Insider trading remains one of the most closely monitored violations in India’s capital markets. Historically, the Securities and Exchange Board of India (“SEBI”) has relied on enforcement actions such as monetary penalties, trading bans, and prosecution to deter insider trading. However, there has been a notable shift in the recent years towards preventive regulation through administrative warnings, increased use of technology-driven surveillance and stricter disclosure norms, thus transitioning from reactive measures to preventive regulation.
This blog explores SEBI’s recent enforcement strategies, common compliance risks faced by listed companies, and best practices for strengthening internal controls to prevent insider trading violations.
SEBI’s Evolving Enforcement Strategies: From Penalisation to Prevention
Issuance of Administrative Warning Letters
SEBI has been increasingly issuing warning letters to listed companies where insider transactions raise compliance concerns, allowing for corrective action before escalating to financial or other penalties. Such warning letters serve as regulatory caution notices, urging companies to take corrective action.
This strategy signals SEBI’s focus on compliance enhancement rather than undertaking punitive measures in the first instance. However, repeated non-compliance after receiving a warning letter can result in more severe regulatory action by SEBI, including imposition of monetary penalties and trading bans.
Leveraging technology for maintaining market integrity
SEBI has strengthened its System-Driven Disclosures (“SDD”) framework under Regulation 7(2) of the SEBI (Prohibition of Insider Trading) Regulations, 2015 (“PIT Regulations”), which enables real-time tracking of trading activities by designated persons (“DPs”), immediate relatives, and other insiders. The system automatically flags suspicious trades that may involve trading using Unpublished Price Sensitive Information (“UPSI”), reducing reliance on self-disclosures by listed companies.
Additionally, SEBI’s Integrated Market Surveillance System (“IMSS”) under Regulation 11 of the SEBI (Stock Brokers and Sub-Brokers) Regulations, 1992, uses AI-driven algorithms to identify unusual trading patterns linked to potential insider trading violations.
Expansion of Insider Trading Investigations
SEBI has been increasingly focusing on initiating comprehensive investigations into trades conducted by senior executives, compliance officers, and board members of listed companies. Recent regulatory actions suggest that SEBI has been scrutinising transactions executed during critical corporate events, such as mergers, earnings announcements, and acquisitions. A recent investigation into currency derivatives trading by senior executives of a listed entity highlight SEBI’s commitment to uncovering hidden insider trading patterns beyond traditional equity trades.
Common Compliance Risks vis-à-vis SEBI’s regulatory measures
Heightened Scrutiny on DPs and Senior Executives
SEBI has amplified its oversight of trades by DPs, senior executives, and compliance officers, especially for violations such as contra trades or trades conducted during restricted periods. According to Item 6 of Schedule B read with Regulation 9(1) of the PIT Regulations, DPs must obtain pre-clearance for high-value trades. SEBI has penalised senior executives for breaches, including disgorgement of profits when trades were executed within the restricted period.
Increased Action Against Trades by Immediate Relatives and Connected Entities
Regulatory scrutiny extends to transactions by relatives and connected entities linked to insiders. SEBI has emphasised compliance with Regulation 9(1) of the PIT Regulations, which mandates trading restrictions during blackout periods when DPs or their immediate relatives/connected entities are likely to possess UPSI. Cases involving family members trading ahead of earnings announcements have resulted in monetary penalties and trading restrictions.
Proxy Trading Through Third Parties
SEBI employs advanced AI tools to detect indirect insider trading patterns through intermediaries, shell companies, or connected accounts. In one of the cases, a compliance officer had leaked UPSI to a friend, who then executed trades, which resulted in trading bans and financial penalties.
Inadequate Pre-Clearance Mechanisms
The pre-clearance process, outlined under Item 6 of Schedule B and Regulation 9(1) of the PIT Regulations, requires listed companies to establish robust systems for approving trades that exceed prescribed thresholds. Weak mechanisms expose companies to regulatory scrutiny and reputational risks.
Non-Compliance with Trading Window Norms
Item 4 of Schedule B, read with Regulation 9(1) of the PIT Regulations, mandates closing trading windows during periods when insiders are most likely to possess UPSI. SEBI has issued warnings and penalties for trades executed in violation of these blackout periods.
Delayed Reporting of Insider Trades
Regulation 7(2) of the PIT Regulations mandates timely disclosure. Instances of delayed or non-disclosure of insider trading transactions have triggered regulatory action against both companies and individuals.
Handling of UPSI
SEBI has taken strict action against cases involving unauthorised sharing of UPSI, including on private messaging platforms and social media. Multiple research analysts and insiders have faced penalties for discussing sensitive financial data before the disclosure of quarterly results.
Unusual Trading Patterns Before Announcements
SEBI investigates unusual trading ahead of crucial corporate disclosures, such as M&A and earnings announcements. Using its IMSS, SEBI has identified and acted on coordinated trading patterns involving linked accounts.
Consent Orders and Settlements
SEBI offers violators a pathway to resolve regulatory breaches through consent orders, allowing individuals or entities to pay penalties without admitting guilt. This approach provides a less severe alternative to traditional enforcement actions and ensures regulatory compliance while facilitating efficient resolution of disputes under SEBI’s insider trading laws.
Best Practices for Strengthening Insider Trading Compliance
Regularly Update Insider Trading Policies
To align with SEBI’s evolving enforcement landscape, companies must regularly update their insider trading policies to reflect SEBI’s latest guidelines, amendments, and enforcement trends. These policies should clearly define trading restrictions, pre-clearance procedures, and the disclosure obligations of DPs. Regular review and updation of insider trading policies would enable listed companies to address emerging regulatory requirements, reduce compliance risks, and maintain a strong commitment to best practices.
Implement Advanced Monitoring and Surveillance Systems
An essential aspect of strengthening compliance is for listed companies to implement advanced monitoring and surveillance systems to detect suspicious trading patterns, such as trades made by insiders or their immediate relatives during restricted periods. Leveraging AI-powered compliance platforms to track trading behaviour and flag potential violations proactively can help identify irregularities early, thus improving the overall efficiency of internal controls.
Enhance Employee Training and Awareness
Listed companies should conduct mandatory training sessions and workshops for all employees, particularly DPs, to create awareness about insider trading compliances, best practices, potential risks associated with trading on UPSI, and consequences of non-compliance. This would significantly reduce the likelihood of inadvertent violations.
Strengthen UPSI Access Controls
To prevent leaks of sensitive information, it is crucial to strengthen UPSI access controls within the organisation. Companies must ensure that confidential financial and corporate information is stored and shared using secure digital platforms. Access should be limited on a need-to-know basis. Maintaining strict Chinese walls between departments that handle sensitive information is crucial.
Ensure Prompt and Transparent Disclosures
Timely and transparent disclosures are crucial to mitigating insider trading risks. Listed companies should establish an internal compliance review mechanism to ensure that insider trading transactions are disclosed to stock exchanges within the prescribed time limits.
Conclusion
SEBI’s recent enforcement actions mark a clear shift towards preventive measures and an enhanced focus on compliance. To adhere to SEBI’s evolving expectations, listed companies must adopt proactive compliance strategies.
Regular updation of insider trading policies, implementation of advanced internal surveillance systems, enhanced employee training and awareness, structured access to sensitive information, and timely disclosures can significantly reduce the risk of insider trading violations. Such practices will not only help align listed companies with SEBI’s regulatory framework but also promote a culture of integrity, transparency, and accountability.