[Ahana and Shubh are students at Jindal Global Law School.]
In a recent development, the Securities and Exchange Board of India (SEBI) has amended Regulation 2(1)(e) of the SEBI (Prohibition of Insider Trading) Regulations 2015 (PIT Regulations), by virtue of its notification dated 17 May 2024. By the means of this amendment, the SEBI has significantly reduced the ambit of ‘generally available information’, which could lead to unverified market events falling within the scope of unpublished price sensitive information (UPSI).
When read with the recently amended Regulation 30(11) of the SEBI (Listing Obligations and Disclosure Requirements) Regulations 2015 (LODR Regulations) that deal with the disclosure of market rumours, the amendment sets off a domino effect which would lead to adverse consequences on informed trading by retail investors. This post highlights the flaws of the amendment and explores the alternative solutions for how the SEBI could have remedied the harm it sought to reduce without impacting the rights of retail traders.
The Amendment and its Supposed Intent
In the language of the PIT Regulations, insider trading can be understood to be as one undertaken by a ‘connected person’, or any person in possession of UPSI. These are two key terms, each of which is defined by the PIT Regulations, and it is the collective understanding of these terms and their ambit that determines whether someone’s acts constitute insider trading.
To that effect, UPSI is defined as information that is not ‘generally available’, i.e., not available on a non-discriminatory basis. This is where the definition of ‘generally available information’ and the amendment to the same is relevant. The amended definition of generally available information posits that generally available information would not include ‘[an] unverified event or information reported in print or electronic media’. Consequently, any news article published in the media about a company would constitute UPSI if the company has classified the said information as UPSI until and unless it has been verified by the company as per the requirements of Regulation 30(11) of the LODR Regulations.
The amendment was suggested owing to the SEBI’s growing concern around market rumours and their ability to influence market prices. While amendments to the LODR Regulations and more specifically Regulation 30 of the same were already effectuated in June 2023, the SEBI first discussed parallel changes to the PIT Regulations in its consultation paper dated 28 December 2023. Further, in a paper published in March 2024, the SEBI elucidated the intent behind the proposed amendment as to ensure that “an insider cannot quote an unverified event or information reported in media to claim defense that they traded during trading window closure period based on ‘generally available information'.”
Essentially, there may exist instances when an event or information, which has been classified as UPSI by the listed entity, is in circulation in the market but the listed entity does not confirm, deny or clarify such event or information reported in the media as it does not meet the threshold for disclosure as under Regulation 30(11) of the LODR Regulations. In such scenarios, there would exist an unequivocal information asymmetry between ‘connected persons’ who would know whether such event/information was verified and the ordinary retail (unconnected) traders—whose knowledge of the event/information would have been acquired merely through print/electronic media and consequently, be unverified. As per the erstwhile law, these connected persons (in possession of verified information) could readily trade on the basis of said information and subsequently circumvent the penalties under the PIT Regulations, by arguing that the information was generally available in print/electronic media.
To bridge this gap, the SEBI now specifies that any such information that has not been verified by the company would continue to fall within the ambit of UPSI. Thereby, connected persons who trade on the basis of such information would now face penalties as under Regulation 4(1) (trading when in possession of UPSI). Therefore, while the mischief that the amendment seeks to remedy is apparent, the authors shall now demonstrate how the SEBI’s approach is deeply flawed.
Adverse Effect on Retail Investors
The amendment negatively affects the rights of unconnected retail traders who trade on the basis of information they receive through media. Such information, if unverified (the company is not mandated to verify the information unless it leads to ‘material price movement’), would constitute UPSI if the company has classified it as such. By virtue of Regulation 2(1)(g)(ii), such a retail investor would, therefore, be considered as an ‘insider’. Given that Regulation 4(1) prohibits insiders from trading on the basis of UPSI, every retail investor who obtains such information via the media would now be prohibited from trading on the basis of such information. The onus would, therefore, shift on the trader, who would have to prove their innocence by either showing that the transaction was an off-market inter-se transfer between insiders who were in possession of the same UPSI (proviso (i) to Regulation 4(1)) or that they did not possess any unlawful motive (SEBI v. Abhijit Ranjan).
This is an unfair burden on an ordinary retail trader, and certainly not one that the SEBI intended to impose.
Conflict with Prior Jurisprudence
Moreover, the Securities Appellate Tribunal order in Shruti Vohra v. SEBI (relying on in the order in Samir Arora v. SEBI) had held that that ‘information constitutes UPSI only when the person getting such information was aware that such information was ‘unpublished’”. Though knowledge is a state of mind of a person, the order had held that the same could be proved on “preponderance of probabilities on attendant circumstances.” Essentially, the tribunal intended to exempt individuals unknowingly in possession of UPSI, from the purview of the PIT Regulations.
Information available in print/electronic media is unquestionably ‘published’, as per a literal interpretation. However, by virtue of the amendment, it would ipso facto be classified as UPSI (if unverified) and thereby, be at cross-roads with prior jurisprudence of the SEBI itself. Accordingly, the authors suggest alternatives that the SEBI can incorporate to the PIT Regulations to ensure that the mischief is remedied without causing prejudice to retail traders.
Amending the Definition of ‘Insider’
According to Regulation 2(1)(g), ‘insider’ refers to any person who is a ‘connected person’ or has access to UPSI. The NK Sodhi report (1992) justified this over-inclusive definition, since it was believed that the terms ‘UPSI’ and ‘generally available information’ were well defined and would safeguard against an over-reach of the prohibition being read as a ban on informed trading as opposed to insider trading.
Evidently, the amended definition fails to uphold the envisioned safeguards for informed trading. In this regard, it is proposed that the SEBI limit the wide ambit of the definition of ‘insider’. One way of achieving this is to restrict the definition to include only those individuals who are ‘connected persons’ or have access to UPSI through a connected person or an insider (as opposed to anyone who has access to UPSI). This would ensure that directors, KMPs and other connected persons would continue to be treated as insiders, along with other individuals to whom they communicate UPSI. However, individuals who receive unverified UPSI through a legitimate source, such as the media, would be exempted from the ambit of ‘insider’.
Since the scope of prohibition under the PIT Regulations (more specifically Regulation 3 and 4) is applicable to only insiders, this definition would kill two birds with the same stone. Connected persons with access to ‘verified’ UPSI would continue being subject to penalization for trading on the basis of such UPSI, while retail traders engaged in informed trading on the basis of ‘unverified’ UPSI sourced from published media, would not attract Regulation 4(1).
Mandatory Verification of All UPSI
Another suggested solution to the issue would be to amend Regulation 30(11) of the LODR Regulations. Currently, the proviso to the said regulation states that the top 100/250 listed entities are required to verify ‘market rumours’ related to their firm within 24 hours from the reporting of the event or information, if the said rumours lead to ‘material price movement’. A material price movement is an intra-day variation of more than 3–5% in the stock price, after adjusting for any meaningful movement in the benchmark index. Consequently, it is possible that a listed entity in the top 100/250 companies may choose to not verify the contents of a news article is it does not meet the aforementioned threshold under Regulation 30(11), i.e., if it does not cause a material price movement. Furthermore, the regulation does not mandate any disclosure by entities not in the top 100/250.
Accordingly, it is proposed that Regulation 30(11) should be amended to mandate listed entities to verify rumours in two situations—either when the rumour causes material price movement (current position) or if the rumour contains UPSI (that has been clarified by the listed entity itself). While it would lead to increased compliance costs for companies, this change would ensure that any media piece containing UPSI would compulsorily have to be verified by the entity thereby, post verification, any such piece of media would fall within the amended definition of ‘generally available information’ and be available to all traders in a non-discriminatory manner, allowing retail investors to trade on the basis of such information without attracting the PIT Regulations.
Concluding Remarks
By classifying unverified market information as UPSI via the amendment, the SEBI not only contradicts prior jurisprudence on the matter, but also, rather unintentionally, casts a wide net by including ordinary retail investors under the definition of ‘insider’, making them vulnerable to legal action by the regulatory authority.
To prevent such overreach, it is suggested and rather essential that the over-inclusive definition of an ‘insider’ under Regulation 2(1)(g), should be refined to include only those that are connected persons or have access to UPSI through a connected person or an insider. By implication, this will exclude those engaged in informed trading on the basis of published but unverified market information.
Alternatively, an amendment to Regulation 30(11) of the LODR Regulations, mandating the verification of all UPSI, would effectively ensure that such information, when published and consequently verified, forms a part of non-discriminatory, generally available information, not attracting penalization by SEBI. Such changes will help in effectively enforcing the regulatory standards, without causing prejudice to any person, while also maintaining a free and fair-trading market.
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