Introduction
Pursuant to the recommendations of the Ministry of Finance, the Securities and Exchange Board of India (“SEBI”) constituted several groups to recommend simplification of various regulations specified by it and invited suggestions from market participants[1]. Post deliberations on the suggestions received, the Working Group for review of compliance requirements for Investment Advisers (“IAs”) and Research Analysts (“RAs”) submitted its recommendations to SEBI’s Intermediaries Advisory Committee (“IAC”). SEBI has now released a consultation paper dated August 6, 2024, on ‘Review of Regulatory Framework for Investment Advisers and Research Analysts’ (“Consultation Paper”)[2] incorporating the recommendations proposed by IAC.
Need to ‘Revamp’
To recap, IAs and RAs are regulated under the SEBI (Investment Advisers) Regulations, 2013 (“IA Regulations”) and SEBI (Research Analysts) Regulations, 2014 (“RA Regulations”), respectively.
Given the extent of retail participation in the securities market and associated risks, SEBI has been implementing various measures to safeguard investors’ interests. One of the ways SEBI does so is through its enforcement mechanism, in terms of which, it routinely acts against unregistered entities that mislead investors by holding themselves out inter alia as registered IAs and RAs.
As part of its review process, SEBI has noted that the existing number of registered RAs and IAs is not commensurate to the large investor base demanding such services. Accordingly, having regard to the evolving nature of activities that IAs and RAs undertake, the regulatory landscape applicable to IAs and RAs is sought to be revisited.
Key Takeaways
With the twin objective of simplifying and reducing cost of compliance, and enhancing investor confidence, some of the key proposals envisaged in the Consultation Paper are as under:
Revisiting the scope of permitted activities:
- ‘Model Portfolios’- The Dust Settles:
- While it has been evaluated by SEBI on certain occasions[3], the current framework does not specifically permit or contemplate recommendations on basket of securities i.e., ‘Model Portfolios’.
- In fact, SEBI’s clarification that ‘recommendations for a basket comprising of more than one security’ to the clients who avail RA services will fall within the ambit of ‘research report’ (as defined in the RA Regulations), issued in its informal guidance[4] is now sought to be codified.
- Briefly, ‘Model Portfolio’ is sought to be recognized as a permissible research service and will be subject to compliance with the detailed guidelines set out in the Consultation Paper. As such, IAs and brokers offering this product may have to revisit their structures and strategies to avoid regulatory scrutiny, going forward.
- Scope of ‘Investment Advice’ tightened:
- The terms such as ‘investment product’ and ‘financial planning’ are worded broadly under the current framework, and SEBI has observed that IAs have been advising on real estate and gold as asset class and are also undertaking tax planning, estate planning etc. for their clients.
- SEBI has raised concerns regarding IAs providing specific advice on asset classes which are outside the purview of financial sector regulators and other permitted asset classes. Per the changes proposed,
- non-individual IAs proposing to provide advice on asset class other than as specifically permitted will have to evaluate advising on those aspects through a separate entity (with a distinct legal and brand name);
- individual IAs will not be permitted to advice on an asset class that is not specifically permitted; and
- any product / service other than (1) securities under SEBI’s purview; or (2) products under the purview of other financial sector regulators will not fall under the purview of IA Regulations. Accordingly, the scope of existing IA services will have to be re-visited if such changes are implemented.
- Much awaited clarity on ‘foreign securities’:
- While in a previous consultation paper[5], SEBI’s proposal was to re-visit definition of investment products to mean “all financial instruments that are regulated by any financial sector regulator in India.”, however the changes were not incorporated in the regulatory framework.
- The present proposal is expected to clear the air on this and rule out any ambiguity on the scope of IA Regulations. A matrix set out in the Consultation Paper carefully delineates scope of IA and RA in respect of global securities vis-à-vis Indian securities. Specifically, it is proposed that persons providing advisory services or research services to resident Indians, persons of Indian origin/ non-residential India exclusively on offshore securities will not be required to seek registration as IA/ RA.
- While re-emphasizing regulatory stipulation in the IA Regulations that advice to non-residents and person of Indian origin on Indian securities will not be exempt from registration requirements, it is proposed to provide a similar stipulation for RAs as well.
- ‘Trading Call Provider’- whether an IA or a RA?: SEBI making a distinction basis risk profiling and product suitability has sought to clarify whether trading call related activity will fall within IA or RA activities. Briefly, if the trading call is provided after the risk profiling of the client and product suitability assessment, such trading calls are on “one to one” basis it is proposed to be regulated under IA Regulations. As a juxtapose to this, a trading call which is ‘one to many’ and therefore without any risk profiling or product suitability assessment, is expected to be regulated under RA Regulations.
- Usage of artificial intelligence (“AI”) tools: Separately, SEBI acknowledged that given the technological advancements, IAs and RAs may avail of AI tools. That said, their regulatory obligation will be to ensure appropriate disclosures of such usage to its clients, in addition to ensuring data confidentiality.
New Concept of Part-Time Registration:
- SEBI’s intention to be flexible to meet the demands of business activities is clear as it is proposed to pave the way for new construct of part-time registration by allowing eligible applicants whose primary activities are not related to securities market to obtain a part-time registration as IA/ RA subject to certain additional compliances.
- The applicant must be engaged in permitted financial sector activity (e.g. licensed insurance agent) or be under purview of a statutory self-regulatory organization (viz. a chartered accountant).
Client level Segregation:
- With an objective to avoid conflict of interest, like IA, SEBI proposes to extend the restriction of undertaking distribution activities to RAs. RA entities, especially those with multiple registrations at entity or group level, will have to evaluate their existing arrangements. A clear segregation of distribution and research services at client level (as well as group level in case of RA entities) will be expected. A detailed set of compliances are also set out in the Consultation Paper in this regard.
Flexible fee model for IAs:
- While the fees to be charged by IAs have been regulated for several years now, the flexibility to switch between modes of charging fees (viz. fixed fee vs. fee based on assets under advice) is currently being evaluated by SEBI. If the proposed changes are implemented, IAs will be able to change the fee model at any time during the year.
RA fee arrangements under the scanner:
- While it is proposed to provide flexibility to IAs, fees, if any, that an RA may charge to its clients is now sought to be capped for individual clients only. Similar to the IA framework, the fee cap will not be applicable for clients of the RA who are non-individuals/ accredited investors. The objective here is to create a level playing field.
Local presence for offshore RAs now mandatory?:
- A local presence for an offshore RA proposing to undertake research activities on Indian securities was initially envisaged by SEBI prior to the notification of the RA Regulations[6]. Having regard to the feedback received, the construct of arrangement between the offshore RA with licensed RA in India was decided upon and SEBI was satisfied with regulatory supervision of the locally present RA for the views expressed in the RA reports. The multi-nationals which have historically issued combined research reports including inputs of Indian RA entity in the group, will have to closely consider their options and re-engage with SEBI on this proposal.
Amendment to Outsourcing Guidelines[7] expected:
- Compliance function has been historically understood to be a core function and hence had to be carried out at the licensed entity level. However, SEBI is considering relaxing this requirement by enabling IAs and RAs to outsource it to independent professionals with the objective to reducing compliance cost. It will be interesting to see if SEBI will be amenable to extending this relaxation to other intermediaries in the future.
Other proposals
Towards its objective of simplifying and reducing cost of compliance, various other relaxations that have been proposed pertain to net worth requirements, qualification and experience, and NISM certification to enable a larger audience to obtain IA/ RA registrations. Separately, the limit for corporatization of individual IAs is proposed to be revised to 300 or more clients/ collection of fees of INR 3 crores or more during a financial year. Further, allowing partnership firms to obtain RA license will also enable more entities to obtain registration. It is also proposed to keep proxy advisers outside the ambit of RAASB[8] framework.
In the context of RAs, it is suggested that RA Regulations will specifically state RA’s KYC obligations given that it is an intermediary that is required to ensure compliance with requirements of Indian anti-money laundering laws. SEBI has also emphasized on the requirement of a comprehensive compliance audit of IA and RA activities which amongst other requirements will be expected to be published on their respective websites.
Concluding Remarks and Way Forward
While there are proposals that will require practical nuances to be ironed out, SEBI’s effort has clearly been to balance its objective of ease of doing business and relaxation of compliance conditions as well as to bring RAs at level playing field. It is not only a crucial step for enhancing investor confidence but a clear message to the intermediaries that SEBI is receptive to the requirements of the business that it regulates.
Interested stakeholders may provide their comments on the proposed changes by August 26, 2024[9].
For further information, please contact:
Gazal Rawal, Partner, Cyril Amarchand Mangaldas
gazal.rawal@cyrilshroff.com
[1] See SEBI’s Press Release dated October 04, 2023, which can be accessed here: Link
[2] See the Consultation Paper dated August 06, 2024, which can be accessed here: Link
[3] For instance, see settlement order dated May 6, 2022, in respect of Mr. Amit Mohan Jeswani (Proprietor of Stallion Asset).
[4] SEBI informal guidance dated April 05, 2023, to LGT Wealth India Private Limited.
[5] See consultation paper dated October 7, 2016, which can be accessed here: Link
[6] See consultation paper dated November 29, 2013, which can be accessed here: Link
[7] See SEBI Guidelines on outsourcing activities by intermediaries dated December 15, 2011, which can be accessed here: Link
[8] Research Analyst and Supervisory Body.
[9] See link for providing comments, which can be accessed here: Link
