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Chapter - 3

Review of Literature

An Overview In this chapter, an effort has been made to review the literature available on the

subject to present an overview of the various aspects and issues of the present

research study. The existing information and knowledge on the subject not only helps

to form the necessary background for this research project, but also enables to identify

the gap in the research area. Though a number of studies on various aspects of

securities market are available, yet, limited literature on investor protection and

grievance redressal mechanism is available and that too from a different prospective.

The review of various research studies conducted both in India and abroad has been

covered under the following sub-headings:

1. Investor Protection,

2. Grievance Redressal Mechanism for Retail Investors,

3. Investor Education,

4. Corporate Governance and Disclosures norms,

5. Investor psychology and sentiments,

6. Market Manipulation, and

7. Regulatory framework & Role of Regulator in Securities Market.

3.1 Investor Protection Securities and Exchange Board of India (SEBI) was established with a clear mandate

to protect the interest of investors in securities market. The Government, Stock

Market Intermediaries and Market Regulator (SEBI) have initiated a number of

measures in this respect to protect the interest of investors in securities market. The

literature available on investor protection both from India and abroad can be cited as

under:

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Porta et al. (1997), in their study, focused on certain questions with regard to rights

and protection norms of investors. They further studied the extent of laws available

for investor protection, and tried to address all such questions based on the legal

system of different countries. The authors found that the quality of investor protection

and the power of voting against the erring and manipulating directors were strong

determinants of ownership and cost of raising equity. In countries having strong

investor protection laws, the ownership was broad based and collection of funds for

the corporate was easy. The results suggested that inadequate protection of investors

might be costly. If small investors are not protected, companies will be unable to raise

capital from them, and entrepreneurs will be unable to diversify their holdings. High

ownership concentration, then, may be a symptom of a poorly functioning capital

market.

Similarly, while commenting upon the restoration of investors’ confidence, Gupta

(1998) examined various measures used for their protection. He advocated that blue

chip companies be encouraged to issue new equity shares to retail investors at a

reasonable low price to benefit them since the free pricing has taken a heavy toll on

the savings of investors. He advocated for providing exit route to small investors of

the defunct companies and further correlated these statistics with the rise in investors’

confidence particularly with Secondary Market activities.

On the other hand, Aggarwal (2001) elaborated various investor protection measures

and disclosure requirements for primary & secondary markets, types of investor

grievances and redressal. He attempted to inform the investor about the procedure for

making an application to Company Law Board for violation of his rights by

companies. He discussed in his book latest developments in securities market related

to investor protection measure and related to prudent corporate governance norms for

all listed companies and various other measures to ensure transparency and better

disclosure practices.

The government set up a committee under the Chairmanship of Mitra (2001) to study

and suggest suitable measures on investor protection. The committee was of the

view that since there are multiple agencies monitoring companies from raising money

from the public, such as SEBI, Department of Company Affairs, Reserve Bank of

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India, a separate legislation was, therefore, required for protection of interests of small

investors. Committee further proposed for setting up of an Investor Education &

Protection Fund, which was cleared, by Comptroller and Auditor General of India in

July 2001.

Joint Parliamentary Committee (2002) constituted by the Parliament of India through

its observations and recommendations on the petition filed by Investor Grievances

Forum in 2000 recommended that the measures to be taken to safeguard the

investments of small investors be examined by the Government Regulatory

Authorities and be implemented with the positive perspective. The report further

recommended that proper efforts should be made by Securities & Exchange Board of

India (SEBI) and the Department of Company Affairs (DCA) (now Department of

Corporate Affairs) in co-ordination with Stock Exchanges for timely detection of

misleading and manipulative practices, if necessary with the help of police authorities.

Himmelberg, and Hubbard (2004) discussed the effect of investor protection on the

cost of capital and the possible trade off between the two. The paper investigated the

cost of capital in a model with investor protection and the possible conflict between

the inside managers and outside shareholders. The authors were of the view that

whenever there was a weak investor protection, there was high concentration of inside

equity ownership (equity ownership with the promoters/managers). Secondly, higher

the concentration of inside ownership, higher would be the cost of capital. These two

results were concluded from a sample of firms across 38 countries across the globe.

Association of Private Clients Investment Managers and Stock Brokers, London

(APCIMS) (2002) studied the investor protection, transparency and investor

education in US. The study found that from the perspective of the protection of

investor, he is best protected if he is able to choose the services that he wants and the

conditions that he expects in a well regulated and transparent market place, where

there are sufficient number of alternatives available to him. Restrictions cause

monopoly and result into the reduced competition and higher cost of ownership. The

study observed that individual investor should recognize his responsibilities, e.g.,

study the market, ask questions, and understand their proposed actions before entering

the market.

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Castro et al. (2002) observed that investor protection fosters economic growth in an

economy because it ensures continuous flow of capital. The paper predicted that

positive effect of investor protection on growth is larger for countries that impose

lower restrictions on capital inflows, hence, they advocated for better investors

protection laws. A comparison of Indian and South Korean market has been taken in

the study where in it has been found that both countries have placed considerable

restriction of capital flows and India has better protected the interest of investor than

Korea. The study concluded that better investor protection environment leads to

faster capital accumulation.

Sinha (2002) gave details of various reforms consisting of measures in order to

liberalize, regulate and develop Indian Securities Market. The author stressed that

these measures would build capability of intermediaries to service investors

adequately, empower regulators and Self-Regulatory Organizations (SROs) to punish

the offenders expeditiously, create institutions to redress the grievances of investors

effectively and improve corporate governance. He also cited various reforms in

securities market since the decade of 1990s and thereafter, for improving the

investors’ confidence.

Government of India in April 2001 after conceding the demand of opposition to

institute an enquiry in the Ketan Parekh scam and payment crises in Calcutta Stock

Exchange set up another JPC (2002). The Committee remarked in its report that,

“The small investor enters the market in the expectation that the government and its

regulators will ensure integrity of the market, so that whether the market rises or

falls, market behaviour is not the consequence of rigging or other malpractices and

irregularities. But if there is persistent malpractice and this is known or should be

known to the government and its regulators, and yet little or nothing is done quickly

to restore integrity of the market, then repeated fraud, accompanied by persistent

failure on the part of the authorities to close the loopholes, becomes a scam.” It was

clear from the findings of the JPC report that interests of small investors in securities

market were not fully protected and more stringent investor protection environment

was needed.

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The Report of the Joint Parliamentary Committee (JPC) (2002) on Stock Market

Scam and related matters was presented to the Parliament on 19th December 2002. It

recommended that the Government should present the Action Taken Report (ATR)

within 6 months of this presentation. The JPC made 276 observations/ conclusions/

recommendations. Each of these has been listed in the ATR, along with the response

of the Government. The Committee’s report presented a detailed analysis of the

nature and dimensions of the stock market scam, which surfaced in 2001. It observed

upon the systemic weaknesses that led to the scam, also the abuse of systems by

various individuals. This ATR presented to Government’s response on each of the

points, also the remedial measures to be taken by the Government.

Observations of JPC on the functioning of SEBI and reply of the Government in its

ATR are given hereunder:

1. Failure of SEBI and Ministry of Finance to prevent the scam and control

volatility.

2. Persistent and pervasive misappropriation of Public Funds.

3. Responsibility of various intermediaries and Regulatory Authorities, like

Banks, Stock Exchanges, Brokers, Unit Trust of India, other corporate

bodies, Chartered Accountants, Reserve Bank of India, Securities and

Exchange Board of India, Department of Company Affairs.

4. Role of Calcutta Stock Exchange and its failure to pre-empt scam.

5. Nexus between Ketan Parekh, Banks and corporate Houses in the scam.

6. Advice to SEBI for further investigation in the matter.

7. Need for effective guidelines, rules and regulations, and

8. Responsibility of the Government to provide a safe and scam free

environment.

The government while commenting upon the JPC, replied that the Ministry of

Finance, being the financial custodian of the country, is duty bound to protect the

interests of small investors. SEBI has now been endowed with statutory powers under

the amended SEBI Act to ensure redressal of investor grievances and entitle investors

to seek compensation, award of damages etc.

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Similarly, on the systematic risk and investor protection, Malik, (2003) studied the

need for regulating Indian Securities Market in the framework of Investor Protection,

Systemic Risk and achieving broader social objective. He was of the view that it is the

goal of regulator to protect investors’ interest so that the securities market functions in

an orderly manner. He expressed satisfaction that the Ombudsman Scheme would be

a right step to protect the interest of investors in securities market. He stressed the

need for measures for a strong investors protection mechanism, e.g., supportive

banking system and legal system in line with technological innovations, promotion of

healthy code of conduct, etc. in stock market.

While commenting upon the importance of investor protection, Singh (2003) stressed

that every investor keeps the safety factor of investment as foremost while parting

away with his hard earned money. But every time unforeseen events happen and

shatter the confidence of investors. He went on to add, if we want healthy capital

market, we need to restore the confidence of investors in capital market. A healthy

capital market is most crucial for the economic development of any country. Mr.

Singh suggested various measures so as to boost the confidence of investors such as

creation and maintenance of an Investor Compensation Fund to compensate the

aggrieved investor and Modern Technological Innovations, such as, on line trading,

scrip-less trading, internet trading, etc. for development of capital market. He

concluded that protection of interests of investors is the topmost priority and if we are

able to do that then bundle of opportunities lie ahead.

While discussing the reforms vis-à-vis investor protection, Balakhhandran, (2003)

stated that the small investors have invariably been at the receiving end of the stick

and have been left high and dry, and stated that these reforms initiated by the

government have benefitted the bigger players like corporate investors, FIIs, FFIs and

not the small gullible investors. The author stated that according to RBI statistics, the

participation of small investors in equity markets is just 3.3 per cent of the GDP and

4.4 per cent of the financial assets.

FICCI also conducted a survey on state of Capital Markets covering 200 entities

across the sectors (2003). The survey used the important indicators in respect of

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Investor Protection and explained the measures required to restore investor

confidence. Some of the observations/ inferences of this survey are as under:

a. Eighty-eight per cent of the respondents felt the need for small investors (retail

investors for the purpose of our study) to revive the IPO market, the survey said

that it was imperative for boosting investors’ confidence.

b. Seventy-nine per cent of the respondents supported the view that Investor

Protection and restoration of investor confidence are absolutely essential to

revive the IPO market.

c. Sixty five-per cent of the respondents suggested setting up of Special Courts by

SEBI for redressing the investor grievances.

d. Fifty-nine per cent of the respondents expressed the need to have frequent

interaction between the corporate and investing community.

e. Fifty-six per cent of the respondents suggested that company should provide

continuous update to investor on company’s performance.

With regard to the investor confidence, Haque and Khan, (2003) stated that there are

several aspects which need merit and attention of regulators so that the sluggish trends

in the primary markets are reversed. The authors cited the examples of economies of

USA, UK, Australia, Canada, Germany and Asian countries where the investment by

pension funds in equities is quite high and play an effective role in growth. They

concluded by stating that we need a strong and effective planning to restore the

investors’ confidence in securities market.

Hyytinen and Takalo (2003) in their research paper, studied Financial Markets of UK

and Finland for the effects of investor protection on the availability of external

finance, entrepreneurship, and creation of new firms. The authors found that anything

that increases entrepreneurship also increases the creation of new firm and free flow

of funds and vice versa. They were of the view that reduction in transparency

regulations of small business are emphasized in Finland and the goal of UK reforms is

to provide maximum possible freedom combined with transparency necessary to

ensure the responsible and accountable use of that freedom.

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Wang et al. (2003), found that poor investor protection environment leads to higher

information asymmetry in securities market. The extent of investor protection has

been shown to have a positive effect on a country’s efficiency of corporate

governance, breadth-depth of Capital Market, and economic growth of the country.

The study further stated that well protected investors are willing to pay more for the

securities and the firms are able to finance their projects through financial market

easily. The authors concluded that there exists a negative relationship between

investor protection and information asymmetry.

While discussing difference in stock prices across countries, Giannetti and Koskinen

(2004), explored the relationship of investor protection and demand for equity. The

authors found that the demand for equity is important for overall development of

stock market. If the level of investor protection is low, the big investors have

tendency to become controlling shareholders. Sudden increase in demand by the big

players also increases the prices of the stocks. This causes reduction in the return on

stocks in weak corporate governance countries. Weak investor protection measures

increase the cost of external funds and cost of capital in particular. The paper also

found that the investor protection measures have positive correlation with stock

market development. The paper concluded by stating that if the level of Investor

Protection is low, wealthy investors have an incentive to become controlling

shareholders and pay price for their stocks, because they can earn additional benefit

by expropriating outside shareholders.

Somaiah (2005), former Member of Parliament, explained the role of small investors

in Indian Securities Market, and the Grievance Redressal System available in the

Stock Exchanges of the country. He was of the view that small investors’ dreams

may be small, but their commitment is stupendous. The author further stated that

protection of small investors is being discussed since the beginning of securities

market in India (1850) and stated that regulators have always talked about small

investors and made new commitments every time to protect them, forgetting the

earlier one. Still scams like Harshad Mehta scam-1992, NBFC Companies scam-

1998, CRB Finance & Mutual Funds scam-1997, Plantation Companies scam-1997-

99, Vanishing companies scam-1995-99, Name Change scam 1999-00, Dot Com

Companies scam-1999-00, US64 fiasco-1897-98, Ketan Parekh scam-1999-01 and

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UTI Fiasco-1994-00 took place. The author lamented that the authorities do not seem

to be at all in a hurry to punish the guilty despite strong evidence of nexus between

brokers, promoters and corporate that resulted into scams. Rather they blamed small

investors for being greedy and overambitious. He pointed out that during the scams

there were JPCs and many amendments in the Acts in the name of protection of

investors’ interest, but not a single investor got his money back, which was lost due to

manipulations. The study by Somaiah has comprehensively covered the protection

for small investors in the new millennium and offered valuable recommendations.

Chung (2005) studied the liquidity of securities listed in many countries by using

ADR data. The paper investigated the relationship between investor protection and

liquidity of scrips. The results of the study demonstrated that level of Investor

Protection as well as quality of law endorsements have significant effects of liquidity

of companies and that the ADRs of companies operating in countries with better

investor protection mechanisms and higher quality law enforcement levels, had both

lower information costs, higher liquidity resulting in greater market depth.

Edwards (2006) of Columbia Business School while discussing the rationale of

Securities Exchange Commission (SEC) of US for the registration of Hedge and

Mutual Funds for stronger regulation of these entities and for better investor

protection stressed that the funds’ strategies should be made more accessible to a

broader spectrum of investors with the goal to establish a regulatory approach that

enables these funds to provide absolute return investment strategies.

On the other hand, Gurunathan (2007) while discussing the investors’ protection and

economic development, stated that globally, there is increased evidence to suggest

that investor protection has assumed an important role in the economic development.

Integrity of the financial markets and economic well-being of a country depends on

corporate accountability and investor confidence. The global concern to make capital

markets safer and transparent, capable of managing the crisis cannot be quickly fixed.

The global evidence suggests that every time there is stock market crisis, money

pours into bank deposits. If the investors are not protected properly by means of safe

rate of return, the corporate houses will not be able to collect the funds from the

market with cheap rate effectively in future days. This can only be done by initiating a

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series of systematic measures which would build their confidence in the systems and

protect the interest of investors.

While discussing about the apathy of the retail investors, Black (2008) was of the

view that retail investors have had reason to doubt the honesty and fairness of the

securities markets and securities professionals more particularly in the wake of the

collapse of corporate giants like Enron and World com and the bursting of the dotcom

bubble. These collapses of the giants have revealed that anything can happen in the

world of securities market. The so-called stock recommendations by analysts were

biased piece of information rather a product of careful research. To their dismay,

investors learned that certain preferred investors received special trading privileges to

the detriment of other investors. Not surprisingly, investors’ confidence in the

securities industry stooped low along with the value of their portfolios. Investors

identified “dishonesty” as the industry’s main problem.

Cofee Jr. and Berle (2009) discussed the causes of Great America’s Real Estate

bubble, Credit Rating agencies, responsibility of Securities Exchange Commission

(SEC) and restoring the due diligence and consequently enhancing the investor

protection. The author stressed the need for determination of the responsibility of SEC

than just to blame the regulator for the systematic risk. The authors were of the

opinion that SEC cannot play the role of systematic risk regulator, and opined that

US needs one systematic Risk Regulator which will be responsible to regulate the

capital adequacy, safety and soundness of all institutions that are “too big to fail”.

This would solve the problem of regulatory arbitrage.

While commenting upon the regulator’s duties vis-à-vis investor protection, Dalal

(2009) painfully discussed the agonies faced by the retail investors and the failure of

the market regulator and Government to tackle various issues relating to the capital

market particularly with regard to retail investors. She emphasized upon regulating

the regulator in a more effective way, and the need for accountability of the market

intermediaries with a focus on the preservation of the investors’ capital.

Jain (2010) of Midas Touch Investor Association, stated that during 1991 to 1997 as

many as 4992 IPOs raised whooping 44940 crore mostly from the retail investors.

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But their savings soon dried up and the retail investors were taken for a ride. He then

gave a detailed account of losses by the retail investors through IPOs. The chart given

by him indicated that investors lost 4595 crore in DLF IPO, 4319 crore in Reliance

Power IPO and 1292 crore in NHPC IPOs. He also painfully gave an account of

vanishing companies, suspension of trading, compulsory delisting, defunct stock

exchanges, scams etc., hence, advocated for stronger investors protection regulations.

Talking about the excess volatility and imbalances in Indian Securities Market,

Suvanam et. al (2011) in their research paper for National Stock Exchange, looked at

the various aspects of the structured product markets including the motivation to buy,

the risks of the products, the hedging behaviour and the effect of hedging on exchange

traded products. They were of the opinion that hedging would be able to reduce the

volatility in case there are newer products in the markets. It would also help the retail

investors various options in the markets and would also bring down the cost of

transactions.

Hsu et al. (2011) examined from as many as 34 both developed and developing

economies as to find out how financial market development affects innovation. They

were of the view that the effect of financial development on innovation is more

evident in emerging countries and in countries with stronger shareholder protection.

Therefore, the development of equity markets encourages innovation and on the other

hand credit market development impedes innovation. They suggested that in countries

with stronger investor protection laws, chances of financial innovations are increased,

which result in financial development of the economy.

While finding out the investors protection across different countries, Gan et. al.

(2011) studied a sample of 17,483 firms in 40 countries during the period 1985-

2005, to find out whether in countries where investor protection is weak, the

companies tend to pay higher dividend to lure the investors as compared to other

countries where the investors’ protection is strong. The study found that the

companies lure the investors by paying higher dividends in order to attract equity

investments where there are poor investor protection laws. This aspect not only leads

to poor decision by the investors, but also puts extra financial burden on the weaker

organizations.

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Ariss (2011) while discussing the investor protection in developing economies stated

that developing countries are expected to play an important role in restoring global

financial stability. He also pointed out that their presence is also felt because of

enlargement from G7 to G20. He was of the view that in the wake of financial crisis,

debt financing could fill the gap of risk capital more particularly in the developing

countries like Brazil, China, India and Russia. He was further of the view that in

countries with weaker legal protection, the investors tend to play safe and rely more

on debts investing.

Discussing the corporate governance failures and role of institutional investors,

Hawley et. al. (2011) and others noted that when a sophisticated institutional investor

makes poor choices, this harms the ultimate investors for whom the securities laws

were designed to protect. The authors were of the view that bigger investors need to

be extra cautious, and this not only saves them, at the same time this saves all other

small investors, and the economy as a whole. They cited about the global financial

crisis and attributed to the poor investing decision by the so-called sophisticated

institutional investors. They cautioned to put more attention and importance on the

failures of the institutional investors. This would go a long way to protect the retail

investors and would help stabilize the economies and restore the financial stability.

On the contrary, Bartram and Ren𝑒 (2011) and others studied the data from fifty

countries from 1990 to 2006 to find out why stocks in US are so volatile. They were

of the view that volatility in US stocks is higher because of higher investor protection.

According to them, higher the level of corporate governance level and transparency

induces large number of investors to take informed decisions and action of large

number of buyer and sellers causes the volatility. It is important to understand why

volatility is high if it is high. It can be high for reasons that are associated with greater

economic welfare, for instance greater incentives and ability of firms to take risks that

lead to more innovation and more growth. It can be high for other reasons, such as

political risk. Overall, however, volatility is high in the U.S. compared to the other

countries for reasons that are associated with factors that contribute to economic

growth.

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3.2 Grievance Redressal Mechanism for Retail Investors

In securities market, there are many instances of investors’ grievances that adversely

affect the investors’ morale and the capital market as a whole. SEBI has initiated

number of steps with regard to Investor Grievances and their redressal. SEBI has set

Grievances Redressal Cells and directed all the Stock Exchanges/ registered brokers/

sub-brokers/ depositories/ listed companies, registered DPs to make provisions of

special email id for lodging the grievances of investors, and designation of

compliance officer for the purpose of registration of complaints of investors. The

grievances of investors can be of many types like non-receipt of Refund Order/

Allotment Letter/ Dividend/ Share or debenture Certificates/ Annual Reports/ AGM

notice, non-credit to Demat Account, non-receipt of Debenture Redemption /Returns

on CIS/ Fixed Deposits, grievance related to vanishing companies / brokers / sub-

brokers, etc. The literature under review is cited as under:

Gupta (1991) was of the view that the problem of investors’ grievance in India has

assumed large proportion because no clear nodal authority exists for safeguarding

investors’ interests. The aggrieved investors even do not know whom to approach and

have to go from pillar to post for the redressal of their grievances.

Leifer (1996) discussed the grievances redressal mechanism regarding Arbitration

through alternate dispute resolution techniques. As per the paper, 6000 cases of

Arbitration are handled every year through the Arbitration Mechanism. The paper

added that a Public Customer Award Survey covering almost 10000 Arbitration

Award issued during May 1, 1989 to June 30, 1996. This Survey showed an absolute

decline in number of awards but it is accompanied by increase in settlements. The

survey further revealed that incidence of punitive damages in all the cases filed was

only 2.1%. The paper also mentioned about others mechanism of Grievances like

Mediation and early neutral evaluation. As regards Early Neutral Evaluation (ENE)

which is a mechanism between mediation and arbitration, the paper revealed that ENE

is not primarily intended as a settlement device, but rather as an aid to ease

management by resolving disputes, identifying and clarifying issues and generally

assisting the parties to come to an agreement on how the case is to be conducted and

advocated for the arbitration mechanism for the disputes resolution.

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While examining the market grievances Aggarwal (2001) inter alia dealt with the

types of investor grievances which can be filed with various institutions like

companies, consumer forums, stock exchanges, SEBI, etc. He discussed provisions of

Companies Act 1956 to guide the investors about their rights in the wake of any

complaint. The format and procedure for filing the complaint to company law board

has been documented. He classified details of grievances in a functional manner as

below:

a) Misleading advertisement,

b) Incomplete/ inaccurate Disclosures in Prospectus,

c) Delay in listing of securities/dispatch of allotment letters/ refund orders/

transfer of securities/ Non- payment of dividends,

d) Trading in odd lots,

e) Stock market transactions-grievances relating stock brokers/ grievances

relating sub-brokers, such as bad deliveries/ default by Stock Brokers/ Delay

in payment of interest on Debentures,

f) Insider trading, and various other market manipulations.

Sinha (2002) stressed the need for expeditious settlement of investors’ grievances. He

recommended that Consumer Forum should provide an expeditious remedy to a

consumer who has suffered loss on account of deficiency in services purchased by

him. The Investor Forum and other authorities should have the power to dispose of

investor complaints summarily and award compensation to the investors. The

Consumer Protection Act, 1986 has been broadened to include an investor in the

Securities Market also. The study further gives an example of a depositor being

protected up to 1 lakh in the event of liquidation of bank. The similar mechanism

has been recommended to compensate investor up to 5 lakh if he suffers a loss on

account of failure of the system or mischief by any market participant.

Balchandran (2003) discussed grievance redressal mechanism which DCA, SEBI and

Stock Exchanges have established for redressal of grievances, and stated that the

Stock Exchanges maintain investor protection funds for the purpose of making

payments to the aggrieved investors in case they have incurred any monetary loss.

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With regard to Dispute Resolution Forum being operated by NASD, Robert (2004)

stated that it is the world’s largest forum that helps in resolving monetary and

business disputes between and among investors, securities firms, and individual

brokers. The author cited in his address failures of Corporate Governance norms that

led to the debacles of Enron, WorldCom and others. He further stated that

inappropriate sales measures by brokers and sub-brokers too resulted in eroding the

confidence of investors. He stated that the job of NASD is purely of protecting the

interests of investors and upholding the integrity of markets by devoting the

voluminous resources in educating the investors and industry professionals, by

making the market more transparent and by punishing those who violate these with

ultimate objectives of effective dispute resolution mechanism.

Considering available redressal mechanism for different types of complaints of

investors, Goyal (2006) stated that there had been jump of such redressal in 2001-02.

The percentage of redressal rate of SEBI, which was mere 21.61% in the year 1991-

92, jumped to 94.99% during the year 2002-03. The author was of the view that

timely redressal together with stiffer penalties can only help curb the malpractices in

stock markets.

Angela (2010), a well-known online trading specialist, talked about Investor

Grievance Redressal Mechanism and investor grievances on account of failure on the

part of market intermediaries like merchant bankers, depository participants, brokers,

sub-brokers, RTA agents, etc. The author talked about the redressal of grievances

through audit trial, and stressed upon the need for greater communication between the

market intermediaries and the investors. The author also talked about various

grievances like non-receipt of shares/ sale proceeds, non-settlement of accounts,

disputes regarding rate differences, non-implementation of arbitration awards, etc.

The author advised the investors to approach the concerned authorities without any

delay in case they have any grievances.

While discussing the resolution of investor grievance, Somaiah (2005) explained the

Grievance Redressal System available in the Stock Exchanges of the country. He

suggested following major actions for resolution of grievances of the small investors:

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a) Fixing of responsibility of intermediaries at the time of sanctioning IPO.

b) Various grievances regarding demat charges, DP, etc. required to be studied in

totality, and suggestions and solutions to be arrived in consultation with Investor

Associations, etc.

c) Time bound action programme for grievance redressal against plantation

companies and NBFCs.

d) Scientific interaction and scientific redressal system to be evolved for small

investors, sub-brokers, brokers and regulators.

e) Thorough study of debenture default and full-fledged action programme by ROC

and DCA required for vanishing companies.

The study further recommended that grievances redressal system for investor

complaints should be strengthened. He painfully pointed out various deficiencies in

the system, such as absence of expeditious judicial process small investor and

ineffective mechanism for punishing the guilty promoter/ operator/ broker etc. The

study concluded that small investors are unhappy with the existing grievances

redressal system due to multiplicity, confusing regulatory network, inaccessible and

unapproachable system to the investors.

Gross (2006) in his paper titled, “Securities Mediation: Dispute Resolution for the

Individual Investor” began with a piece of advice to the individual investors that they

must feel like a contestant on “Let’s Make A Deal” (very popular TV show of 1960s

and 1970s). Like TV show, which used to have three doors for the contestants, who

used to contain prizes, the investors too should have to judge the three doors. The

remedy available to investors is to pursue claims for damages stemming from the

misconduct by the brokers; they have the option of door no. 1 for litigation, door no. 2

for arbitration, and then the door no. 3, i.e. the door for mediation. The paper

suggested that mediation has the potential for exponential growth. The paper further

suggested that Securities Mediation Programmes for NYSE and NASD should be

expanded to allow for maximum participation by any willing dispute, as the process

yields a satisfactory outcome for a stunning eighty per cent of participants who report

an even higher percentage of satisfaction with the process itself.

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Nottage (2010) spoke about simpler and effective arbitration mechanism in Australia,

if the regulator intends to provide simple, cost effective, and tailor made services to

the clients. He advocated for arbitration mechanism because of easier way of solving

the disputes. He was of the view that arbitration that delivers swift and cost-

competitive outcomes is the need of hour. The country should have a form of

arbitration that is innovative and creative and where problems of users are sorted in a

fast and fair manner.

SEBI vide its circular (2010) addressed to all stock exchanges prescribed the

Arbitration Mechanism in Stock Exchanges for arbitration of disputes (claims,

complaints, differences, etc.) arising between a client and a member (Stock Broker,

Trading Member and Clearing Member) across various market segments. Stock

exchanges have been directed to provide an arbitration mechanism for settlement of

disputes in accordance with the provisions of this Circular read with Section 2(4) of

the Arbitration and Conciliation, Act, 1996. The stock exchange shall have a set of

fair and transparent criteria for inclusion of names in the panel of arbitrators and has

also provided the Code of Conduct for Arbitrators. A party aggrieved by an arbitral

award may appeal to the appellate panel of arbitrators of the stock exchange against

such award. Similarly, party aggrieved by the appellate arbitral award may file an

application to the Court of competent jurisdiction in accordance with Section 34 of

the Arbitration and Conciliation Act, 1996.

Kannadhasan (2011) pointed out that many of the retail investors felt that proper

attention by SEBI & other agencies is not given to the problems faced by them. Their

grievances are not redressed properly. Immediate steps need to be taken to avoid the

dissatisfaction among the retail investors while they approach for investment

transactions. Thereby we can expect robust growth in capital market, which is a

predominant factor for GDP growth.

With regard to early resolution of complaints, SEBI is putting in place a web-based

centralised system for speedy redressal of these grievances. SEBI's existing investor

grievance redressal mechanism lacks a centralised database and the resolution of the

complaints often is delayed due to physical movement of files from one desk to

another across its various offices. Besides reducing time gap between receipt and

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redressal of a complaint, the new system would also help in storage of the investor

grievances. The new system would reduce grievance process time, as physical

movements of the complaints would no more be required. SEBI’s new Complaints

Redressal System (SCORES), would have a centralised tracking system for all

grievances at various offices and divisions of SEBI. SEBI, further vide its circular

(2011) specified the processing of the investor complaints in a web based centralized

system, called SCORES. Through this system, all the complaints will be stored in a

centralized data based system and there will be online tracking of the complaints

against the listed companies. The Action Taken Report would be monitored online

and the investors would be able to view the status of their complaints online.

The SEBI Annual Report mentions that SEBI has a comprehensive investor

grievances redressal mechanism at its head office as well as at its regional offices.

The office of Investor Assistance and Education (OIAE) is the single window

interface through which SEBI interacts with companies and registered intermediaries

on a regular basis. Investors have the option of filing the complaints online or

submitting the same on plain paper. If the companies fail to redress complaints in

spite of repeated reminders by SEBI, regulatory actions are initiated under Section

11B (debarring companies from accessing the capital markets) and 15C (imposing of

monetary penalty) of the SEBI Act, 1992. As per the report SEBI has redressed a total

of 27,23,060 complaints out of 28,80,580, which indicates redressal rate of 94.53%.

However, the picture is not at all rosy if we have a look at next report. As per SEBI

Annual Report (2010-11) still 150711 cases of investor grievances are pending, out of

which SEBI has initiated action in 122058 cases only.

3.3 Investor Education

Investor education is of paramount importance and it has gained more significance

particularly in the era when newer products like futures and options, currency

derivatives, interest rate derivatives, mutual fund derivatives, equity and index funds,

ETFs, etc. are being introduced. Retail investors are always at the receiving end, and

are exposed to variety of risks. So, there is urgent need to educate the investors at all

times so that they are able to take well-informed decisions to minimize risk. The

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education pattern has to be devised in such a way that even a common man can

understand risks involved in investments. Investors should adopt a wait and watch

policy and after a great deal of thought should invest in companies. Investors should

not try shortcut methods to earn maximum profits in the shortest time. As Warren

Buffet, once put it, “To finish first, you have to first finish”. Investors need not always

look for the legislations that protect them. What is required now is how to instill

confidence in the minds of small investors. The investors need to invest in knowledge

before investing their hard earned money in stock markets. Stein (2001) once

remarked, “The ordinary investor, by reading and studying and applying basic rules

of common sense, can tremendously outperform the ‘genius’ of the mutual funds”.

Discussing about need for education and other services to the investors, Aggarwal

(2001) stressed the need for setting up Investor Protection Fund, Investor Service

Fund and Investors Services Centres, and investors’ education for the healthy

securities market. Aggarwal also advised investors about various Dos and Do-Not’s

while dealing in securities market either while dealing in primary market, secondary

market or dealing with various market intermediaries. The author further advised the

investors to be more cautious while forwarding their complaints to the companies.

Sinha, (2002) stated that Department of Company Affairs, SEBI, Stock Exchanges,

Depositories and Investor Associations are organizing Investor Awareness

Programmes without any co-ordination. The regulator should co-ordinate the efforts

of these agencies for imparting effective education to investors.

Mere working for investors is not enough, working for their education is more

important. Balachandran (2003) argued that there are many agencies functioning for

investors in Indian Securities Market but need of the hour is the investor education,

awareness and protection. Investors have limited options for investments at present.

They require assistance from some voluntary organizations like investor associations,

Stock Exchanges and SROs to guide them. The author explored the pathetic state of

affairs of small investors and discussed some remedial measures undertaken by the

Ministry of Finance and market regulator SEBI. He also touched upon the ineffective

use of Investor Protection Fund and was of the view that the need of the hour is to

educate the investors including the rural ones.

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Further appreciating efforts of SEBI, Imamual and Khan (2003) of AMU, Aligarh

presented and explained an agenda for a healthy long-term development in primary

market ensuring continuation of participation of retail investors and efforts needed to

restore their confidence, and tried to explain that SEBI should take first step towards

Investor Education. He desired that investors should be clearly told about the

methods of investing in the markets; the risk, returns and trade-offs associated with

investing in stocks and grievance redressal mechanisms for their protection.

Similarly, while appreciating efforts of SEBI towards investors’ education, Taneja

and Sharma (2004) of Punjab College of Technical Education also discussed

about launch of intensive investor education exercises. This has helped

investors in redressal of complaints, dissemination information through its

websites, publishing of number of booklets on policy developments for

education of investors, distribution of booklets titled, “A Quick Reference

Guide for Investors”, issue of series of advertisements/ public issues in

national and regional newspapers.

Realizing the urgency of having a sound education system for the protection of

investors, Taneja and Sharma (2004) of Punjab College of Technical Education

studied the rights of investors as prescribed by SEBI, their awareness level

with respect to their rights and then went on to suggest measures to improve

their education level. The study found that majority of the investors are aware

of their rights, such as receipt of share certificates/ annual reports/ dividend/

corporate benefits like bonus, right issues, participation in AGMs, etc.

However, a large number of investors are not aware of their rights such as

applying for the winding up of a company, receiving residual claims post-

liquidation or winding up, proceedings in case of default, receiving and

inspecting minutes of general meetings, etc.

Realizing significance of the role of investor in the securities market, Bajpai (2005),

former Chairman SEBI, studied and analyzed Indian Securities Market and reforms

undertaken to improve market transparency and investor protection. He referred

various reasons responsible for lack of access of Indian Securities Market amongst

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rural areas, such as lack of understanding about the market and its potential, reach of

the infrastructure, apathy of the intermediaries to deal with this segment for reasons

for inadequate gains, and universal application of Rules and Regulations. He was of

the strong opinion that if we are to make the securities market strong, we need to

expand the access of the market to the rural and unbanked areas in two parts, i.e.,

regulatory refinements and operational alignments. He stressed that Investor

Education has to be organized as a campaign in the language and manner that investor

will understand and appreciate. It will help the investor to understand the vagaries of

Securities Market along with possibilities of profiting from them, and it has to be a

continuing exercise. The rural population does not know much about the securities

market and if this strata is brought to the mainstream, the securities markets would

grow at a much faster pace. He cited the argument of Raghuram Rajan and Zingales

as, “Healthy and competitive securities market are an extraordinary tool in spreading

opportunity and fighting poverty”, and stressed the need to reach to the masses.

Similarly, Somaiah (2005) explained the role of small investors in Indian Securities

Market, and the need of imparting education to small investors. He commented upon

the inefficiency of market regulator and recommended that all business associations

should organize Investor awareness programmes and Investor protection should be

included in curriculum of commerce, economics business management & Finance,

CA and CS and other courses.

While discussing the importance of the investor knowledge in securities market,

Madura (2005) advised the investors to look beyond earnings. He stressed the need

for the investors to understand about the business of the company, mission and

strategic plan of the company, its future outlook, exposure to the economy, exposure

to the industry conditions, exposure to the global conditions, about its management

etc. He further advised to look other various parameters like organization structure,

staff turnover, staff compensation, inventory control, finance, quality standards,

marketing plan, governance structure, background of the board members, disclosure

standards, company’s ethical policy, background of the audit committee members,

valuation, etc. before investing in the company’s shares.

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Highlighting the importance of education, Bressert (2007) advised the beginners to

study deeply and to identify things that work before you ever put your money. He

advised the investors that it is like gambling if you hold large position ahead of big

reports. Similarly, Demark (2007) advised the beginners to read a lot, test a lot and

do not trade until you have done your homework. Echoing the similar views, George

Fontanills (2007) was of the view that the investors should know how to limit their

risk, and if they can stay in the game long enough, they will learn how to become

successful.

Kase (2007) advised the investors it is important to be right than to make that big win.

She further stated that the only way to learn how to trade is to trade. She was of

further view that investors should not listen to other people, there is no easy way and

there is no Holy Grail. Similarly, highlighting the importance of education to

investors, Chandra (2010) advised as, “Save your money, forget the seminars, forget

the expensive software, and try to do a lot of reading. Education is the first thing. The

second thing is to try to keep your expenses in trading as low as possible. Look for

longer term trades. The smaller the money (trading Capital) the less they should day-

trade”.

Likewise, Bodie, (2008), while advocating the education of the investors, advised

them to understand the basic economic foundations of personal finance and gave the

following 10 principles to follow:

1. Frame choice in terms of objectives and constraints.

2. Do not waste resources.

3. Do not be fooled by inflation.

4. Distinguish between savings and safe investing.

5. Do not judge the risk of an asset in isolation.

6. Stocks are not safe even in long run.

7. A security’s price is a fair estimate of its value.

8. Beware of bias of evaluation investment managers.

9. Consider taxes, fees and other transaction costs involved.

10. Seek expert advice from impartial sources.

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Shahid (2008), while discussing about the last melt down of the capital market across

the globe, stated that markets have become more complex, institutionalized, and more

and more cross border investments are pouring in. The author stressed the need for

investor education and their confidence as today investors are attracted by the depth,

quality and integrity of markets, besides expecting valuable returns. With the

extensive usage of technology, in particular, the internet, investors are now able to

access a wider range of investment opportunities across countries, regions and

continents. Furthermore, investors have become savvy, demanding more reliable,

useful and timely information, and advocated that investor education should become a

top priority not only to market regulators but also for stock exchanges.

Barnard (2009), discussed about the right kind of education to investors, and was of

the view that tens of millions of dollars each year are spent on investor education.

Older people become the easy victims of investment fraud schemes. However, many

educational programmes are targeted at them, but the effectiveness of these

programmes is the biggest issue. She examined the ways in which older adults

process information and make decisions, and presented a model of decision-making

(the “deception/ decision cycle”) that explained why elder people often have been

vulnerable to investment fraud schemes. She thereafter advocated for right kind of

education so as reduced chances of such frauds. She suggested some alternative uses

for the money now spent on fraud prevention education that would better achieve the

goal of protecting older investors.

Ahmed, President Chittagong Stock Exchange (2010), while discussing the

importance of education was of the view that knowledge economy that creates,

disseminates and uses knowledge, enhances the growth and development of the

economy.

Haldia (2010), while advising investors in equity markets advocated 20 mantras to

wise investing states that investors need to invest in fundamentally strong company,

read carefully and base their investing decision on value investing. He further advised

the investors to invest in mutual funds, deal in registered intermediaries only and

don’t be fooled by the luring advertising.

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While discussing the importance of education, Soneji (2010) was of the view that

normal tendency of the investors is to seek advice from the experts even though they

are capable of exercising their independent understanding about critical aspects. He

also appreciated the efforts made by various organizations in imparting the financial

literacy, but still a lot remains to be done. He cited the efforts made by NISM in

imparting the financial literacy.

Another positive development on massive investor education is that UTI Mutual Fund

(UTIMF) (Sinha, 2011) was set to start its programme named Swatantra-II, from July

2011. The fund house received the necessary approval from the Ministry of Corporate

Affairs, its partner ministry, for the flag off eight-month long initiative. Tailor made

buses would kick start from four metros and travel deep inside the country and would

cover massive 48,000 km in its endeavour to impart the financial literacy. National

Institute of Securities Markets (NISM), a SEBI sponsored body, was roped in as a

partner to develop literature to educate school children on the importance of savings.

While discussing the latest trading techniques in the markets, Walia (2011) was of the

opinion that although High Frequency Trading (HFT) could be a boon for the few

privileged investors who can afford high cost of trading, but it could prove to be a

great challenge for the common retail investors who do not understand the latest

techniques and who cannot afford the high cost involved. Retail investors need to be

more cautious so that they are not swayed away by the excess volatility on account of

these new trading techniques.

Kannadhasan (2011) studied the behaviour of retail investors in capital market with

particular reference to their risk appetite and attitude. He was of the view that the

retail investors’ financial decisions are not always driven by due consideration. The

decisions taken by them are also often inconsistent and examined the rationale behind

the behaviour of retail investors from their attitude and risk bearing capacity. He

suggested that the retail investors should keep in mind their own risk appetite and

specific investment goals. They have to understand the risk profile of the investment,

which they are investing. He advised that in order to make the rational decisions, the

retail investors should evaluate a lot of information about the past performance and

the expected future performance of companies, and advocated for their education.

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3.4 Disclosures and Corporate Governance Norms

With the recent high profile cases of failures of Corporate Governance in developed

countries, it has brought more attention of the subject elsewhere including India. This

issue is particularly of higher importance in the developing countries because there is

core need for the economic development. The concept of corporate governance is of

rising above the mindset that asked a question, “Is it legal?” to a more ethic-based

question, “Is it Right?” The answer to the second question is the key to real corporate

governance. In India, the corporate codes, undoubtedly, are at par with the best in the

world, but what lacks is the commitment and the will to implement both at the hands

of the corporate world and the regulator.

There are two-fold problems, one is mindset of the corporate world and second is the

implementation at the hands of regulator. We need to find out the proper solution to

both these problems. Talking about the second side of the coin, Adam Smith, the

father of management in the year 1776 rightly said, “Being the managers of the other

people’s money (rather their own), it cannot be expected that they should watch it

with same anxious vigilance.” Hence, the more effective role of the regulator is must

in the implementation of Corporate Governance norms. The managers should clearly

know what their job is. The late Goizueta Robert (1993), CEO of Coca Cola, once

said that we are never confused about why we exist. Although volumes, growth,

earnings, return and cash flows are critical priorities, our people understand those

measurements are all simply the means to the long-term end of creating value for our

shareowners.

The literature available on Disclosures and Corporate Governance Norms has been

reviewed as under:

Aggarwal (2001) elaborated various disclosure requirements for primary and

secondary markets including disclosures in the prospectus, minimum subscription of

shares etc. To support disclosure requirement with a view to create a category of

informed investor, Sinha (2002) stressed on the need for setting up of a Central

Information Depository. He said that normally an investor acts through some

intermediary whose omissions and commissions can cause loss to him. The investor

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should, therefore, need to be informed before taking decision. The information may

include about the company, intermediary, or any organization or an event, which can

help him in taking informed decision. Central information depository may help the

investor with such information, as he may need. He also recommended that details

about issuer should also be made available to investing public/ issuer/intermediaries

may be rated and their ratings are disseminated.

Favouring the same view, Knott (2002), Chairman of Australian Securities and

Investment Commission discussed about the corporate failures in Australia in 2001

which occurred in rapid succession and shaken the confidence of Australian investors.

He was of the view that timely publication of relevant information to the shareholders

and the broader market be made mandatory. A robust regime of continuous

disclosures, supported by proportionate and timely sanctions, remains the best means

of sustaining a well- informed and transparent market.

Similarly, Hyytinen and Takalo (2003) realized the importance of strong investor

protection for business growth. They studied the effects of the Investor Protection in

the development of business and availability of fresh external finance to newer firms.

The lack of capital is a known impediment to the entrepreneurship, and this scarcity

holds back millions of potential entrepreneurs to start up new ventures. They were of

the view that in an economy where entrepreneurs have difficulties in finding the

requisite finances, it is more likely that stronger investor protection measures

discourage entrepreneurship and business creation and suggested that strengthening

the corporate disclosures and transparency rules need to be strengthened to stimulate

the business growth.

While making an attempt to compare disclosures standards in Indian Stock markets

with other developed markets, Mahajan (2003), viewed that high standards of

disclosures are considered as basic trait of any efficient stock market. He viewed that

especially during the last few years, the disclosures have improved and can be

considered at par with other developed markets across the globe. He was, however, of

the view that the disclosures in the offer document in the case of IPOs need some

improvement. He also cited the example of various corporate fiascos like Dot com,

Enron, WorldCom, Xerox, etc. were the byproduct of inaccurate and untimely

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information to the investors at large and also compared the disclosures in India with

those in Europe and USA.

Aggarwal (2003) on Corporate Governance stated that it is all about business ethics,

value creation, transparency, credibility, creativity, integrity, trust, truth, honesty,

fairness, credibility, innovation, responsibility, accountability and social values.

Riding the same views, Singh (2003) discussed the need of investor protection for

the economy, and highlighted the importance of corporate governance. He stated that

investor protection is very crucial in today’s world in which capital is freely flowing.

Globalization has opened up an array of exciting opportunities for corporate India.

But, the Indian Markets can be integrated into a global market only when there is a

compliance with global good corporate governance standards and there is adequate

protection for the investors.

Advocating the need for practice of corporate governance, Haque and Khan (2003)

stated that market regulator should take steps towards information dissemination and

corporate governance. Information should be timely, accurate and cost effective.

Every conceivable form of corporate information, which has a bearing on the stock

prices, should be shared with investors and this has to be done on a real-time basis.

Wang et al. (2003), in their study discussed the importance of disclosures and stated

that investor protection includes the level and quality of disclosures, involvement in

major decisions and protection from the self-dealing by the insiders and majority

shareholders. They then discussed the importance given to the disclosures in China

and Hong Kong, and correlated the relationship between investor protection and

information asymmetry and observed that higher information asymmetry leads to

lower investor protection and vice versa. They, thus, advocated for the importance of

correct and timely disclosures.

Choi (2004) studied the role of private institutions in promoting strong securities

markets. He discussed the recent scandals in the U.S. and was of the view that

insiders enjoy an information advantage over outside retail investors. Retail investors

lack the ability to reach the level to have access of similar information. He was of the

view that securities market intermediaries such as institutional investors, auditors and

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analysts play a key role in interpreting disclosed information, assessing the value of

companies, and thereby increasing investor welfare, and cited the failures of top audit

firms and other intermediaries in US and harm caused to retail investors. He was of

the view that changing the law will not matter much, but what we need is to change

the mind-set of managers, which according to him is not an easy task.

While explaining about the disclosures standards in India, Rath (2005) underlined the

importance of the disclosures by intermediaries and issuers leading to investor

protection. The article discussed benefits of disclosures to the investors and stressed

the need for financial literacy to understand and assimilate the disclosed information.

He further stated that there are five main issues before the securities laws regarding

the disclosure provisions –such as -who should disclose?; what should be disclosed?;

In which manner the disclosures be made?; when the disclosures be made? and, where

such disclosures be made? He stated that information asymmetry leads to market

failures and therefore, stressed that mandatory disclosures be made simple, timely,

accurate yet cost effective, and was of the view that Corporate Governance is an

important tool of investor protection.

Posting a critical remark on requirement of excessive disclosures, Parekh (2005)

mentioned that there has been an increasing focus on the disclosure norms since the

great depression of 1929. SEBI, the market regulator has given top priority to public

disclosures. The author further said that in an attempt to improve the quality of

disclosures, a waste product has developed in the form of disclosures and there has

been excessive duplication of disclosures particularly of listed companies. Too much

of disclosures are confusing for the shareholders and at the same time are too

expensive and are to be borne by the shareholders only.

Narain (2006) stated that if Corporate Governance is about an attitude, is about

culture, is about ethics, is about way of running the business, then I am for the strong

regulations so as to make Corporate Governance effective. Citing another advantage

of good corporate governance, Pai (2006), while discussing the strengthening of

capital markets through corporate governance stressed to make character a part of the

set of key hiring criteria and to make integrity, ethics and compliance part of the

promotion, compensation and evaluation processes. He stressed for a process to listen

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to employees including the bad news, to deliver the message of integrity, honesty and

truthfulness even if you have a risk of losing a business.

Attempting to critically examine the applicability of disclosure-based regulation in

pre-emerging securities market like Bangladesh, Solaiman (2006) measured the

strength of minority shareholders’ protection against the misuse of corporate assets by

directors for their personal gain. The author found that the disclosure philosophy itself

is not a panacea. An effective disclosure regime requires a certain level of structural

and infrastructure development of the market, and that a particular securities market

should follow a paternalistic merit regulation until the attainment of that progress.

Likewise, Fond et al. (2006) examined cross-country differences in the information

content of Corporate Financial Disclosures and used data from over 53,000 annual

earnings announcements in 26 countries. The study found that the annual earnings

announcements are more informative in countries with higher quality earnings or

better-enforced insider trading laws, and that annual earnings announcements are less

informative in countries with more frequent interim financial reporting. The countries

with stronger investor protection institutions, earnings are more highly correlated with

prices and the earnings information is more rapidly absorbed into prices, and earnings

announcements have a stronger impact on prices.

Evens (2007), Commissioner, Securities Exchange Commission (SEC), in his speech

discussed the responsibility of the bankers and professional advisors with regard to

corporate disclosures vis-a-vis the regulatory mechanisms through which investors are

to be protected. Those who are associated with the disclosure documents must ensure

the accuracy and authenticity of the information contained therein.

While analyzing the disclosures and their effects on company’s valuation, Bruno and

Claessens (2007) found that corporate governance appears more valuable for

companies that naturally rely more on external financing, consistent with corporate

governance protecting external financiers, and for large companies, consistent with

there being (fixed) costs to corporate governance compliance.

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On corporate governance failures, Leuz et al. (2008) and others while discussing the

avoidance of disclosure norms in US, the companies get shares de-listed and become

free not to adhere to the disclosures requirements, which cause harm to the investors.

These companies take the advantage of the law to get their share unquoted and put a

veil between the company and investors in order to become opaque of their deeds.

While discussing the duties of regulator vis-a-vis disclosure norms, Dalal (2009),

desired that the market regulator should make improvement in disclosure norms. She

painfully pointed that the Electronic Data Information Filing and Retrieval (EDIFAR)

system is not at all up to the desired level, and the corporate houses should comply to

this filing system within a specified deadline.

Explaining the failure of corporate to disclose relevant facts, Unnikrishnan and

Narayan (2009) stated that some of the Indian firms are not committed on price-

sensitive information, like divestment & acquisitions, mergers, restructuring, spinning

of new divisions, fresh issue of securities, etc. They were of the view that though

there are guidelines in place and provision in listing agreement with regard to the

disclosure norms, but some of the companies follow these guidelines in letter and not

in spirit.

Citing the consequence of non-disclosure or incomplete disclosure, Sahu (2009) gave

the example of Satyam Computers scam, and the collapse of investment bankers in

US. He informed that the important audit and finance functions have failed to perform

their duties, and was of the view that a well-balanced board of directors, proactive

shareholders and swift action against malpractices could restore market confidence.

The role of independent directors is very important to safeguard the interest of

stakeholders. There should be more number of independent directors and the concept

of separate CEO and Chairman is well-accepted norms in US and Europe. In India,

we should have a system of rotation of auditors, which is routine case of PSUs. We, in

India, have corporate governance norms at par with developed markets, but there is

need to implement the same in letter and spirit, and the will to punish the culprits for

violations.

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While discussing the mandatory disclosures, Dyck and Leuven (2009) opined that

even though there are mandatory disclosure requirements prescribed in the

prospectus, but these serve little purpose in achieving the end result of investors

protection, in the sense that it is very hard to assume that the investors read,

understand, and act upon the information disclosed in a prospectus.. Information

disclosed in the prospectus even though assuming that it is complete and accurate

will be the main line of defence from the issuer against the investor because of the

perverse effect of mandatory disclosure. The regulator should aim at re-orientation of

the disclosure rules to their true aim in increasing market transparency and market

efficiency.

Questioning the essence of corporate governance, Singh (2009) was of the view that

recently a lot of changes were seen in the corporate world in India, which again and

again raises question about investor protection and corporate governance. Apart from

this, some adverse innovations are really eyebrow raising like the launching of initial

public issues without the existence of company. He stated that amendments brought

about are not very pragmatic or fair in fulfilling goals of corporate transparency or

efficacy. The penalty for non-compliance is delisting, which only hurts the

shareholders.

However, considering positive impact of corporate governance, Bhasin and Manama

(2009) found that Corporate Governance in India is now viewed as an important

attribute of the corporate sector. They concluded that there is a strong need for a

major improvement in transparency, both “accounting” and “public disclosures”.

Similarly, Sautner and Villalonga (2010) studied that corporate governance has a

significant impact on internal capital markets. Specifically, ownership concentration

reduces the extent of corporate diversification, but increases the probability that

internal capital markets are efficient.

McCahery et al. (2010) and others were of the view that investors do show their

concerns about the level of corporate governance in the firm before investing in the

stocks of the company. The investors have their concerns about the investor

protection level and base their investing decisions accordingly. This indicates that the

countries with weak corporate governance would attract least investments as

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compared to those countries that have stronger corporate governance level. The study

revealed that even the investors are willing to talk to the management or initiate legal

action in case of governance failures.

While discussing various aspects of the amendment of the proposed bill, Khan (2010),

stated that this is a vitally important period for corporate governance in India. He

further stated that good corporate governance may not be the engine of economic

growth, but it is essential for proper functioning of the engine. Good corporate

governance practices can help increase investment, decrease corruption, and reduce

wasting of scarce resources.

While discussing the importance of independent directors, Sarkar (2010) was of the

view that with right kind of selection of independent directors, providing them the

necessary training, creating the right environment where they can exercise their

independence, rewarding them suitably, and making them aware of their duties and

responsibilities, the institution of independent directors can be a powerful governance

mechanism for the protection of minority shareholders. The institution of independent

directors is must for ensuring good corporate governance in companies. This is more

important for a country like India where the protection of retail shareholders remains

the specific goal of the regulator, and also good corporate governance is required for

attracting FDI and promoting the growth of Indian companies, and ultimately

accelerating the country’s economic growth.

While debating about corporate failures, Kar (2010) discussed the failure of

companies when they are confronted with critical governance matters. He cited the

infamous cases corporate frauds/ failures in different countries and stated that over the

years pattern shows that governance failures fall into identifiable patterns. He studied

the cases of companies like Maxwell Corporation, Parmalat SpA, Enron and also of

few other companies, in order to find patterns which could help to establish a

framework for governance. In all the three companies he identified the promoters of

the companies as responsible for such failures. The paper showed how time and

again, corporate houses have lured investors a virtual moon and then eloping in the

dark leaving investors in a lurch.

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Elaborating depth of corporate governance practice in the light of investment criteria

for investors, Dessai and Bhanumurthy (2010) stated that size of Indian corporate

houses has increased and the expectations of various stakeholders are also growing.

They were of the view that Corporate Governance is essentially all about how

organizations are directed, controlled and held accountable to the shareholders. They

found that positive side of adherence to corporate governance practices has increased

importance of corporate governance as investment criteria among investors, and has

also improved equity price performance, higher valuations, access to global markets

and increased investor goodwill & confidence.

Tandon discussed various provisions of the Corporate Governance in India. In his

concluding remarks he cited the quote of Late Dhirubhai Ambani that, “a country

which does not respect its’ wealth creators is bound to be doomed; and he stated that

the Wealth creators who do not observe the code of Corporate Governance are bound

to be doomed”.

While studying clause 49 of corporate governance, Jain stated that good governance

in capital market has always been high on the agenda of SEBI. Corporate governance

is looked upon as a distinctive brand and benchmark in the profile of Corporate

Excellence. He was of the view that the recent events in all over world especially in

US have highlighted the need for ethical governance and require the management to

look beyond their systems and procedures.

Vyas (2010) stated that a number of initiatives have been undertaken aimed at raising

awareness among stakeholders and interested parties on the benefits of good corporate

governance. He spoke high about the positive role played by the media in keeping the

discussion on the topic live for the overall benefit of all the stakeholders.

While commenting upon the transparency in stock exchanges, Ramakrishna, (2010)

stated that corporate governance should primarily aim to protect the interest of

investors against frauds, misrepresentation of facts, unfair dealing, market

manipulations and to provide full information and transparency.

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While discussing the whistleblower policy and corporate governance for listed

companies, Balakrishnan and Sharma (2011) stated that whistle blowing policy

should be mandatory Corporate Governance tool for all private companies as well as

public companies. This alone will ensure the mantra of transparency in all companies.

The objective should be to punish the violators and award those who expose them.

Provisions should be designed to enhance the protection of RTI activists, and a

transparent mechanism should oversee the activities.

Kumar (2011) discussed the actions initiated by the Mutual Funds and Nominee

Investors as a sequel to SEBI circular issued in March 2010 wherein Assets

Management Companies (AMCs) were asked to formulate guidelines for exercising

voting rights held by them by virtue of their stock ownership. He was of the view that

on contrary to the expectations, AMC did little to raise their voice or raise

uncomfortable questions to the company management. Their inaction was not at all as

per the expectation of the regulators and the investors. While discussing the investor

confidence through good corporate governance Fisher (2011) of US, was of the view

that the most notable outcome of the Sarbanes-Oxley Act has been to make directors

personally and criminally liable for infringement of the Act mainly for misstatement

of information. He further stated that this was seen as knee jerk reaction to the

scandals that plagued the markets in recent years.

Mollers and Kernchen (2011) discussed the rising cost of the disclosures and its effect

on the securities market in German and European countries. They were of the opinion

that the disclosures should be short and focused so that the investors are able to derive

maximum benefits out the information provided therein. Such a shortened financial

statement could enable investors to get a better idea of listed companies, and thus,

make a reasonable investment decision.

Advocating for the simpler and standard disclosures formats, Ravindran (2011)

opined that the investors should receive a single page key facts statement about the

financial products. He was of the view that if all the material information is readily

available to investors in a form that can be easily processed, the investors will be able

to make intelligent and informed decisions, which will maximize investors welfare

and discipline product offerings.

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Wei Yu (2011) examined how weak nations appoint independent directors at the

board of the companies and how the government regulations distort the choice of

directors, and the firm value impact of independent director in China. He was of the

view that state owned enterprises (SOEs) would be more likely to appoint politically

backed persons as directors but Non-SOEs are more likely to have independent

directors, who are competent to run the affairs of the company in a better way. The

study found that such appointments matter more in a free economy than in a

controlled one. He was of the view that high government intervention, bad legal

investor protection, and concentrated ownership lead to undue influence, weak

governance, and low independence in corporate, and thus, harm the investors.

3.5 Investor Psychology and Sentiments Investor psychology and sentiments play a very significant role in the stock markets,

and it has always been the retail investors who have been subject to mental torture and

are vulnerable to the market sentiments. It is said that there are two emotions in the

stock markets, that are hope and fear, and the entire stock market revolves around

these two emotions. Retail investors usually fear when there should have been hope

and they hope when there should have been fear. As a result, they lose and are subject

to mental torture and financial losses. Managing the emotions is the key to success.

It is very important to study the investor sentiments so as to protect their interest in

securities market. Investors’ sentiment measures hold very important place in the

entire activities of corporate world. Most of the fund managers measure the investor

sentiments in their investment processes. Investors’ behaviour is also used as a tool

for the future developments in stock markets. News related to particular stocks cause

too many fluctuations and in turn individual investors lose their money in quick

succession. A survey conducted on the topic revealed that majority of the investors

base their investment decisions upon advises of others and not their own study. Citing

investor psychology, Mr. Harshad Mehta a big bull, once stated on the investors

psychology that people from Japan or Junagad or from MBA or pan walla - share the

same common investing psychology. The investors follow the herd mentality and are

easily swayed away and as a consequence loose. It is important to control one’s

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emotions and not to be swayed away by the herd mentality. The literature under the

topic is cited as under:

Barberis et al. (1998) discussed the investor sentiments related to the stock market

news and their consequent action resulting into either under-correction or over-

correction. They studied the psychological evidence of the investors and suggested

that most of the stock market news take around 12 months to fully correct the prices,

and as a consequence sophisticated investors tend to earn superior returns by taking

advantage of either over-correction or under-correction. According to them, this

particular behaviour of the investors causes the stock prices either over-reaction or

under-reaction.

Elaborating the behaviour of herd mentality of investors, Shiller (2000) stated that

people participate in herd behaviour when they take into account the judgments of

others, and even if they know that everyone else is behaving in like manner. This

behaviour comes from an information cascade, which the investors follow without

conducting proper study or rationale. The author further stated that many popular

ways of the psychology of investing are simply not credible. In both booms and

crashes, investors are described as blindly following the herd like so many sheep, with

no minds of their own. Echoing similar views, Lupatkin (1991) a long time

technology analyst, once commented, “professional investors mark themselves to

market virtually every day, because that’s how they get paid. But most non-

professionals do not have time to do that. Yet if you have patience and discipline, you

can still do well, just take your time and be patient”.

The investors are easily lured away more particularly when the commitment comes

from government-backed agencies. Basu (2003) commented that since government

owned banks and insurance companies sponsored most funds, investors trusted them

easily. With the equity markets booming, funds promised to double, triple or

quadruple their money. If Canbank promised tripling, at the same time, Bank of India

(BOI) promised double square or four times.

However, Qiu and Welch (2006) of Brown University examined correlation of closed

index funds and consumer confidence. They were of the opinion that investor

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sentiments play a robust role in financial markets pricing, and there have been

instances of excessive returns in smaller stocks due to the changes in the investors’

confidence and sentiments.

Analyzing the effects of investor sentiments on pricing of stocks, Chandra and Kumar

(2007), stated that individual investors often invest in securities based upon the

approximate rule of thumb, and not strictly on the market conditions. Their emotions

drive their trading behaviour, which in turn derives the stock prices. The individual

investors get panicky by the downward correction and rush to sell their portfolio at

lower level and when the market moves upwards, they again rush to buy the stocks at

higher level. They opined that people in stock markets tend to move in herd and

follow the crowd, and they forget the fundamentals.

While studying the moods and complicacies of markets, Baker and Wurgler (2007)

stated that in particular, stocks of low capitalization, younger, unprofitable, high

volatility, non-dividend paying, growth companies, or stocks of firms in financial

distress, are likely to be disproportionately sensitive to broad waves of investor

sentiment. They reviewed the theoretical and empirical evidence for these predictions.

They concluded that those stocks which are difficult to arbitrage, stock of smaller

companies, growth companies are likely to have higher valuations during the time

when the market sentiments are high, and therefore requires precaution.

Basu and Dalal (2007) quoted in Harshad Mehta’s words on investor psychology to

the Asian Wall Street Journal that “I thought I’d be like a pied piper. I thought I can

start selling dreams because somebody needed to come and sell dreams, that asset

creation is not a crime that if you wanted to be a Harshad Mehta, come to the Stock

Market.”

Talking about human emotions, Faith (2007) stated, “Human emotion is both the

source of opportunity in trading and the greatest challenge. Master it and you will

succeed. Ignore it at your peril.” He further said, “ The market does not care how you

feel. It will not prop your ego or console you when you are down. Therefore, trading

is not for everyone. If you are unwilling to face the truth about the markets and the

truth about your own limitations, fears, and failures, you will not succeed.”

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While discussing the qualities of successful stock trading strategies, Reynolds (2007)

was of the view that number one is confidence, number two is mental toughness,

number three is interpersonal skills number four quality is the basic understanding of

the markets, and number five is to have enough capital to play in the market.

Similarly, Joe Stowell was of the view that persistence and courage are the two

characteristics necessary for success in trading. He advised the investors that every-

day is a new day. It is always new. You have to continuously work at your skills. You

always have to keep applying yourself (Chandra, 2007). While commenting upon

investor protection and sentiments, Glen (2008) once said that it took 10 years to

comfortably manage emotions, which for him could only be done by having a

concrete understanding of how the markets behave.

Putting a question on awareness and cautions undertaken, Niolosi et. al. (2008),

analyzed the trading behaviour of the individual investors and learning from their

trading experiences. The individual investors tend to increase their ability with trading

experiences and they tend to invest in a better way. In a nutshell they do learn and

hence consequently adjust their behaviour in order to improve their investment

performance. The authors analyzed possible individual investing learning behaviour

from two perspectives, i.e., trading performance and trading behaviour, and were of

the view that the ability of individual investors affects significantly their future

investments.

Similarly, Izmalkov and Yildiz (2009) stated that there is common perception that

investor sentiments play an important role in many economic problems, such as bank

runs, development traps, currency attacks, etc. The unpredictable outcome due to the

investor sentiments may cause serious imbalance. They were of the view that in

strategic environments, the relevant measures of sentiments can vary arbitrarily and

have large impact on the strategic behaviour even when there is little uncertainty.

Alvares (2009) discussed how an investor loses in securities market due to his habit of

continued investing in the losing stock in a bid to cover up his lost money in the same

stock by way of averaging out. The author cautions that if you had been winning on a

particular stock before, it does not mean that you would win the next time you invest

in the same. It calls for a fresh understanding of the market conditions and the

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circumstances that will allow your stock to do well. The author also informed those

investors are easily swayed by another similar emotions i. e. sunk cost fallacy. By

that, he meant that investor throws good money after the bad money (stocks).

Kurov (2009) discussed the macro level environment of monetary policy and investor

sentiments. He was of the view that the monetary policy actions in bear market cause

more longer term after effects. He further commented that investor sentiment plays a

significant role in the effect of monetary policy on the stock market. Another

important analysis on influence of sentiment on the level of investment was analyzed

by Schmitz et. al. (2009) who measured the individual investor sentiments in bank

issues warrants. The study found that there exists a mutual influence of sentiments

and stock market returns, but only in very short run. They were of the view that

returns have a negative influence on sentiments, while the influence of the sentiments

on returns is positive for the next trading day. The authors were of the view that the

investors’ sentiments are very important tools in the hands of the decision-makers.

The bigger market players use this as a tool for their trading strategies for the next

few days. When the individual investors are optimistic today, tomorrow the stock

price should go up and vice versa, and the bigger players use this tool to their

advantage.

Advising the investors not to panic in the sudden downslide and volatility, Guofu and

Yinfzi (2010) mention that rather they should be prepared for further downslide and

should not flee the market. Such events do happen in stock markets, and they should

have a well-diversified portfolio.

While discussing the investors’ behaviour with regard to the IPO and price

movements post-IPOs, Sahoo and Prabina (2010) are of the view that investors

would be better of if they buy from IPO market and stay invested for a longer period

rather if they buy during the initial period of post-listing, as the price and more during

these period as bulls take tend to take the advantage during that period.

Bennet and Selvam (2011) studied the perception of various factors that influence

investors’ decision to invest in a particular stock. They were of the view that making

investment decision is a complex process and is influenced by conditions both

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fundamental factors of the company and external factors such as social, political,

economic, regulatory, technological, environmental and legal. This, in turn, influences

the price of a particular stock. They advised the investors to cautiously watch the

market conditions and change their investment options in accordance with their Risk

Tolerance Level.

3.6 Market Manipulations Indian Stock Markets have grown by leaps and bounds, and today we boast of one of

the most vibrant stock markets in the world. Stock markets have grown at a

tremendous pace, but this growth has come at a price. The price in the form of market

manipulations like insider trading, higher volatility, price riggings, scams, vanishing

companies, malpractices of market intermediaries like pump & dump, churning, and

so on. All this was possible because we lack adequate supervisory mechanism, no

clear accountability and inappropriate punishment for violators. As a result, the stock

markets have almost become a place only for a few bigger players and not for small

investors. The growth of the retail investors has been painfully very slow. Indian

securities markets have been fraught with various irregularities like scam of 1990s,

IPO bubble from 1993-96, rampant price rigging during preferential allotment, CRB

scam of 1990s, K10 scam, demat scam and various other irregularities as discussed

above.

Market manipulations can be described as deliberate attempts to interfere with free

and fair operation of the market and to create artificial, false or misleading

appearances with respect to the price of market of securities. A group of manipulators

rig the liquidity and price. The group may comprise of brokers, sub-brokers, large

investors, company management, journalists, so called market pundits and other

insiders of the companies. The market manipulations can be made in any of the ways,

like Pooling, Churning, Runs, Ramping, Wash sales, Bear Raid, Pump and Dump,

Bluffing etc. The literature available on Market Manipulation can be cited as under:

While discussing the agonies faced by retail investors, Gupta (1998) briefly touched

upon free pricing regime, banking scams and stock prices manipulations, greed and

easy access of public money by the promoters. He pointed out that during the decades

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of 1990s emphasis was not on the project, but on the projections. The author also

painfully cited the easy diversion of funds by the promoters, collection of gifts by

financial journalists at road shows and funds raising seminars of the promoters. He

also cited that even the investors were happy because their investment was soaring

with every passing day, but all hopes were dashed when the bubble burst, and the

retail investors lost their entire savings.

Perkins and Perkins (1999) stated that in bubble market, greed and the herd mentality

can take over, and with these comes tendency to gamble heavily, investors fall prey to

scams, and get burned by IPO stocks, and insiders gain at their cost. He hinted that

this was due to the misuse of the technology.

Leinweber and Madhavan (2001) gave examples of manipulations in stock named

NEIP which rose to a whooping 1,86,600% in few days. They quoted a para from

Joseph De La Vega who wrote three hundred years ago about Amsterdam Stock

Exchange as, “The greatest Comedy is played at the Exchange… the speculators

excel in tricks, they do business and find excuses wherein hiding places, concealment

of facts, quarrels, provocation, mockery, idle talk, violent desires, collusions, artful

deceptions, betrayals, cheating and even tragic ends are to be found.” The authors

also gave examples of manipulation by stockbrokers by pump & dump and bluffing.

The authors further discussed about the measures initiated by Securities and Exchange

Commission and NASD to examine and deal with such scamsters. The authors

concluded by stating that history has shown that there is nothing new about nature of

manipulations and the common techniques have been used for centuries. What has

changed is the speed at which the manipulations are done.

JPC constituted in 2001, observed that capital market in India is neither deep nor wide

enough to moderate volatility and, therefore, a few players could attempt to

manipulate the stock markets. Clearly, various regulatory authorities were not able to

foresee the situation leading to the scam and prevent it. The government particularly

the Ministry of Finance that is the custodian of the financial health of the economy

also failed to pay adequate attention towards the problem.

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While studying the empirical evidence on stock market manipulation in US markets,

Aggarwal (2003) stated that in markets where the manipulators operate, the efficiency

of the market worsens, and therefore, they advocated for a strong role of the

government regulations to discourage the manipulations. They were of the view that

mostly informed parties like corporate insiders, brokers, underwriters, larger

shareholders and market makers were the likely manipulators. Illiquid stocks are more

likely to be manipulated and the manipulations increase the volatility.

Stressing on freedom of markets from manipulations, Malik (2003) explained the

need to free the markets from manipulations, and stated that the main objective of

legislation should be to ensure free markets from any sort of manipulation and to

safeguard the interest of investors by ensuring that services are provided efficiently at

a moderate cost.

Aggarwal and Wu (2006) stated that manipulation increases volatility, liquidity, and

returns for the manipulators. Prices rise throughout the manipulation period and fall

post-manipulation. Prices and liquidity are higher when manipulators sell than when

they buy. They make profit at the cost of ordinary investors due to the manipulations.

The counter party acts based on the information provided by the manipulators and

causes loss to him. This worsens market efficiency from the perspective of price

transparency. The authors suggest a strong and effective role for regulator to

discourage manipulation while encouraging greater competition for information.

Investor Fraud Study Final Report by NASD Investor Education Foundation (2006),

prepared for WISE Senior Services and the NASD Investor Education Foundation by

the Consumer Fraud Research Group in May 2006 studied why older consumers/

investors are more frequently victimized by fraud, and to develop strategies to reduce

the harm it causes in the market place. To move in that direction, two primary

research questions were pursued:

1. What kinds of persuasion tactics do criminals use in investment and lottery

scams to defraud consumers?, and

2. How do victims of investment and lottery fraud differ from non-victims of

fraud?

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NASD Investor Fraud Study recommended that:

1. Financial literacy and fraud prevention efforts be broadened to incorporate

greater emphasis on spotting and resisting criminals’ persuasive tactics;

2. Encourage more reporting of illegal activity to law enforcement agencies;

and

3. Conduct more research to develop a vulnerability index and test the effects of

persuasion education as a deterrent to fraud.

Wagner (2007) advised the investors to invest in education. He further said, “New

investors are jumping into a shark-infested pool. In order to survive… you need

protection… and the very large teeth”. While advocating for the competition among

the stock market intermediaries particularly the stock brokers, Siddiqi (2007) was of

the view that higher is the competition among stock brokers, higher are the chances

that their manipulations would get noticed by the market players including the

investors, and that would discourage them to manipulate the markets. While

commenting upon the scams, Berger (2000), an MIT, economist, wrote, “in a boom,

fortunes are made, individuals wax greedy, and swindlers come forward to exploit

that greed”.

Greenwood (2007), while discussing how the companies manipulate the stock prices,

stated that they put restrictions on trading in the company. When the investors are

willing to trade but cannot do so because of restrictions, it causes the prices to go up.

During this period of artificial hijacking, the promoters use this as an opportunity to

raise money from the public at overpriced shares.

While commenting upon the markets crash in Jan. 2008 on the plight of small

investors vis-à-vis market manipulations, Prabhudesai (2008) stated that the investor

is usually the sucker in the happenings on the street as he usually buys stocks when

they are at their highest level and he is most likely to sell them at the lowest level,

thus, bearing the brunt of huge losses. He advocated for a larger role of regulator

during such manipulations. He gave some rules for the small investors not to get

trapped in the manipulations like not to buy stock on tips or recommendations, look

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for long-term horizon, not to invest all their savings and to learn the art

diversification.

While discussing the various market manipulations by the stock market

intermediaries, Dalal (2011) painfully pointed out market manipulations and the

agonies faced by the retail investors like false trades in order to earn excessive

brokerage, misuse of Power of Attorney, low participation of investors in equity

market, misuse of “Know Your Customer” forms, poor management of Mutual Fund

industry, unavailability of demat facilities at smaller towns, excessive speculation,

poor participation of Investor Association, over dominance of FIIs and FFIs etc.

Serkan and Bedri (2012) stated that market manipulations decrease the efficiency in

the markets and also the participations. This harms the investors and it is the duty of

the regulator to curb the market manipulations. They found that stocks, which have

been manipulated earlier and have high leverage ratio have higher chances of

manipulations, whereas the stocks, which have high public float and high market

capitalization have lower chances of being manipulated.

3.7 Regulatory Framework and Role of Regulator in Securities Market The aim of market regulator is to create a market place free from restrictions with set

of rules, regulations and processes in order to promote a free and fair play. Role of

the regulator comes into action only when these rules are broken. The regulator

provides a platform for the market players to trade under the set rules and guidelines,

and expects from all the market participants to follow the rules in true spirits. But

many a times, it has been observed that some of the market players hijack the markets

and break the rules of the game to their advantages at the cost of majority of the

players. The regulator has to keep a continuous watch on the activities of the market

players and at the same time to keep pace with the advancement of technologies. The

literature available on role of Regulator in preparation of rules and regulations can be

cited as under:

Mulling over working style of the regulator, Gupta (1998) stated that SEBI works on

fire fighting policy. Every time when there is an issue in the market, a group or

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committee is constituted, the participation of retail investors is missing in these

groups or committees. The chosen members might be knowledgeable, but they had

narrow or focused interest. He advocated that SEBI must have a think tank with

experts from the relevant fields, and not merely an assembly of successful

bureaucrats, the members instead of visiting the foreign markets, go deep down the

problem and should listen to the retail investors.

The Mitra Committee (2001) in its report submitted number of recommendations to

the Government for effective regulatory regime in India, and listed a number of

additional powers to be conferred on SEBI. However, the report underlines that it

cannot be an investigator, regulator and judge at the same time.

Association of Private Clients Investment Managers and Stock Brokers, London

(APCIMS) (2002) carried out a study providing a sensible structure on investor

protection and the retail shareholders. The report was submitted to European

Commission. While discussing the role of regulator, it suggested inter alia as under:

1. Regulators to have in place best execution framework to enforce;

2. All retail trades including those which have been internalized must be reported

and published quickly through a centralized mechanism;

3. Regulators should have a mandatory requirement for investor education;

4. The investor is made well aware of the rights to complain, with an easy, quick and

non-judicial route for complaint and recompense should there be a problem, as

well as the ability to use the courts.

The JPC (2002) in its report stressed that the objective of the Government and the

market regulator is to ensure efficiency and integrity in the functioning of the capital

markets. As per statutory provisions, surveillance functions over the capital market

operations have been assigned to SEBI. Government does not interfere in the day-to-

day regulation, surveillance or functioning of capital markets in any way.

Analyzing reasons of shaken confidence of investors, Knott David (2002),

recommended few measures for accounting and auditing reforms, which would

restore confidence and credibility to accounting. The author stated that accounting is

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an honourable profession, which plays an important role in the efficient management

of our free enterprise economy by stating that the biggest battle lies not with public

policy-makers or regulators, but within the profession itself and with the corporate

world.

Singh (2003) was of the view that since 18th century, Indian Capital Market has come

a long way, but has also been marred by number of scams. These scams,

irregularities and manipulations have eroded the confidence of investors and they

have shied away from capital market. It is the duty of the State to protect the interest

of investors through a number of measures. He proposed to have a separate

adjudicating authority, which can take up the matter in an independent manner and

solve their grievances without any delay. While discussing regulatory framework,

Balachandran (2003) stated that Government of India has framed Rules under SCRA,

SEBI Act, and Depository Act, 1996 for the purpose of preventing the unfair trade

practices and insider trading. The author was of the view that in order to safeguard the

interest of investors, the regulatory requisite framework has to be put into place.

Hyytinen and Takalo (2003) suggested that flexibility of decision-making in small

firms should be increased. This can be done by relaxing the various constraints which

are imposed upon the management and controlling shareholders by the various laws.

There should be tradeoff, i.e., the constraints should be eased for small and medium

firms that were originally designed for large business firms. Laws should provide for

maximum possible freedom combined with the transparency necessary to ensure the

responsible and accountable use of that freedom.

In a study recommending certain suggestions to improve regulations of markets,

Malik (2003) stated that regulatory objectives are defined by the people on the

demand of larger group of interested people, and the markets need right support so as

to provide the right amount of rules and regulations for conducive financial

atmosphere. He further stressed that in the absence of regulations there might be three

types of failures like problems of asymmetric information, externalities, and market

power. He stated that the goal of regulation of stock market is minimizing systematic

risk, and therefore, disclosure requirements need to be clearly defined and made more

strictly implemented. He was of the view that the role of the regulation is mainly

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two-fold. Firstly, it has to create conditions in which the market mechanism is given

full freedom to attempt to deal with the sources of friction. Secondly, it has to take

into account the inability of existing market participants to fully solve these problems

and at the same time to put in place necessary restrictions on their behaviour with

minimum of negative impact. He stressed that there is immense need for regulation

of the securities markets so as to minimize the effect of the market failures.

While discussing the problems faced by the regulators in taking pragmatic view with

regard to changing the regulatory framework, Choi (2004) of UC Berkeley was of the

view that regulators attempting to develop strong securities markets face a difficult

task as they have a limited set of policy options available to them. While they may

change the laws on the books, changing the norms among investors and managers as

well as the operation of private securities market institutions within a country is

neither quick nor easy. The regulators, according to him, take a narrow approach to

the problem, and therefore, the chances of mistakes are higher.

Davies (2004) while delivering a lecture on the eve of foundation day of SEBI in

2004 discussed the shift from club based regulations to legislation-based regulations.

He discussed the growth of consumer protection through regulation. He also talked

about development of strong international regulatory co-operation and advised that it

is necessary for all regulators to adopt somewhat more open and international minded

approach than they had in the past.

However, with deemed focus of regulator on small investors, Somaiah (2005)

expressed that regulator has always talked about the small investors and every time

made new commitments forgetting the earlier ones. This has made him confusing and

has left new loopholes in the system. These loopholes have led to scams in securities

market and have eroded the investments of the investors. The regulators have the

knowledge of these missing links, but what lacks is the commitment and the will to

protect the small investors. After nine long years of Ketan Parekh scam, 66 cases out

of 71 cases have not yet been adjudicated. He painfully pointed that similar is the fate

of vanishing companies mess. Out of total 229 companies, action has been initiated

against only the promoters of five such companies. The said study also mentioned that

regulator is behaving like a post office which passes on complaints to some agencies

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or outsourcers the same. It simply acknowledges the complaints. The small investor

feels that regulator is faceless, careless and approach-less. He has to follow up

complaints worth 5000, or 10,000 for many years, which defeats the very purpose

of filing a complaint. This is a grey area where lots of reforms are required and the

system should be made friendlier for small investors.

Desai (2005) analyzed the effect of price limits on price behaviour , volatility, trading

volumes and profit making ability in stock markets. The study found that the volatility

and trading volumes are higher in the case of uncontrolled price limits and vice-versa.

He advocated for imposition of price limits for the cause of investor protection. He

argued that in order to safeguard the markets against mispricing and to protect

unsophisticated investors, regulatory mechanism is needed. The imposition of price

limits are required and these either curb the excessive volatility or causes it to spread

over a longer period. This helps in protecting the naive or uninformed investor.

Similarly, talking about regulatory gaps in listed companies, Bajpai (2005) is of the

view that SEBI has not been able to regulate these entities in a holistic manner, and

SEBI & Ministry of Corporate Affairs should consolidate their mutual understandings

in a bid to curb unscrupulous elements and avoid regulatory gaps.

While studying the Indian Capital Market, its development, achievement and potential

improvements, Goyal (2006) expressed a clear view that with internationalization and

introduction of newer techniques, the governmental controls are becoming ineffective,

and therefore, require de-regulation and re-regulation and new regulatory structures.

The capital markets of the country provide effective mechanism of savings, allocation

of investment, price discovery, pricing and hedging of risk but at the same time these

markets are fraught with information imperfections, excess volatility and market

manipulations. The author very clearly enumerated the merits, demerits of regulation

and, de-regulation; and concluded that important lacuna in the Indian context was the

neglect of small investor, small firms and start-ups.

Basu and Dalal (2007) stated that the sores were created by two decades of over-

regulation on paper, lack of control in practice, a cracking infrastructure and the

misguided policies of RBI that refused to acknowledge the reality of the market place.

136

The Scam was not limited to individuals and everybody was in it, like vultures

nibbling at a rotten corpse. The role of regulator is to act like a policeman or game

referee who does not take part in any activity but watches carefully and acts as a

watchdog whenever there is a foul play. The regulation is government intervention in

markets to influence those decisions of private agents that would otherwise not fully

consider public interest. The authors then briefly described the principle of regulation

as well.

Echoing similar views on stricter regulations, Whitney (2007) was of the view that the

years of deregulation have taken their toll. The market is resting on a foundation of

pure quick sand. Collateralized debt, hedge funds, shaky sub-prime equities and an

ocean of margin debt are just few examples of deregulation’s excesses. These

untested debt instruments are bringing down the Wall Street like a laser guided

missile. He was of the view that in order to regain its lost credibility we need stricter

laws and regulations in place.

Stressing the need for regulation of market, Rath et al. (2009) discussed various

aspects of regulation of the securities market. The authors were of the view that

regulation is must in order to curb unfair trade practices, improper disclosures,

information asymmetry and frauds in securities market. They were of the opinion that

regulation and development go hand in hand, and the regulation helps in enhancing

fairness and integrity in market place. They then briefly touched upon rule based and

principle based regulation and advocated for the self-regulation (SRO) regime in

India.

Similarly, Dodd (2010) was of view that the crisis that has led so much economic

carnage in the lives of middle people was caused by the long-standing failure of the

regulator structure to adapt to the changing financial system to prevent a the sort of

dangerous risk-taking that led to the present position. Various authors have written

about the regulator, its role and lapses in discharging its duties.

While commenting upon the SEBI policies and the effectiveness of its mechanism,

Sabrinathan (2010) is of the view that despite SEBI’s best efforts, both primary and

secondary markets have been affected with various troubles and situations leading to

137

some sort of scams. He further explains that SEBI’s legal position has not been far

from happy as SEBI’s awards and penalties have been successfully challenged in

SAT or other courts, leaving a great scope for improvement. He points out that SEBI

and MCA had different views on the subject and as a result the corporate world took

undesirable advantage because of this difference.

Jain (2011) stated that recent global financial and economic crisis clearly

demonstrated the need for meaningful financial regulatory reforms that protect the

integrity of the financial system.

Highlighting the importance of one single regulator in capital market, Puri (2010)

discussed the inefficiency caused; and discussed the attempts made by Canadian

Government to have a single regulator. She also touched upon the role of Hockin

Panel report in that direction. She was of the view that Canadian companies,

investors, and other business houses are suffering on account of inefficient regulatory

framework, and this puts Canada out of step with the rest of the world, where the

trend is towards consolidation of regulation.

With regard to regulating the fund managers and FIIs, we need to have a strong

regulation for those who play with the money of millions of investors. Here, I am

reminded of the quote of Sharma of First Global with regard to the FIIs and Funds

managers, “Very, very few fund managers have any clue about the art and science of

investing. Very few go into details of fundamentals like detailed balance-sheet

study.... and even fewer have any clue of technicals. The average fund manager is

chasing the momentum 90% of the time. With phones permanently glued to the ears,

picking up information like a goldfish eating debris at the bottom of an aquarium

floor: who sold, who’s going to buy, who’s going to sell, etc.”

138

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