To protect the interests of investors in securities and to promote the development of and to regulate the securities market the Securities Exchange Board of India (“Board”) has issued a circular dated 17th December, 2018 to put in place an Early Warning Mechanism and sharing of information between Stock Exchanges, Depositories and Clearing Corporations to detect the diversion of client’s securities by the stock broker at an early stage so as to take appropriate preventive measures.

Key Highlights of the Circular

• Early warning signals, for prevention of diversion of clients’ securities, may include the following:
• The threshold for such early warning signals shall be decided by the Stock Exchanges, Depositories and Clearing Corporations with mutual consultation.

1. Deterioration in financial health of the stock broker/ depository participant based on specific parameters
2. Early warning signals in relation to securities pledge transactions by the stock broker to be identified by the Depositories and shall be shared with Stock Exchanges
3. Increase in number of investor complaints against the stock broker / depository participant alleging un-authorized trading / unauthorized delivery instructions being processed and non-receipt of funds and securities and non-resolution of the same.
4. Alerts generated from the monthly / weekly submissions made by stock broker under Risk Based Supervision (RBS) or Enhanced Supervision to the Stock Exchanges
5. Stock broker’s terminal disabled for certain number of days in any segment / Stock Exchange in previous quarter

• Stock Exchanges and Depositories shall frame an internal policy / guidelines regarding non-cooperation by stock brokers and depository participants during inspections which shall lay down the time period, the type of documents critical for closing the inspections, which if not submitted, can be treated as non-cooperation.
• Stock Exchanges / Clearing Corporations / Depositories, shall devise a mechanism to detect diversion of clients’ securities and to share information among themselves in respect of:

1. Diversion of pay-out of securities to non-client accounts
2. Mis-matches between gross (client-wise) securities pay-in and pay-out files of a stock brokers generated by the Clearing Corporation which shall be compared with actual transfer of securities to/from the client’s depository accounts by the Depository. The cases of any mismatch found out by the Depository shall be informed to the concerned Stock Exchange / Clearing Corporation.
3. Stock Exchange shall seek clarification from the concerned stock broker on the mismatches reported by Depository and identify transfer to a non-client / third party, without any trade obligation.
4. Such information on wrong / fraudulent / unauthorized transfer shall be shared by the Stock Exchange with other Stock Exchange/s.

• Stock Exchanges, Clearing Corporations and Depositories are directed to implement the above early warning mechanism and preventive actions, with effect from February 01, 2019.

Source: Securities Exchange Board of India

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