The Securities and Exchange Board of India (SEBI) has sought feedback from clearing corporations, depositories, professional clearing members (PCMs) and information technology (IT) vendors on their preparedness to move to the new ‘pledge and re-pledge’ system from September 1, 2020.
SEBI had come out with the norms in February 2020, and it was scheduled to come into effect from June 1. The deadline was extended to August 1 and then to September 1.
On Monday, it made clear that it will stick to the September 1 deadline after a meeting with the Market Infrastructure Institutions (MIIs). MIIs refer to stock exchanges, depositories and clearing corporations
The Central Depository Services Ltd (CDSL) and National Securities Depository Ltd (NSDL) have said that they are fully geared to move into the new system. Many depository participants have already started pledging at depositories. CDSL alone has more than 450 depository participants.
PCMs have sought an extension of the deadline by one month. Axis Bank, Edelweiss Securities, ICICI Bank, Kotak Mahindra Bank and Globe Securities are among the large PCMs. In the meeting, apart from Kotak Mahindra Bank, all others said that 25 percent shares pledged were already executed last evening.
Depositories saying all PCMs, except one, have come on board.
Brokers complain One-Time Passwords (OTPs) are delaying pledging and re-pledging. Clearing corporations say the pledged amount is at the 50 percent level, compared to a month ago.What is margin pledging?
Pledging refers to using stocks as securities to avail a loan. Traders in the F&O segment use pledging to receive margin funding from the broker to invest in deals that involve sizeable initial investment.
Margin allows investors to leverage, invest in deals without assuming the full risk at the first stage. When you pledge, your risk exposure gets limited to the securities you have used as collateral. In case you can’t repay the margin, the broker liquidates the stocks in the margin account to recover the debt.
The broker is the custodian for securities or funds in the margin account. However, on certain occasions, violation of margin collateral was reported to SEBI. Some brokers were found guilty of misusing client funds and collaterals. The new margin pledge policy will help to address this problem.
What is the proposed system?
Under the existing system, investors don’t have to pay upfront margin in the cash segment as cash margins are looked after by the broker. Now, SEBI wants to implement it in the cash segment, too.
Under the proposed system, brokers will have to collect margin from investors upfront for both buying and selling of securities. Failing to do so will attract a penalty. The securities in the demat account will not automatically become available to receive margins. The broker also has to report to the exchange the margins collected from investors.
Under the new system, depositories should provide margin pledge for pledging clients' securities as margin to the trading member or clearing member.
To provide collateral in the form of securities as margin, a client will be required to pledge securities with the trading member. He/she will re-pledge the same to the clearing member, who, in turn, will re-pledge the same with the clearing corporation.
What are the hurdles?
A smooth rollout requires stock exchanges to seed client codes in demat accounts, depositories to enable the pledge and re-pledge system, and clearing corporations to provide margin limits to members, who, in turn, could give them to clients.
After this mechanism is put into place, brokers were expected to roll out the system.
A Mumbai-based broker told Moneycontrol: “What followed was a series of monumental failures. The exchanges were to give the data of each client to the depositories. The mapping was full of errors, with missing codes and incorrect clearing member IDs. Till last week, the data was being reconciled by the depositories and lakhs of mappings have not been done. Lack of mapping leads to pledges not being permitted.”
SEBI had set an initial deadline of June 1, 2020. But the depositories hadn’t even started opening brokers’ accounts.
Another broker, an office-bearer of the Association of National Exchange Members of India (ANMI), told Moneycontrol: “A system of such a monumental change requires significant coding and testing at the brokers’ end.”
“The matter is further compounded by the fact that SEBI penalty on collection in cash market kicks in from September 1. Given that the number of customers in the cash market is many, multiples of them will be there in the derivatives market. The demand for margin pledges is expected to shoot up exponentially,” a source said.
Clearing corporations also slip
Clearing corporations issued guidelines for margin pledge in July. They took time in opening accounts through which brokers could re-pledge client shares.
A broker told Moneycontrol: “The margin pledge account opening by brokers was permitted by the depositories much later. The standard User Acceptance Testing (UAT) environment was not made available to brokers till the end of July 2020, and, after that, it was provided only to a select few.
“The UAT provided was half-baked and not working. Thus, the second deadline of August 1 set by SEBI was breached and a parallel system was proposed".
Market sources said that “while the Central Depository Services Ltd (CDSL) system was put in place on time, National Securities Depository Ltd (NSDL) struggled, though NSDL claimed that it was ready from Day One.”
NSDL started working properly only when SEBI started to convene regular meetings from August 2020 when the MIIs started to get their act together.
A source told Moneycontrol: “NSDL was instructed by SEBI to have daily meetings with back-office vendors. In the past two weeks, crores of Unique Client Codes (UCCs) have been seeded/ corrected in the depository environment. The NSDL systems have finally started working as expected and glitches are being corrected.”
An ANMI member pointed at another issue: “Working with the MII system is only the first step. Brokers are livid that they are expected to go live on untested systems with almost no time for execution".
The Central Depository Services Ltd (CDSL) was the first depository which was ready with the system and done maximum number of pledge and re-pledging so far.
During May-end, CDSL issued the file formats and NSDL issued them in June. This was first step in the brokers designing their system.
An office-bearer of one of the brokers’ associations summed it up: “We were so excited with the new system and were looking forward to it. A beautiful process has been turned into a nightmare due to poor management.”