SEBI protects investor interest without significant impact on brokers: ICRA

The Securities and Exchange Board of India (SEBI) released a circular on June 08, 2023 regarding the safeguarding of client funds placed with stockbrokers and clearing members (CMs). The proposal seeks to mitigate fund misappropriation related risk by removing the surplus investor funds held by stockbrokers and CMs. This follows the associated consultation paper published in February 2023.

Currently, investors’ funds pass through the stockbroker and the CM before reaching the clearing corporation (CC), with the possibility of retention of some funds at each level. The payout released by the CC follows a similar cycle of passing through intermediaries before reaching the investor. During this process, some funds are retained by brokers and CMs and such surplus client funds are vulnerable to possible misuse.

To mitigate the risks, the regulator has decided to mandatorily require the upstreaming of all client funds received by stockbrokers/CMs to CCs, with provisions coming into effect from July 01, 2023. The provisions of the aforesaid framework shall, however, not be applicable to bank CMs and proprietary funds of intermediaries in any segment.

Unlike the initial concerns at the time of the release of the consultation paper in February 2023, the amended framework aims to protect investor interest without significantly impeding the profitability of the stockbrokers and CMs. As per the amended framework, the intermediaries are not strictly required to follow the transfer of funds to the CC on an ‘as is’ basis. They can also upstream the client funds in the form of a lien on fixed deposit receipts (FDRs) and the pledge of the units of mutual fund overnight schemes (MFOS). Thus, the impact on the float income enjoyed by intermediaries is not expected to be significant, though some effect on account of the associated liquidity management and negative carry cannot be ruled out.

Having said that, investment will be required towards developing the necessary interface in continuation to such expenditure necessitated by the preceding regulatory amendments. This, coupled with the increased working capital requirements in the recent past, will continue to drive consolidation in the broking industry with smaller broking players ceding market share to more established broking entities with stronger balance sheets.