NSEL Defaulters and Defaulting Brokers

On July 31^st, 2013 the Rs.5600crore National Spot Exchange Ltd. (NSEL) crisis surfaced. The matter came under scanner of multiple agencies since then. Exchange was forced to shut down and suspend all its trading contracts.  After the payment crisis Regulatory Body, Investigating Agencies and NSEL had declared 24 members as NSEL Defaulters.

Brokerage firms involved in the NSEL crisis were also under the observation due to their fraudulent behavior. It came into light that some of the brokers gave promise of assured returns to the trading clients, which turned out to be wrong resulting into crisis. Corporate Affairs Ministry and other agencies including Enforcement Directorate (ED) have been investigating the defaulting brokers in the Rs.5600crore NSEL crisis case. SEBI was also been asked by government to take necessary action against these defaulting brokers.

Mr.Arun Jaitely the Finance Minister had told Lok Sabha that other than Corporate affairs Ministry Economic Offences Wing (EOW) and ED are also investigating the NSEL matter. EOW had attached properties of the accused worth Rs5757crore (approx.) and Rs.1222.89crore, 32 common properties had been attached by ED of Rs.740crore (approx.). Arun Jaitely in a written reply to Lok Sabha had said that SEBI is directed to examine and take necessary actions against defaulting brokers.

 In case of brokers various agencies are investigating into their role. It is proven in the audit report that defaulting brokerage firms named Anand Rathi Commodities, Geofin Comtrade, Motilal Oswal Commodities, India Infoline Commodities and Philip Commodities are guilty. SEBI with EOW and ED is investigating the role if these brokers in NSEL crisis Case.

NSEL Broker’s face recovery suits

Brokerage firms played a major role in the Rs.5600crore National Spot Exchange Limited (NSEL) payment crisis. Investigation agencies have been investigating brokers over cases filed against them. Trading clients in the case had earlier filed recovery suits against brokers alleging that they were involved in various fraudulent activities in regards to trading on NSEL platform.

On July 2013 the NSEL crisis came to light. Since then matter is investigated by many agencies. Exchange was forced to suspend all its trading contracts. Trading clients have filed separate cases against top five leading brokerages. Suits are filed in over brokers for mis-selling and wooing them to invest in agri commodities.

Economic Offences Wing (EOW) of Mumbai police had arrested officials of some commodity brokerage firms on charges of inducement and mis-selling of NSEL products in the past. Enforcement Directorate (ED) is also interrogating the top officials of broking firms to ascertain their role in the case. Evidently, some brokers had high exposure in the NSEL case. Among them were Anand Rathi (Rs.629crore), India Infoline Commodities (Rs.326crore) and MotilalOswal Commodities (Rs.263crore). Other broking firms with explore in NSEL are Phillip Commodities (Rs.140crore), Geofin Comtrade (Rs.313crore) and Systematix Commodities Services (Rs.277crore).

SEBI has also launched probe against leading brokerages into alleged mis-selling of products with the promise of assured returns from commodities traded on the NSEL. SEBI is also investigating brokers over various complaints including false assurances, inducements and misrepresentation, trading without appropriate authority from clients, misuse or unauthorized modification of unique client code, funding by NBFCs related to the brokers and non-receipt of payouts by clients.

Recovery suits against AnandRathi, India Infoline Commodities, MotilalOswal Commodities and Phillip Commodities are filed by trading clients in Bombay High Court. These six trading clients have put their hope in the legal system and investigating agencies; we can hope that they receive justice in least possible time, thus ending their long awaited suffering. 

SEBI the hope for NSEL crisis

SEBI the market regulator will be pursuing the guilty parties in the NSEL crisis with more determination, as the securities market regulator’s merger with the commodities market regulator was getting closer to completion, as decided by Government. It was said that SEBI was looking to begin enforcement measures against entities involved in the case. They would also initiate adjudication & disgorgement proceedings against guilty entities in the crisis if necessary.  SEBI was then likely to play a bigger role after completion of FMC integration. Legal matters related to NSEL too would be handled by SEBI’s legal department. Latest action was expected soon.

It was said that SEBI has sought a report on the entire NSEL crisis from the regulator. A popular question that was floating at the time was as to why was SEBI now been given charge of the guilty in the NSEL crisis? Was FMC not able to take a call on the crisis even though they had the powers to do so? It’s had been a substantially long time since FMC has been sitting on the NSEL matter. The guilty are still at liberty with all their assets still not discharged. It has also come to light after a fresh probe that commodities law violation would continue to be tried under the Forwards Act, however SEBI would have to enforcement powers over them.

This had come as a major relief to FMC, as sources say they were facing difficulties in the NSEL cases due to personnel issues.  For example, they were facing problems to defend the challenge of ‘fit & proper’ against FTIL due to lack of in-house legal department. FMC on many occasions had to rely on outside help on the legal matters. But, unfortunately did not have the provisions to get legal consultants on board.

Hopefully now since SEBI is going after the guilty in the crisis hit NSEL, we can hope this matter will take a worthy turn, relieving the innocent and taking appropriate actions against the guilty.

Rogue brokers carried out Money Laundering in NSEL case

Brokers have been in light in the NSEL case for their act of mis-selling. SEBI is investigating the work of brokers in NSEL crisis. There was 60 Days of time given to the brokerage firms to have their books of accounts vetted, by the Investigating agencies. In addition to that it is said that SEBI has came across fresh evidence against the top five brokerage firms involved in NSEL case. The evidence states that there is high possibility of brokers involved in using the ‘Exchange Mechanism’ for money laundering. SEBI had appointed a third party auditor, who has submitted an audit report and that report are reviewed by regulator. As a result ‘show cause’ notices would be sent to the brokers according to the evidence found.     

There are number of audit findings which require through explanations. Some of the disturbing audit findings which are evidence against brokers are given below:-

• According to the audit, it comes to knowledge that upto five brokers had sold products NSEL goods by giving out false promises of getting returns upto 16%
•  It was also found that some of the brokers had facilitated loans to investors through their non-banking financial companies despite being aware that there were no such goods with the borrowers/defaulters.
• Further facts state that the transactions that took place were very complicated in nature, and all the entities involved were used to trading on the NSEL platform with the intent to legitimize the funds.
• The audit report also include instances of mishandling or unofficial modification of unique client code. There were several instances of discrepancies and manipulation of books of accounts.

 The audit report clearly fulfilled that many spiteful activities including manipulation, mis-selling & deceit have been carried out by the brokers which possibly lead NSEL to the gigantic Rs. 5600 crore crisis. In the bargain of these fraudulent activities carried on by some spiteful brokers many entities connected to NSEL have been greatly affected. These malicious activities by brokers need to be verified further and strict action needs to be taken against these rouge brokers.

The Market Regulator - SEBI

In the NSEL crisis which came into light in 2013 there is latest development in terms of fraudulent behavior of Brokers. SEBI completed investigation against top 5 brokerage firms involved. According to Sebi official the delays by brokers occurred when Sebi was not their regulator. At the time when violations took place in NSEL contracts the Sebi or FMC were never under the ambit in the first place. 

It is stated that from a regulatory perspective if Sebi would have faced jurisdiction issues if it would have tried to act against the 24 NSEL Defaulters and Brokerage firms involved. In the NSEL crisis, since FMC itself had no regulatory jurisdiction over the commodity spot and ready-delivery contracts. Hence, Sebi may not assume jurisdiction which was originally never there mentioned by Tejesh Chitlangi, partner at law firm IC Legal. 

As the merger of FMC and Sebi took place brokers are abided by the Securities Act and have come under the purview of the Sebi broker regulations. In the current rules applied for brokers, Sebi evaluates brokers and intermediaries to make sure they meet its ‘fit and proper’ criteria. 

Sebi also has the rights to impose rules on brokers unlike FMC, where brokers were governed by exchange guidelines. The regulator can act against an intermediary for violation of FUTP and under Section 11B for protecting the rights of investors if it finds the conduct of a broker questionable. 

One of the official mentioned that code for brokers will be strict and very precise for do’s and don’ts. There will be eye on the broker who carry out misrepresentation, lack of due diligence, material un-disclosed conflicts and/or any other shortcomings on part of such brokers. Sebi would be well within its right to penalize them  in case of any faulty practices. Sebi, on its part, is going to refer the report to the department of economic affairs. They would apprise the ministry of their findings with respect to the NSEL brokers as they move towards finalizing a course of action.

Trading was stopped on NSEL in July 2013 after the payments crisis, which assumed the dimensions of a scam, surfaced at the supplies bourse, which is 99.99% owned by Financial Technologies India Ltd

NSEL Brokers investigated by SEBI

SEBI ordered an audit report of brokerage firms involved in the NSEL crisis which came into light in 2013. It was due to the suspicion of these top brokerage firms being involved in the mis-selling of NSEL goods, according to the sources. However SEBI is facing difficulty in finalizing regulatory action in opposition to the brokers. It is because neither SEBI nor the previous commodities futures regulator, which has since merged with SEBI, were involved in oversight of NSEL, the three persons said on condition of anonymity. Investigation of brokers is probably completed and SEBI is lettering to the department of economic affairs in the finance ministry.

 Audit of brokers’ books was carried out by a third party, found that brokers mis-sold NSEL contracts by assuring high returns without ensuring delivery, said the second person. Mis-selling is one of the explanation areas that Sebi is considering while analyzing whether brokers complied with the ‘fit and proper’ criteria.

In case of NSEL brokers SEBI ordered audit books of top five brokers for the year of 2011, 2012 & 2013. These brokers involve Anand Rathi Financial Services Ltd (Rs.629 crore), India Infoline Commodities Pvt. Ltd (Rs.326 crore), Geojit Comtrade Ltd (Rs.313.25 crore), Motilal Oswal Commodities (Rs.263 crore) and Phillip Commodities (Rs.140 crore). 

A team was formed after the Ministry of finance asked SEBI to look into defaulting NSEL members. The team included executive directors heading three crucial Sebi divisions: surveillance, investigation and commodities. 

Around 200 brokers are alleged to have sold NSEL products by promising an assured return to investors to be sure. But there have been no specific complaints against them. When contacted the brokerage firms, their spokesperson had no idea or denied to comment on the same.

Even though the audit report is ready, Sebi is finding it difficult to finalize regulatory action as it is facing jurisdiction issues. SEBI was merged with the Forward Markets Commission (FMC), the commodities futures market regulator last year. FMC is one regulator which did not oversee NSEL, a commodities spot exchange.