSE’s risk management structure for failure to anticipate 20+ broker defaults starting November 2019. Fix accountability on those responsible for failing to put in place proper checks & balances.
  • Ask NSE to report broker defaults/expulsions with greater details https://www.nseindia.com/invest/defaulter-expelled-members
  • Augment its IPF to at least Rs10,000 crore in line with NSE’s turnover. SEBI has recently asked NSE to enhance the IPF to Rs1,500 crore, under pressure from media like Moneylife. And, yet, BSE with just about 10% of NSE’s business had a significantly more substantial IPF of Rs825.82 crore as on 31 January 2021. (Read: SEBI Asks NSE To Increase its IPF Corpus to Rs1,500 Crore from Rs594 Crore at Present)
  • Revamp NSE’s criteria for compensating investors in case of default. Surely, SEBI has plenty of feedback about the niggardly compensation from IPF and how investors are paying for NSE’s failure to ensure proper oversight over brokers.
  • NSE must be ordered to invest a lot more money in risk management, audits, market intelligence and genuine investor awareness (the Exchange spends crores of rupees on media sponsorships but cannot deploy enough support staff to respond to investor queries fast enough).
  • Impose a significant, one-time penalty on the Exchange, which should be equitably distributed among investors who have lost money in the past 20 broker defaults. SEBI can be asked to work out an equitable distribution strategy. 
  • Ask SEBI for a root cause analysis and a comprehensive report on the sharp rise in broker-defaults and put them in the public domain with an action plan to avoid future embarrassment.  
Frequent broker-defaults and losses to investors are just as embarrassing as the technical outage that shut NSE down for several hours on 24th February. Isn’t it time the government took this equally seriously?

Monkey Singh
3 years ago
Well said. It is SEBI's job to investigate and take the necessary action rather than passing the buck to NSE which is by itself a fraud establishment considering the co-location issue for example.
3 years ago
With such dubious record, our financial sector can't hope to claim stability of high order. Read along with this the huge frauds in the banks, NBFCs and fugitives escaping arrest for years and many others still unfolding. How can we hope to reach the clean Himalayas in growth. Pandemic fades into insignificance with all such events!! Thorough clean up of the financial sector through improvement of governance and business ethics, establishing ethics committees with persons of high integrity in various fields do not brook delay.
Replied to yerramr comment 3 years ago
Not only the pandemic, terrorism caused by the likes of Hafiz Saeed, Masood Azhar and Dawood Ibrahim pales into insignificance when compared to the colossal damage done to the country by our home-grown financial terrorists – Chitra Ramkrishnan, the Sandesaras, Ravi Parthasarathy, Nirav Modi just to name a few; the list is huge. The grim reality is that these terrorists will continue to operate with impunity in broad daylight because they know that they will rarely get caught. If, by chance, they do get caught they know that they can use Plan B and flee the country. If that fails they have a battery of lawyers who can drag their court cases till everybody forgets. In case that too flops, they know that they will only receive a rap on their knuckles. What more can a terrorist ask for?
3 years ago
They are all hand in glove - SEBI, NSE, shady brokers - corrupt to the core. Look at the recent knee jerk reaction in the form of changes in margin rules by SEBI in the name of "protecting" the retail investors. We all know who it is protecting. Instead of carrying out its duty of vigilance properly it does these frequent rule changes, penalty impositions in the wrong places, etc. to put the spotlight elsewhere and "show" it is doing something after the game is over. Who knows, the recent NSE "glitch" too might have been staged to save or bail out some trapped whale who greased their palms big. It is high time the government kicks some butt and stop things from going further downhill. We need some serious overhaul in this whole system.
3 years ago
Shortcomings in audit processes of exchange is one of the root cause for default's by members. One suggestion from me is auditors should be given power's to ask for statements from banks directly and that should be the basis for audit.
3 years ago
Will the Hon'ble Finance Minister, for once, act as a
Regulator of Regulator SEBI, and place the findings
in public domain.
There is no alternative as there is no Regulator for Regulators.
3 years ago
It is Indian citizen who has no affiliation to anyone in government, judicial,or beurocratic is the most gullible species in India.Politicians , judges, regulators ,beurocrats are the ever blessed persons.No fear of law, contempt action for failures or corrupt practices.
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