[Harshit and Vanshika are students at Rajiv Gandhi National University of Law.]
The strength of information is immense as its kind and how it traverses through people has a significant impact on the movement of a scrip. In this digital age, ‘information’ and its flow occupy a crucial position in governing investor behavior. Though, today information is abundantly and readily available in various forms and shapes, ascertaining its credibility and veracity is a big challenge.
The Adani-Hindenburg saga serves as a classic example of how impactful a piece of information can be. Hindenburg Research released a report raising serious allegations against the Indian giant, Adani Group. The report not only adversely impacted the shares of various companies of the Adani Group but also wreaked havoc in the markets. Several aspersions have been cast upon SEBI for its lackadaisical way of handling the investigations and its efficacy in protecting the Indian markets from companies like Adani. However, in January 2024, the Supreme Court of India, turning down the request to transfer the probe to SIT, found that the investigations conducted by Securities and Exchange Board of India (SEBI) were by procedure and inspired the court's confidence.
The Adani Hindenburg saga raises some even more grave concerns and points to larger issues with the robustness of the Indian markets and the efficacy of the legal setup regulating the stock market in general and the flow of information in specific. In this article, the authors delve into the legal framework governing information-based market manipulation, analyze it to gauge its efficacy, and highlight the lacunas. Further, the article illustrates the possible ill consequences of the unregulated flow of information in light of the Adani-Hindenburg saga.
Legal Framework Governing Information-Based Manipulation
Section 12A of the Securities and Exchange Board of India Act 1992, and the SEBI (Prevention of Fraudulent and Unfair Trade Practices relating to Securities Market) Regulations 2003 (SEBI (PFUTP) Regulations) deal with manipulative and unfair trade practices. Regulations 4(2)(f) and 4(2)(k) lay down strictures for information-based manipulations. First, the regulations only apply to persons dealing in securities. Regulation 2(1)(b) defines ‘dealing in securities’ to include buying / selling in securities and clause (ii) specifically includes 'such acts which may be knowingly designed to influence the decision of investors in securities'. The definition requires knowledge and a specific design to influence an investor for an act to fall within its ambit. Given its restricted application, the regulations fail to contemplate the possible manipulation by persons (such as whistleblowers, media houses etc.), who release information not knowingly designed to influence investors.
In SEBI v. Rakhi Trading, market manipulation was observed as a deliberate attempt to interfere with the free and fair operation of the market and create an artificial appearance concerning security and related aspects. Nonetheless, the regulations by creating the essentiality of ‘dealing in securities’, erroneously presume that only a person who is dealing in securities can resort to manipulation through information and thus frustrate the goal of curbing information-based manipulation.
Second, Regulations 4(2)(f) and 4(2)(k) are toothless and marred with inefficiencies as they create the essentiality of knowledge or intention. Clause (f) that reads, ‘knowingly published by a person dealing in securities any information…which is not true or which he does not believe to be true’ would exclude any such release of information that leads to market manipulation but is not done to induce such variation. Moreover, it would also exclude releasing any such information that causes manipulation but was believed to be true. Further, in Clause (k), the term ‘reckless and careless manner’ excludes careful dissemination of information and therefore, provides a defense of ‘due care and caution’ for the disseminator, notwithstanding the damage such cautious release of information might have caused.
The Committee on Fair Market Conduct set up in 2017 to review the existing legal framework dealing with market abuse, observed that acts done accidentally or unintentionally should not be brought under the ambit of SEBI (PFUTP) Regulations. Consequently, the term ‘knowingly’ was introduced in Regulation 4(2)(f) in 2018. Further, the term ‘reckless and careless manner’ was introduced in Regulation 4(2)(k) in 2022. However, the authors argue that the regulations fail to adequately address the predicaments of information-based manipulation due to the requirement of mental elements for their applicability. These provisions do not contemplate the overarching effects, however gruesome, of market manipulation and accord unwarranted essentiality to mental elements.
Regulatory Shortcomings and the Consequent Impacts
In the Adani-Hindenburg saga, the extent and graveness of allegations were such that the report led to a drastic fall in the prices of shares of various Adani companies and caused major losses to investors. The concerning aspect of this innocent act of whistleblowing lies in the fact that the veracity of the allegations in the report is to date in question i.e., what if the report turns out to be a sham?
In this scenario, where the investigative authorities do not find any merit in the report, the incident would become one where an entity makes allegations against a company which results in the crash of its shares, the allegations are not proven and the authorities grapple in making the entity liable due to the lacunas in law. Further, a more complex situation would arise when the report/information is partially correct or the allegations made are not disproved in their entirety but they also do not make out offenses of the magnitude alleged. The moot issue still would be whether such a crash and drain of investor money was warranted in light of what is true. Since the legal framework governing information-based manipulation is infested with loopholes, such entities would perhaps walk free.
Another intriguing aspect of this whole saga turns out to be that where nearly every shareholder of Adani companies was suffering losses, the very research company whose report caused such a hit, i.e. Hindenburg, aided profits through short-selling. The act of short-selling is not illegal in India but is regulated by SEBI. Further, since the downfall caused by the Hindenburg report would perhaps stay out of the ambit of market manipulation under the SEBI PFUTP Regulations or SEBI Act 1992, the short selling so done by Hindenburg research stands legally sound. However, the authors argue that the act of gaining profits from a movement created by them should be considered an unfair trade practice, and therefore, when an entity involves itself in any such act, it should be restricted from making profits from the movement in the market which is a creature of its own.
Conclusion
The authors argue that by limiting the scope of regulations to ‘persons dealing in securities’, the SEBI PFUTP Regulations fail to provide law on the possible information-based manipulation by other persons, under the guise of a bona fide act. In the absence of any adequate law regulating and keeping a check on the release of such information and affixing the liability of the entity releasing such information, the Indian markets stand vulnerable to any information released in the public domain or information that gains traction on social media.
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