Outlook Money
The Securities and Exchange Board of India (Sebi) has prohibited stock brokers and clearing members (CMs) from using clients’ funds for bank guarantees, effective May 1, 2023.
Banks are allowed to issue bank guarantees to stock exchanges towards security deposit and margin requirements on behalf of stock brokers. These guarantees were submitted at clearing corporations which determine the brokers’ trading limits.
“Currently, stock brokers, clearing members pledge client’s funds with banks which in turn issue bank guarantees (BGs) to clearing corporations for higher amounts. This implicit leverage exposes the market and especially the client's funds to risks,” Sebi said in its ruling.
Some brokers reportedly get bank guarantees two times the fixed deposit amount placed by them in banks using clients’ funds. This disparity between the broker’s true net worth and the bank guarantees utilised for trading might pose a significant risk to the market if a substantial number of brokers default, necessitating the usage of guarantees. The Reserve Bank of India (RBI) and Sebi have been keeping a check on this collateral system posing a major systemic risk.
Brokers should now be required to obtain greater Clearing Corporation (CC) limitations by deploying their own working capital, hence increasing their working capital demand.
Besides prohibiting future use of clients’ funds for bank guarantees, Sebi has asked to wind down the existing bank guarantees created out of clients’ funds by September 30, 2023.
“Existing BGs created out of clients’ funds shall be wound down by September 30, 2023,” Sebi said. Further, it requires brokers and clearing members to submit a certificate endorsed by their statutory auditor to stock exchanges/clearing organisations by October, confirming that no BGs exist with them created out of the client’s funds.
“The provisions of this framework shall not be applicable for proprietary funds of SBs/CMs (stock brokers and clearing members) in any segment and SB’s proprietary funds deposited with CM in the capacity of a client,” Sebi clarified.
Stock exchanges and clearing corporations should send the following data to Sebi every two weeks from June 1, 2023: Names of stock brokers and clearing members and their total BG amount used as collateral, BG amount as collateral from client funds, and BG amount as collateral from proprietary funds.
Also, Sebi asked stock exchanges and clearing corporations to assess the present status of BGs issued by SBs/CMs using clients' cash and monitor the wind down to ensure compliance. Stock exchanges and clearing corporations can set up periodic reporting methods for SBs/CMs for this purpose.
