New Insider Trading rules create complications for pledged shares
When the new insider trading rules of SEBI took effect on April 01st, it was seen as a normal move to bring about more transparency in insider trades and ensure better corporate governance. But there was a catch. Under the modified rules, pledging shares were also covered under the purview of insider trading rules. Why does it matter so much?
Insider rules modified
Let us first look at how the basic insider rules have been modified as of April 01st this year. Under the previous regime, till March 31st, all insiders including directors, promoters, advisors, auditors, etc could not buy or sell the stock 2 days prior to the results announcement and up to 2 days after the results. That effectively meant a freeze of around 4 trading days and the insiders could trade in the stock before or after these said days. The new rules effective from April 01st have made the freeze period start from the last day of the relevant quarter itself. For example, for the March quarter, the freeze on insiders trading will be effective from March 31st and if the results were declared on April 20th, then the freeze will extend all the way to 22nd of April. During this period of 22 days, insiders will not be able to either sell or buy the shares. Normally companies declare quarterly results between 10 and 45 days from the quarter ending. From the end of the quarter until 2 days after the results, the trading for insiders will be frozen.
All about pledging of shares
While the longer freeze period is a challenge enough, the new rules also include pledging of shares under the definition of insider activity. That means; promoters and insiders cannot even pledge their shares or even revoke their pledges during this freeze period. There are still some questions that are not answered. Can the pledgee sell the shares during the freeze period and whether it will be treated as a violation of insider trading rules? That is not too clear. With more than Rs.3 trillion of shares pledged, predominantly, by small and mid-cap companies, this could pose a real challenge for promoters.
What could be the outcome?
This move apparently looks like an effort to prevent promoters compromising the interests of the minority shareholders by pledging a major chunk to bankers. This has created tremendous volatility in the past and small shareholders have lost out in the bargain. There is also another angle to this. In the last few years, many mutual funds have invested in private companies floated by promoters via NCDs secured by promoter holdings. This was not an investment but a form of quasi promoter funding. Clearly, SEBI is not too happy with this methodology. By bringing pledged shares under insider trading rules, it could change the rules of the pledging game. Clarity on this topic can be expected soon!
