Issuance of listed debt securities in India currently takes place through: (a) public issuance through stock exchanges and depositories; and (b) private placements with an identified group of mainly institutional investors. Over the past 3 years, the Securities Exchange Board of India (SEBI) has observed that the volume of private placements has greatly exceeded that of public issues. He also noted that in the context of private placements, the investor category has largely been limited to institutional investors. This has led to an increase in the number of online bond platforms that facilitate investments in listed and unlisted debt securities by non-institutional investors. Until now, these bond platforms were not subject to any regulation.
On July 21, 2022, SEBI published a consultation paper on “Online Bond Trading Platforms – Proposed Regulatory Framework” (Consultation Paper), arguing for the regulation of online bond trading platforms . In its assessment, SEBI also assessed the market share of current players in online bond trading, some of which operate in a manner akin to organized trading channels; bringing together buyers and sellers to negotiate debt securities.
SEBI’S RATIONALE FOR REGULATING ONLINE BOND PLATFORMS
SEBI seeks to bring online bond platforms into the regulatory fold to address issues related to: (a) lack of regulatory oversight and accountability for the bond platform; (b) lack of standards for Know Your Customer (KYC) standards; (c) ambiguity in the resolution of investor grievances; (d) possibility of misrepresentation; (e) conflicts of interest, product offerings, availability of information and potential mis-selling; (f) concerns regarding deemed public issues; (h) transaction reporting; and (i) inconsistencies in clearing and settlement.
An overview of the proposed regulatory framework is presented below:
- SEBI Securities Dealer Registration: Online bond platforms play the role of facilitators, where they facilitate the transactions of investors registered on their platforms. Accordingly, SEBI has proposed that all online bond platforms must be required to register as securities brokers (in the debt segment) with SEBI or be operated by SEBI registered brokers.
- Eligible securities: To mitigate a risk of deemed public issuance, where debt securities issued on a private placement basis are resold by bond platforms to a large number of investors (i.e. more than 200 people ), SEBI proposed that online bond platforms only offer listed debt securities for purchase/sale to their registered investors.
- Blocking period: A retention period of 6 months from the date of allocation of the debt securities is proposed to deal with the issue of an issue deemed to be public.
- Channeling transactions through specified platforms: SEBI proposed that trades executed on online bond platforms could either be routed through the Platform from the debt segment of the exchanges, or via the request for quotation (RFQ) platform of the exchanges where the transactions will be cleared and settled on a delivery against payment (DVP1) basis (in terms of the settlement requirements therein stated). It is also specified that bond platforms may continue to maintain their current front-end or web interface (display of the available list of debt securities, ratings, associated risks, among others).
The proposed regulatory framework is an expected outcome of recent SEBI Corporate Bonds and Securitization Advisory Committee (CoBoSAC) meetings around bond platform issues. CoBoSAC had observed that it was necessary to regulate online surety transactions platforms to ensure enhanced regulatory oversight and governance. The committee had concluded that there would be multiple benefits to regulating bond platforms as securities dealers under SEBI regulations, such as:
- the applicability of standard KYC requirements when onboarding clients to bond platforms;
- net worth eligibility standards and filing requirements similar to those prescribed for securities dealers will ensure the stable financial health of bond platforms;
- the applicability of the code of conduct imposed on securities brokers will ensure fairness in their dealings with clients;
- regulatory inspection and oversight would provide appropriate checks and balances to create safe and transparent investment platforms for investors.
In addition, routing trades through the exchanges trading platform will ensure: (a) a robust risk management framework and oversight mechanism; (b) fair and transparent pricing; (c) guaranteed settlement; (d) possibility of exit for investors; and (e) increase market making.
This framework will be instrumental in the development of the secondary debt market, where market participants would adopt investor-centric business models and be subject to much-needed regulatory oversight. That said, the exclusion of unlisted debt securities from the scope of online bond trading platforms could potentially impact the secondary market for bond sales.
The contents of this document do not necessarily reflect the views/positions of Khaitan & Co but remain solely those of the authors. For any other questions or follow-up, please contact Khaitan & Co at [email protected].