Insider trading is the process where an individual who is part of a company trading that company’s stock. However, insider trading can be legal or illegal depending on the nature of the information that the insider possesses, the definition of insider and market regulator Securities and Exchange Board of India (SEBI).

Insider trading could influence the market price of a certain stock if an individual trades on the basis of information they have access to, but that information is not made available to the public. This means the “insider” gets an unfair advantage.

Insider trading is frowned upon because it is seen as unfair for investors who have no access to certain information that they could potentially benefit from. Also, it is seen as an unethical practice.

Insider trading may also lower the average investor’s confidence and level of trust. This is why SEBI has stringent stocks trading rules to ensure that the average investor is not disadvantaged.

What do insider trading rules mandate, as per SEBI?

SEBI has come out with a fresh disclosure format to be made as part of its insider trading rules, in February 2021. The disclosure formats have been revised on the back of feedback SEBI has received from stock exchanges and participants in the markets, according to an official circular. SEBI had specified certain formats aimed for disclosure under Regulation 7 of the Prohibition of Insider Trading (PIT) Regulations. Because of amendments to the PIT regulations, disclosure formats from Forms B to D have been revised.

According to SEBI’s new format, details of the securities that are held on becoming a member of a promoter group of a listed company and the immediate relatives of the member need to be disclosed apart from any changes in the shareholding.

In September 2020, SEBI had decided to enforce “system-driven” discourses for a promoter group’s members directors and designated persons of a listed firm. The system-driven disclosures apply to trading in shares and derivative instruments such as F&O, of the listed firm by said entities. This system-driven approach was introduced in 2015 but has now been extended to those pertaining to promoter groups.

Prohibition of Insider Trading Regulations and what do they entail?

SEBI’s PIT regulations first came into effect in 1992. It was in 2015 that SEBI comprehensively addressed the issue of insider trading by bringing in the Prohibition of Insider Trading Regulations 2015. Subsequent amendments have been made to stocks trading regulations with reference to insider trading, including in 2019 and 2020.

In 2019, SEBI had introduced amendments that mandated all listed companies and connected individuals to maintain a structured digital database with the name of the person with whom unpublished price sensitive information (UPSI) is shared and the nature of the UPSI. Also, SEBI noted that all listed companies and intermediaries need to sign a non-disclosure or confidentiality agreement or serve a notice on the person with whom they share UPSI. The other party needs to be informed and notified about the compliance with PIT Regulations while possessing UPSI that has been shared with them.

Amendments in 2020

In July 2020, SEBI again notified the new Prohibition of Insider Trading (Amendment) Regulations, 2020 to bring in new changes to the trading rules.

The Amendment includes some important changes, one of them being details related to persons sharing UPSI. According to the amendment, there will be an enhancement of the digital database towards storing and seeking extra information of UPSI. Before the amendment was brought in, a listed company’s board of directors only needed to maintain a simple digital database that had names and PAN of the person sharing or holding UPSIs. This led to questions on what would happen in situations where the UPSI was an intermediary/fiduciary because it is common for listed companies to interact with fiduciaries and intermediaries.

Additional information in the digital database

It has earlier been made clear that in such a situation, the listed firm would need to record and maintain the recipient entity’s details while the fiduciary or intermediary would need to maintain records of individuals who have been in contact with UPSI. However, the amendment to stocks trading regulations ensures that all such additional information is stored in the digital database. This includes the kind/nature of UPSI, names of people who have shared UPSI with other entities or individuals.

Further, SEBI also clarifies that the digital database has to be maintained for eight years after a relevant transaction has been completed, barring cases of pending enforcement or investigative proceedings. The market regulator has also imposed restrictions on outsourcing database maintenance to service providers, considering that details of individuals providing UPSI and recipients of such information apart from the company’s own UPSI need to be secured.

Violation disclosure

Another amendment to insider trading rules pertains to making PIT violation disclosures. The amended regulations intend to automate disclosures of shareholding and any change in the reporting authority. Although a code of conduct is in place, SEBI’s amendment brings a shift in the reporting framework. With the new amendment, listed companies would need to submit violations to the stock exchanges and not SEBI.

The third important amendment to insider trading rules pertains to trading window restrictions. According to the 2020 amendment, SEBI allows certain categories of transactions to be carried out during the close of the trading window. Transactions related to the offer for sale (OFS) and rights entitlement (RE) belong to the exempt category. As per SEBI norms, listed companies have to use a trading window so as to track transactions by designated individuals so as to curb insider trading.

Conclusion

Trading rules are regulated and strictly monitored so that the system is fair and no details of companies that are unpublished and price-sensitive are circulated among insiders. SEBI has from time to time brought in stringent measures in the form of amendments to Prohibition of Insider Trading Regulations so that investor trust in the system is strengthened. The latest move to roll out the new disclosure format is one more step in that direction.