The Securities and Exchange Board of India’s recent consultation paper on ownership and economic structure of clearing corporations (CCs) is another step towards tightening the rules governing market infrastructure institutions. The aim seems to be to ensure that these institutions function as independent and self-sufficient utilities, without undue influence of the exchanges which own them, and are free of any conflict of interest, while settling trades executed on other exchanges. SEBI is seeking to achieve this objective by diversifying the ownership of clearing corporations.
The paper is right in stating that clearing corporations play a critical role as front-line regulators and, therefore, need to be truly independent in their functioning. The two equity CCs in India, NSE Clearing Corporation and Indian Clearing Corporation, are currently owned 100 per cent by the NSE and the BSE, respectively. Though settlement of trades on stock exchanges is interoperable now, there is a concentration of the settlement in one CC. The exchange that owns the CC settling the bulk of the trade has an unfair advantage in terms of trade data access, which can be misused. There are strong linkages between the exchange and its subsidiary CC which can impede its functioning.
That said, the proposal to diversify the ownership may not be the solution to address this issue. The paper is proposing two ways to divest the holding of the exchanges in CCs. One, where the exchange divests its entire holding in the CC to its shareholders on a pro-rata basis. Two, the exchange divests 49 per cent of the shares in the CC on a pro-rata basis to its shareholders. It is allowed to sell the remaining shares over a five-year period to other exchanges, while continuing to hold 15 per cent or lower stake. The first proposal could lead to innumerable complications because BSE, the owner of India Clearing Corporation, has around 5.4 lakh shareholders, with bulk of them being individual investors. While the clearing corporations are prohibited from listing, allotting the shares of India Clearing Corporation to lakhs of small investors will be akin to indirect listing. It will also go against the objective of ensuring that only strategic institutional investors hold stakes in Market Infrastructure Institutions. The second option is also difficult to implement as the parent exchange may find it difficult to sell 36 per cent stake in its subsidiary to other exchanges.
SEBI should, instead, review the information sharing mechanisms between the parent exchanges and the CCs and ask them to establish Chinese walls. Breach of these should be liable to stringent penalties. The boards of the CCs should not include representatives of the parent exchanges to prevent conflict of interest. Independence of the CCs can be achieved if the clearing members are told to pay the settlement fee directly to the CCs, instead of allowing the exchanges the collect it. This will create an even playing ground among clearing corporations