To be or not to be an SRO

P Chidambaram has set several market intermediaries thinking. Last week, speaking at the inauguration of the Mumbai headquarters of the Securities & Exchange Board of India (Sebi), the finance minister chose to raise an important issue for discussion and debate: the role of self-regulatory organisations (SROs). The minister?s contention was that despite Sebi?s existing regulations, there were no SROs registered with it. Was it time to consider making registration with an SRO a precondition for a market player getting Sebi registration? The FM also, appropriately, underscored the fact that if market players are self-regulated, the capital markets would be seen to be a safer place and this will, in turn, prompt many more people to turn from savers to investors.

Clearly, Chidambaram wants the issue of self-regulation to be debated afresh. Associations of market intermediaries?whether the Association of Mutual Funds in India (Amfi) or Association of Merchant Bankers of India (Ambi)?despite often doing a lot of important work in deciding the course their sector will take, have been rather reluctant to take on the role of full-fledged SROs.

Even before the Sebi regulations on SROs were notified, a 2003 Sebi discussion paper on the subject dwelt on several important issues concerning such organisations.

SROs are, typically, supposed to rise above being mere industry mouthpieces and are expected to take independent views on the proposals of the players, monitor and regulate these and even take disciplinary action. As first-level regulators, they are to operate under the overall supervision of the main regulator and complement its efforts. The discussion paper said that while internationally SROs have done very well, as markets matured and turned increasingly global, statutory regulations became necessary to ensure greater compliance by members. However, with the expansion of the securities market, the need for self-regulation has again assumed importance.

It is also pertinent to examine why the SRO concept has failed to take-off in the Indian context. Why have associations of market players shied away from taking the plunge? There are different reasons cited by mutual funds and merchant bankers on why their associations hesitate to turn SROs. But the one common thread is concern about a possible conflict when members sit in judgement of the conduct of their peers. This is the fundamental objection that market players still have: as players, they cannot turn umpires and give rulings against members of their own fraternity, something which is basic to the concept of an SRO.

In the case of brokers being registered and regulated by stock exchanges, the situation is somewhat different. As Amfi chairman AP Kurian explains, the stock exchange-broker relationship is a ?transactional? one, where the exchange itself is a trading platform for the broker. It is an ongoing, inseparable, transactional relationship, unlike, say, the one between a mutual fund and Amfi, where Amfi is merely a body to articulate the industry?s views and interface with the regulator. An exchange?s rules and regulations are fundamental to the way the broker conducts his daily transactions. Hence, the relationship is different.

There are other concerns too. Sebi?s regulations specify that an SRO?s board will have nine directors, of which five would be nominated by the regulator and the remaining elected by the SRO members. This clause, some sections feel, goes against the grain of self-regulation. Besides, in an SRO situation, if all members are equal in size, there is a fear of members not taking kindly to disciplinary action being imposed by one of their own. On the other hand, there can be allegations by smaller players of being bullied. And then, the other question: can there be two drivers? What exactly will the SRO monitor, and what will Sebi monitor?

Some of these issues merit detailed discussion. But none of these problems are insurmountable. Amfi, for instance, admits that with the finance minister bringing the issue back on the table, industry bodies will need to go back to their drawing boards and brainstorm. A detailed review of the regulations, too, is in order, so that contentious issues can be ironed out. The concept of an SRO that restricts itself to specific areas of self-regulation, or a kind of ?modified? SRO concept, can be considered. Clearly, the ball is now in the court of the market players.