INVESTMENT LAW

Initiation of legal proceedings to affect the

welfare of investors in mutual funds
Abhay khandelwal
PRN:11010224151
Division B Class 2011-16

Under the guidance of

MR.ARJUN CHOUDHARY
Symbiosis Law School, NOIDA
Symbiosis International University, PUNE
March, 2015

INVESTMENT LAW
DECLARATION

I hereby declare that the project entitled Initiation of Legal Proceedings

to affect the Welfare of Investors in MUTUAL FUNDs submitted for
the Symbiosis Law School, NOIDA for Investment Law is my original work
and the project has not formed the basis for the award of any degree,
fellowship or any other similar titles.

(ABHAY KHANDELWAL)
Place: NOIDA
Date: 4th October 2015

INVESTMENT LAW
CERTIFICATE

The project entitled Initiation of Legal Proceedings to affect the

Welfare of Investors in MUTUAL FUNDs submitted to the Symbiosis Law
School, NOIDA for Investment Law as a part of Internal assessment is based
on my original work carried out under the guidance of Prof. Arjun Chaudhuri
from July 2015 to October 2015. The research work has not been submitted
elsewhere for award of any degree.
The material borrowed from other sources and incorporated in the thesis has
been duly acknowledged.
I understand that I myself could be held responsible and accountable for
plagiarism, if any, detected later on.

(ABHAY KHANDELWAL)
Date: 4th October 2015

INVESTMENT LAW
ACKNOWLEDGEMENTS

I would like to thank my Investment Law faculty, Prof. Arjun Chaudhuri for
guiding me at every step in the completion of the project and also increasing
my knowledge. Without his help this project would have been incomplete
and various aspects not understood or covered.

INVESTMENT LAW
INDEX
A.
B.
C.
D.

TITLE PAGE
CERTIFICATE
ACKNOWLEDGMENT
INTRODUCTION
HISTORY OF MUTUAL FUND INDUSTRY IN INDIA
E. ORGANISATION OF MUTUAL FUNDS
F. OBJECTIVE
G. RESEARCH METHODOLOGY
H. LEGISLATIONS
I. STOCK EXHANGES
J. RULES AND REGULATIONS
K. INVESTOR PROTECTION FUND
L. INVESTOR AWARENESS PROGRAMME
M. INVESTOR EDUCATION AND PROTECTION FUND
N. DISCLOSURES AND INVESTOR PROTECTION
O. CASE STUDIES
P. CONCLUSION
Q. REFERENCE

Initiation of legal proceedings to effect the welfare of investors in

mutual funds

INTRODUCTION

INVESTMENT LAW
A Mutual Fund is a form of collective investment that pools money from
many investors and invests the money in stocks, bonds, short-term money
market instruments, and/or other securities. In a Mutual Fund, the fund
manager trades the fund's underlying securities, realizing capital gains or
loss, and collects the dividend or interest income.
The investment proceeds are then passed along to the individual investors.
The value of a share of the Mutual Fund, known as the net asset value
(NAV), is calculated daily based on the total value of the fund divided by the
number of shares purchased by investors.
Mutual funds enable hundreds, and in some cases even millions, of investors
to pool their money together in order to make investments. Investors in
Mutual Funds entrust their investment decisions to a professional money
manager and his/her staff. Most Mutual Funds have clearly defined
investment practices and objectives for their investments. With nearly
10,000 different funds now available, there is most likely a fund that will
cater to just about any investment objective you might have. Mutual funds
can be broken down into two basic categories: equity and bond funds. Equity
funds invest primarily in common stocks, while bond funds invest mainly in
various debt instruments. Within each of these sectors, investors have a
myriad of choices to consider, including: international or domestic, active or
indexed, and value or growth.
WHY ARE MUTUAL FUNDS SO POPULAR?
Mutual funds provide an easy way for small investors to make long-term,
diversified, professionally managed investments at a reasonable cost. If an
investor only has a small amount of money with which to invest, then he/she
will most likely not be able to afford a professional money manager, a
diversified basket of stocks, or have access to low trading fees. With a
Mutual Fund, however, a large group of investors can pool their resources
6

INVESTMENT LAW
together and make these benefits available to the entire group. There are no
perks for the largest investor and no penalties to the smallest--all Mutual
Fund holders pay the same fees and receive the same benefits.
Mutual funds are also popular because they provide an excellent way for
anyone to direct a portion of their income towards a particular investment
objective. Whether you're looking for a broad-based fund or a narrow
industry-focused niche fund, you're almost certain to find a fund that meets
your needs.
If we look into the history of Indian Mutual Fund the UTI mutual fund is the
first Mutual Fund comes in 1963. Unit Trust of India (UTI) was established in
1963 by an Act of Parliament control by the reserve bank of India. There was
governing by the Reserve Bank of India and functioned under the Regulatory
and administrative control of the Reserve Bank of India. In 1978 UTI was delinked from the RBI and the Industrial Development Bank of India (IDBI)
took over the regulatory and administrative control in place of RBI. Body was
reserve bank of India .but in 1993 constituted of securities and exchange
board of India( SEBI) The SEBI (Mutual Fund) Regulations were substituted
by a more comprehensive and revised Mutual Fund Regulations in 1996. The
industry now functions under the SEBI (Mutual Fund) Regulations 1996. 1
HISTORY OF MUTUAL FUND INDUSTRY IN INDIA
The history of mutual funds in India can be broadly divided into four distinct
phases

FIRST PHASE 1964-87

An Act of Parliament established Unit Trust of India (UTI) on 1963. It was set
up by the Reserve Bank of India and functioned under the Regulatory and
1 www.amfiindia.com
7

INVESTMENT LAW
administrative control of the Reserve Bank of India. In 1978 UTI was delinked from the RBI and the Industrial Development Bank of India (IDBI)
took over the regulatory and administrative control in place of RBI. The first
scheme launched by UTI was Unit Scheme 1964. At the end of 1988 UTI had
Rs.6,700 crores of assets under management.
SECOND PHASE 1987-1993 (ENTRY OF PUBLIC SECTOR FUNDS)
1987 marked the entry of non- UTI, public sector mutual funds set up by
public sector banks and Life Insurance Corporation of India (LIC) and
General Insurance Corporation of India (GIC). SBI Mutual Fund was the first
non- UTI Mutual Fund established in June 1987 followed by Canbank Mutual
Fund (Dec 87), Punjab National Bank Mutual Fund (Aug 89), Indian Bank
Mutual Fund (Nov 89), Bank of India (Jun 90), Bank of Baroda Mutual Fund
(Oct 92). LIC established its mutual fund in June 1989 while GIC had set up
its mutual fund in December 1990. At the end of 1993, the mutual fund
industry had assets under management of Rs.47,004 crores.
THIRD PHASE 1993-2003 (ENTRY OF PRIVATE SECTOR FUNDS)
With the entry of private sector funds in 1993, a new era started in the
Indian mutual fund industry, giving the Indian investors a wider choice of
fund families. Also, 1993 was the year in which the first Mutual Fund
Regulations came into being, under which all mutual funds, except UTI were
to be registered and governed. The erstwhile Kothari Pioneer (now merged
with Franklin Templeton) was the first private sector mutual fund registered
in July 1993. The 1993 SEBI (Mutual Fund) Regulations were substituted by
a more comprehensive and revised Mutual Fund Regulations in 1996. The
industry now functions under the SEBI (Mutual Fund) Regulations 1996. The
number of mutual fund houses went on increasing, with many foreign
mutual funds setting up funds in India and also the industry has witnessed
several mergers and acquisitions. As at the end of January 2003, there were
8

INVESTMENT LAW
33 mutual funds with total assets of Rs. 1,21,805 crores. The Unit Trust of
India with Rs.44,541 crores of assets under management was way ahead of
other mutual funds.
FOURTH PHASE SINCE FEBRUARY 2003
In February 2003, following the repeal of the Unit Trust of India Act 1963
UTI was bifurcated into two separate entities. One is the Specified
Undertaking of the Unit Trust of India with assets under management of
Rs.29,835 crores as at the end of January 2003, representing broadly, the
assets of US 64 scheme, assured return and certain other schemes. The
Specified

Undertaking

of

Unit

Trust

of

India,

functioning

under

an

administrator and under the rules framed by Government of India and does
not come under the purview of the Mutual Fund Regulations.
The second is the UTI Mutual Fund, sponsored by SBI, PNB, BOB and LIC. It
is registered with SEBI and functions under the Mutual Fund Regulations.
With the bifurcation of the erstwhile UTI which had in March 2000 more than
Rs.76,000 crores of assets under management and with the setting up of a
UTI Mutual Fund, conforming to the SEBI Mutual Fund Regulations, and with
recent mergers taking place among different private sector funds, the
mutual fund industry has entered its current phase of consolidation and
growth.

ORGANISATION OF MUTUAL FUNDS

In accordance with the provisions of the Indian Trust Act, 1882 every mutual
fund shall be constituted in the form of a trust. SEBI Guidelines, 1992 spell
out

in

clear

terms

the

establishment

norms

for

mutual

funds.

It

contemplated a three-tier system for managing the affairs of mutual funds.

The three constituents are the sponsoring company, the trustees and the
9

INVESTMENT LAW
assets

management company (AMC).

These

three

constituents

were

incorporated in SEBI Regulations, 1996 for the management of mutual

funds. Apart from these three, Custodians and transfer agents are two more
important constituents of mutual funds.
SPONSOR
Sponsor of a mutual fund is akin to the promoter of a company as he gets
the fund registered with SEBI. Under SEBI regulations, sponsor is defined as
any person who acting alone or in combination with another body corporate
establishes the mutual fund. Sponsor canbe Indian companies, banks or
financial institutions, foreign entities or a joint venture between two entities.
As Reliance mutual fund has been sponsored fully by an Indian entity.
Whereas, funds like Fidelity mutual fund and J P Morgan mutual fund are
sponsored fully by foreign entities. ICICI Prudential mutual fund has been
set up as a joint venture between ICICI Bank and Prudential plc. Both
sponsors have contributed to the capital of the Asset Management Company
of ICICI Prudential.
SEBI has laid down the eligibility criteria for sponsor as it should have a
sound track record and at least five years experience in the financial services
industry. SEBI ensures that sponsor should have professional competence,
financial soundness and general reputation of fairness and integrity in
business transactions. At least 40 percent of the capital of AMC has to be
contributed by the sponsor. Also, they identify and appoint the trustees and
Asset Management Company. Sponsors are also free to get incorporated an
AMC as well as to appoint a board of trustees. They, either directly or acting
through trustees, will appoint a custodian to hold the fund assets. To submit
trust deed and draft of memorandum and articles of association of AMC to
SEBI is also a duty of sponsor. After the mutual fund is registered, sponsors
technically take a backseat.
10

INVESTMENT LAW
TRUSTEES
Under the Indian trust act 1882, a sponsor creates mutual fund trust, which
is the main body in creation of mutual funds. Trustees may be appointed as
an individual or as a trustee company with the prior approval of SEBI. As
defined under the SEBI regulations, 1996, trustees mean board of trustees
or Trustee Company who hold the property of mutual fund for the benefit of
the unit holders. A Trustee acts as the protectors of the unit holders
interests and is the primary guardians of the unit holders funds and assets.
Sponsor executes and registers a trust deed in favour of trustees. There
must be at least 4 members in the board of trustees and least two third of
them need to be independent. For example, HDFC Trustee Company Limited
is the Trustee of HDFC Mutual Fund vide the Trust deed dated June 8, 2000.
It has five board members, of whom three are independent.
To ensure fair dealings, mutual fund regulations require that trustee of one
mutual fund cannot be a trustee of another one, unless he is an independent
trustee in both the cases, and has approval of both the boards. AMC, its
directors or employees shall not act as trustees of any mutual fund. Trustees
must be the person with experience in financial services. SEBI has also
defined the rights and obligations of trustees. Under their rights, trustees
appoint AMC with the prior approval of SEBI. They approve each of the
schemes floated by AMC in consultation with the sponsors. They have the
right to obtain from the AMC, such information, as they consider necessary
to fulfill their obligations.

Trustees can even dismiss AMC with the approval of the SEBI and in
accordance with the regulations. Under their obligations, trustees must
ensure that the transactions of mutual funds are in accordance with the trust
deed and its activities are in compliance with SEBI regulations. They must
11

INVESTMENT LAW
ensure that AMC has all the procedures and systems in place, and that all
the fund constituents are appointed. Also, they must ensure due diligence on
the part of AMC in the appointment of business associates and constituents.
Trustees must furnish to SEBI, on half-yearly basis a report on the activities
of the AMC.
ASSET MANAGEMENT COMPANY (AMC)
Asset Management Company is the body engaged to run the show of a
mutual fund. The sponsor or trustees appoint AMC to manage the affairs of
the mutual fund to ensure efficient management. SEBI desires that AMC
must have a sound track record in terms of net worth, dividend paying
capacity, profitability, general reputation and fairness in transactions. AMC is
involved in basically three activities as portfolio management, investment
analysis and financial administration. Therefore, the directors of AMC should
be expert in these fields. SEBIs regulation for AMC requires that it should
have a net worth of at least Rs. 10 crore at all times and that a company can
act as an AMC of one mutual fund only. Also, at least 50 percent of the
members of the board of an AMC have to be independent and these can be
the director of another AMC also. Its chairman should be an independent
person.
AMCs cannot engage in any business other than that of financial advisory
and investment management. Its memorandum and articles of association
have to be approved by the SEBI. Statutory disclosures regarding AMCs
operations should be periodically submitted to SEBI. Prior approval of the
trustees is required, before a person is appointed as a director on the board
of AMC. An AMC cannot invest in its own schemes until it is disclosed in the
offer document. Moreover in such investments, AMC will not be eligible for
fees also. The appointment of an AMC can be terminated by the majority of
trustees or by 75 percent of unit holders. Example: HDFC Asset Management
12

INVESTMENT LAW
Company Ltd. was approved by SEBI vide itsletter dated June 30, 2000 to
act as an Asset Management Company of the HDFC mutual fund. In terms of
investment management agreement, the trustee appointed this AMC. HDFC
holds 60 percent of the capital and Standard Life Investments holds
remaining 40 percent of the capital of the AMC. Its board has 12 members of
whom 6 are independent.
Apart from three constituents discussed above, Custodians and transfer
agents are another two important constituents of mutual funds. These have
been discussed below.
CUSTODIAN
SEBI requires that each mutual fund shall have a custodian who is
independent and registered with it. SEBI regulations provide for the
appointment of a custodian by trustees of the mutual fund who are
responsible for carrying on the activities of safe keeping of securities and
participating in any clearing system on behalf of mutual fund. Custodian is
not permitted to act as a custodian of more than one mutual fund without
the prior approval of SEBI. They should be independent of the sponsors. As
for example, ICICI Bank is a sponsor of ICICI Prudential Mutual fund. It is
also a custodian bank. But it cannot offer its services to ICICI Prudential
Mutual fund, because it is a sponsor of this fund.
The appointment of any agency as custodian depends upon its track record,
quality of services, experience, transparency, computerization and other
infrastructure facilities. Custodians primarily perform securities settlement
functions. However, some also offer fund accounting and valuation services.
The responsibilities of custodian include delivering and accepting securities
and cash, to complete transactions made in the investment portfolio of
mutual funds. Custodians also track and keep payouts and corporate actions
such as bonus, rights, offer for sale, buy back offers, dividends, interest and
13

INVESTMENT LAW
redemption on the securities held by the fund. They also look after that the
discrepancies and failure must be timely resolved.
TRANSFER AGENT
Registrar and transfer (R&T) agents are responsible for creating and
maintaining investor records kept in numbered account called folios and
servicing them. They accept and process investor transactions and also
operate investor service center (ISCs) which acts as an official points for
accepting investor transactions with a fund. As for example, Computer Age
Management Services (CAMS) is the R&T agent for HDFC mutual fund. R&T
functions include issuing and redeeming the units and updating the unit
capital account. R&T perform creating, maintaining and updating the
investors records and enabling their transactions such as redemption,
purchase and switches. They also do banking the payment instruments such
as drafts and cheques given by investors and notifying the AMC. R&T send
statutory and periodic information to investors and process payouts to
investors in the form of dividends and redemptions
OBJECTIVE
The object of the study is that it has emphasis on the legal proceedings to
affect the welfare of investors in mutual funds.
RESEARCH METHODOLOGY
This study is a descriptive research where in the source for the data will be
secondary. There has been very limited published data and information with
regard to this study.
Hence the study will try to understand the regulations with relation to the
mutual fund. This study will cover all the legal aspects in relation to initiation
of legal proceeding to affect welfare of investors in mutual funds.

Legislations

14

INVESTMENT LAW
The SEBI Act, 1992: The SEBI Act, 1992 was enacted to empower SEBI
with statutory powers for:
(a) Protecting the interests of investors in securities,
(b) Promoting the development of the securities market, and
(c) Regulating the securities market. Its regulatory jurisdiction extends over
corporate in the issuance of capital and transfer of securities, in addition to
all intermediaries and persons associated with the securities market.
It can conduct enquiries, audits, and inspection of all concerned, and
adjudicate offences under the Act. It has the powers to register and regulate
all market intermediaries, as well as to penalize them in case of violations of
the provisions of the Act, Rules, and Regulations made there under. SEBI has
full autonomy and the authority to regulate and develop an orderly securities
market.

Securities Contracts (Regulation) Act, 1956: This Act provides for the
direct and indirect control of virtually all aspects of securities trading and the
running of stock exchanges, and aims to prevent undesirable transactions in
securities. It gives the Central Government regulatory jurisdiction over:
(a) Stock exchanges through a process of recognition and continued
supervision,
(b) Contracts in securities, and
(c) The listing of securities on the stock exchanges.

As a condition of recognition, a stock exchange complies with the conditions

prescribed by the Central Government. Organized trading activity in

15

INVESTMENT LAW
securities takes place on a specified recognized stock exchange. The stock
exchanges determine their own listing regulations, which have to conform to
the minimum listing criteria set out in the Rules2.

Depositories Act, 1996: The Depositories Act, 1996 provides for the
establishment of depositories in securities with the objective of ensuring free
transferability of securities with speed, accuracy, and security by:
(a) Making securities of public limited companies freely transferable, subject
to certain exceptions.
(b) Dematerializing the securities in the depository mode.
(c) Providing for the maintenance of ownership records in a book entry form.
In order to streamline the settlement process, the Act envisages the transfer
of ownership of securities electronically by book entry, without making the
securities move from person to person. The Act has made the securities of
all public limited companies freely transferable, restricting the companys
right to use discretion in effecting the transfer of securities, and the transfer
deed and other procedural requirements under the Companies Act have been
dispensed with.
Companies Act, 1956: It deals with the issue, allotment, and transfer of
securities, as well as various aspects relating to company management. It
provides the standard of disclosure in public issues of capital, particularly in
the fields of company management and projects, information about other
listed companies under the same management, and the managements
perception of risk factors. It also regulates underwriting, the use of premium
and discounts on issues, rights, and bonus issues, the payment of interest
and dividends, the supply of annual reports, and other information.
2 http://www.sebi.gov.in/sebiweb/home/section/1/Legal-Framework
16

INVESTMENT LAW

Prevention of Money Laundering Act, 2002: The primary objective of

this Act is to prevent money laundering, and to allow the confiscation of
property derived from or involved in money laundering. According to the
definition of money laundering, anyone who acquires, owns, possess, or
transfers any proceeds of crime, or knowingly enters into any transaction
that is related to the proceeds of crime either directly or indirectly, or
conceals or aids in the concealment of the proceeds or gains of crime within
India or outside India commits the offence of money laundering. Besides
prescribing the punishment for this offence, the Act provides other measures
for the prevention of money laundering. The Act also casts an obligation on
the intermediaries, the banking companies, etc. to furnish information of
such prescribed transactions to the Financial Intelligence Unit-India, to
appoint a principal officer, to maintain certain records, etc.

RESERVE BANK OF INDIA (RBI)

RBI is the regulatory authority of banks in India. Banks can function as
sponsors, custodians and distributors of mutual funds. For performing these
functions, they are subject to regulations stipulated by RBI from time to
time. RBI is the regulator of the government securities and money markets
in India. Since mutual funds may invest in these securities, they are required
to abide by the RBI Regulations as may be applicable.

STOCK EXCHANGES
It is mandatory for close-ended funds to be listed on a stock exchange.
Mutual funds also offer exchange traded funds (ETF) that can be bought and
17

INVESTMENT LAW
sold on a stock exchange. For these funds, the mutual fund will enter into a
listing agreement with stock exchange and subject itself to the necessary
regulatory and disclosure requirements.
organizes

Training

comprehensive

programs

programs

on

BSE Training Institute which

periodically
Capital

on

Markets,

various

subjects

Fundamental

like

Analysis,

Technical Analysis, Derivatives, Index Futures and Options, Debt Market, etc.
Further, for the Derivatives market BSE also conducts the compulsory BSEs
Certification on Derivatives Exchange (BCDE) certification for Trading
Members and their dealers to impart basic minimum knowledge of the
derivatives markets.
Compensation to the Investors
Capital market includes investment into risk bearing instruments. In such
cases, the investor is required to make his own assessment of risk and
reward. No compensation could be visualized for such investors whose
investments were in risk bearing instruments. Similarly, investment in a
fixed return instrument necessitated a careful review of the borrowing entity.
Such actions would also be subjected to known or declared risks. Besides,
the capital market also provides an opportunity for an investor to exit. The
need therefore, is to ensure proper and healthy market operation so that
investors could exercise their exit options in a reasonable and equitable
environment. However, there may be situations where such a frame work is
distorted through frauds. There may be provisions for compensation in the
event of fraud by companies being established in securing funds from
investors. For this purpose lifting of corporate veil may be enabled by the
law.
BSE is the only Exchange in India, which offers the highest compensation of
Rs.15Lacs in respect of the approved claims of any Investor against the
defaulter Trading Members of the Exchange.
18

INVESTMENT LAW

Rules and Regulations

The Government has framed rules under the SCRA, the SEBI Act, and the
Depositories Act. SEBI has framed regulations under the SEBI Act and the
Depositories

Act

for

the

registration

and

regulation

of

all

market

intermediaries, and for the prevention of unfair trade practices, insider

trading, etc. Under these Acts, the Government and SEBI issue notifications,
guidelines, and circulars that the market participants need to comply with.
The SROs, like the stock exchanges, have also laid down their own rules and
regulations

Investors Protection Fund (IPF)

The Government has established an Investor Education and Protection Fund
(IEPF) under Sec. 205 C of the Companies Act, 1956 under which unclaimed
funds on account of dividends, matured deposits, matured debentures, share
application money etc. are transferred through the IEPF to the Government
by the company on completion of seven years. The Government is required
to utilize this amount through an Investor Education and Protection Fund.
For this purpose, the proceeds from the companies are credited to the
Consolidated Fund of India through this fund. The Fund may then be
entrusted with full fledged responsibility to carry out activities for education
of investors and protection of their rights.
BSE is the first Exchange to have set up the 'Stock Exchange Investors
Protection Fund (IPF) in the interest of the customer's of the defaulter
members of the Exchange. This fund was set up on 10th July, 1986 and has
been registered with the Charity Commissioner, Government of Maharashtra
as a Charitable Fund. The maximum amount of Rs. 10,00,000 payable to an
investor from Investor Protection Fund in the event of a default by a Trading

19

INVESTMENT LAW
Member has been revised to Rs. 15,00,000; which shall be applicable to the
clients of the Trading Member of the Exchange, who will be declared
Defaulter after 5th December, 2009. (This has been progressively raised by
BSE from Rs.10,000 in 1988 to the present level).

BSE is the only Exchange in India, which offers the highest compensation of
Rs.15lacs in respect of the approved claims of any Investor against the
defaulter Trading Members of the Exchange.
The Trading members at present contribute 1 paisa per 1lakh of gross
turnover. The Stock Exchange contributes 2.5% of the listing fees collected
by it. Also the entire interest earned by the Exchange on 1% security deposit
kept by with it by the companies making public / rights issues is credited to
the Fund.

Investor Awareness Program

Launching the Securities Market Awareness Campaign organized by SEBI
(January 2003), the Prime Minister said the prolonged quietness in the stock
markets had tested the confidence of the small investor who was the
backbone of the securities market. If investors are not attracted, then
companies will not be able to raise money through the capital market. The
Indian household investor, off late, has been putting much of his savings in
non-financial assets. Even with financial assets, most of the savings are
going to the banking system. This is not the best or the most productive use
of our savings, he said. In recent years, there had been many instances of
companies raising money from the market by creating hype and then
defrauding the investor. Many of them issued shares at hefty premiums;
most of their scrip are now trading well below their face value. Stock market
scams brought a bad name to the Indian business community. This is how
boom went bust and hopes turned to dust for many gullible investors. And
3 https://www.sec.gov/investor/pubs/sec-guide-to-mutual-funds.pdf
20

INVESTMENT LAW
that is how the investor community lost confidence in the market, leading to
prolonged stagnation. The Prime Minister, therefore, called upon the market
regulator and the intermediaries to learn the right lessons from our
experience of the past few years. He said we need markets that are known
for their safety and integrity.
Investor Awareness programs are being regularly conducted by stock
exchanges to educate the investors and to create awareness among the
Investors regarding the working of the capital market and in particular the
working of the Stock Exchanges. These programs have been conducted in
almost all over the country.4
The Investor Awareness program covers extensive topics like Instruments of
Investment, Portfolio approach, Mutual funds, Tax provisions, Trading,
Clearing and Settlement, Rolling Settlement, Investors' Protection Fund,
Trade Guarantee Fund, Dematerialization of shares, information on Debt
Market, Investors Grievance Redressal system available with SEBI, BSE &
Company Law Board, information on Sensex and other Indices, workshops
and Information on Derivatives, Futures and Options etc.

Investor Education and Protection Fund

The Government has established an Investor Education and Protection Fund
(IEPF) under Sec. 205 C of the Companies Act, 1956 under which unclaimed
funds on account of dividends, matured deposits, matured debentures, share
application money etc. are transferred through the IEPF to the Government
by the company on completion of seven years. The Government is required
to utilize this amount through an Investor Education and Protection Fund.
For this purpose, the proceeds from the companies are credited to the
Consolidated Fund of India through this fund. This constitutes a cumbersome
4
https://archive.org/stream/someimplications00patt/someimplications00patt_djvu.txt
21

INVESTMENT LAW
mechanism and has to be carefully examined in context of the rights of
holders of securities and the role of the Government in protecting them while
providing resources for investor education.5
The Committee recognizes a need for ensuring the expropriated amounts to
be credited back to the IEPF in their entirety. It would be desirable if this is
enabled through a direct transfer of unclaimed amounts directly to a
separate statutory fund under the control, supervision and management of
an Administrator, without routing it through Consolidated Fund of India. The
Government should also provide funds to augment the corpus of the fund
through grants which may be properly deployed and managed. Returns from
such a Fund should be available to be utilized for a comprehensive
programme of education of small investors. The Fund may then be entrusted
with full fledged responsibility to carry out activities for education of
investors and protection of their rights.
The Committee also discussed various means by which funds already
available under the IEPF could be utilized more effectively. It noted that the
Ministry of Company Affairs, who administer the Fund, had already initiated
some schemes in this regard. The Committee recommended that the
structure and administration of the Fund should be revamped as above and
schemes should be made more comprehensive and their scope expanded to
enable flow of correct information to the investors as well as their education
in respect of their rights. Such programmes should have special components
for education at school/college level, on line and distance learning, support
genuine efforts in the Non-Governmental sector, information collection,
research and analysis on matters of small investor concerns, enable capacity

5 http://www.yourarticlelibrary.com/consumers/what-are-the-consumers-rightsunder-section-6-of-the-consumer-protection-act/1135/
22

INVESTMENT LAW
building of adjudicators such as Consumer Courts on issues involved in legal
redressal of investor complaints.6
State expropriation of dividend
The mechanism of expropriating certain unclaimed amounts due to the
investors for transfer to the IEPF as provided in the present law also raises a
basic issue as to the right of the State to expropriate such proceeds when
the underlying instrument or security is still in the hands of the investor who
has not been able to claim it for any reason. The Committee remained
unconvinced as to how the rights of the claimant holding a particular
instrument could be extinguished in such cases. In view of the Committee,
law should enable investors to claim returns on the securities as long as such
instruments are held by them. Court ordered refunds should also be made
from the funds available with IEPF. For this purpose, there should be suitable
amendment in the law. It goes without saying that the procedure for making
claims also needs to be simplified to facilitate reimbursement of such claims
speedily. There was, therefore, a need to review the existing provisions of
Section 205 C of the Companies Act and payment of unpaid dividend to the
legitimate claimants, irrespective of the lapse of time.
Role of NGOs in Investors education
Many problems relating to investors, particularly, small investors, can be
tackled by educating the investors. Small investors should be encouraged to
either invest through Mutual Fund mechanisms, or should take investment
decisions only after getting adequate information about risks and rewards.
The investors should also be encouraged to participate in the proceedings at
general meetings (either physically or through postal ballot, including by
electronic media) in a constructive manner. This requires improving the
general awareness of the investors through informal mechanisms. The help
6 https://www.ici.org/pdf/bro_understanding_mfs_p.pdf
23

INVESTMENT LAW
of various NGOs engaged in investor protection activities should also be
taken for this purpose. The Committee perceives a positive role for
Investors Associations / NGOs in this regard which should be supported by
both the Government as well as corporate entities.
Class Action / Derivative Suits
A situation may arise whereby the interest of the company may need to be
protected from the actions of the persons in control of the company. At the
same time, the interests of the larger body of investors/shareholders may
have to be provided legal avenues to protect the company in their interest.
For this purpose, the law should provide for class action/derivative suits on
behalf of depositors/shareholders. The promoters, managers held guilty of
misfeasance / fraud should be asked to pay the legal costs, if proven guilty.
This concept has been considered by the Committee while examining issues
relating to minority rights. The Committee feels that similar principles would
also be relevant for investor protection and recommends the same.
Disclosures and Investor Protection
The Committee is of the view that proper and timely disclosures are central
to safeguarding investor interests. The law should ensure a disclosure
regime that compels companies to disclose material information on a
continuous, timely and equitable basis. Information should be disclosed
when it is still relevant to the market. The companies should, therefore, be
made to disclose routine information on a periodic basis and price sensitive
information on a continuous basis. Capital market regulator and stock
exchanges have a significant role to play in ensuring that such information is
accessible by all market participants rather than a few select market players.
Use of modern technology, internet, computers, should be enabled to
enhance the efficiency of the disclosure process. It should be possible to

24

INVESTMENT LAW
submit and disseminate financial and non-financial information by electronic
means7.
Law should also provide a regime for enforcement of standards for
accounting, audit and non-financial disclosure through setting of such
standards and their effective monitoring and enforcement. At the same time,
the Government should ensure the professional independence of standard
setters, transparency of their activities and adequate means of disciplining
defaulters. There should be a regime of stringent penalties, both civil and
criminal for default in disclosure.

CASE STUDY
2003 MUTUAL FUND SCANDAL (U.S.)
The mutual fund scandal of 2003 was the result of the discovery of illegal
late trading and market timing practices on the part of certain hedge fund
and mutual fund companies. On September 3, 2003, New York Attorney
General Eliot Spitzer announced the issuance of a complaint against New
Jersey hedge fund company Canary Capital Partners LLC, charging that they
had engaged in "late trading" in collusion with Bank of America's Nations
Funds. Bank of America is charged with permitting Canary to purchase
mutual fund shares, after the MARKETS had closed, at the closing price for
that day. Spitzer's investigation was initiated after his office received a tenminute June 2003 phone call from a Wall Street worker alerting them to an
instance of the late trading problem.
Late Trading
An unethical (if not illegal) practice of a hedge fund purchasing and then
selling securities (usually shares of a mutual fund) after the close of a
7 http://www.legalservicesindia.com/article/article/protection-of-the-interest-of-theinvestor-1560-1.html
25

INVESTMENT LAW
trading day, but making the transactions appear as though they occurred
before the market close.
Market Timing
The act of attempting to predict the future direction of the market, typically
through the use of technical indicators or economic data.
SEC investigation
The SEC is charged with the regulation of the mutual fund industry in the
United States. Following the announcement of Spitzer's complaint, the SEC
launched its own investigation of the matter which revealed the practice of
"front running". The SEC claimed that certain mutual fund companies alerted
favored customers or partners when one or more of a company's funds
planned to buy or sell a large stock position. The partner was then in a
position to TRADE SHARES of the stock in advance of the fund's trading.
Since mutual funds tend to hold large positions in specific stocks, any large
selling or buying by the fund often impacts the value of the stock, from
which the partner could stand to benefit. According to the SEC, the practice
of front-running may constitute insider trading.
SAHARA INDIA PARIWAR INVEDTORS FRAUD CASE
On 26 February 2014, the Supreme Court of India ordered the arrest of
Subrata Roy, Chairman & Founder of Sahara India Pariwar, for failing to
appear in connection with the Rs.24,000-crore deposits his company has not
refunded to its investors. He was eventually arrested on 28 February 2014
by Uttar Pradesh police on a Supreme Court's warrant, in a dispute with
Market Regulator - SEBI. He was granted interim bail by Supreme Court of
India for the same on 26 March 2014 on condition of depositing Rs 10,000
crore with the MARKET regulator SEBI. As of August 2014, Roy is still in jail
and is trying to sell some of his hotel properties to raise enough money.

26

INVESTMENT LAW
The Securities and Exchange Board of India (Sebi) on 27 th July 2015,
cancelled the registration of Sahara Asset Management Company (AMC)
within six months from the date of the order.8
All the assets the company have been managing would have to be
transferred to a different fund house as per the order. The regulator had
observed that the promoters of Sahara AMC were not fit and proper.
According to the disclosures made to Sebi, the shareholding pattern (equity)
of Sahara AMC includes 46 per cent stake of Sahara India Financial
Corporation Limited (Sahara Sponsor).
Pending contempt proceedings against Subrata Roy Sahara, SHICL/SIRECL
(group companies of Sahara) and other litigations initiated and pending
against Subrata Roy Sahara, Sahara MF along with the Sahara AMC and
Sahara Sponsor are no longer fit and proper persons to carry out the
business of a Mutual Fund, stated the 22-page order passed by whole-time
member Prashant Saran.
The regulator has also held the fund house guilty of not disclosing the
ongoing litigations -- the case in the Supreme Court, Sebi order in 2011,
which had directed Sahara to refund its investors, and also barred Subrato
Roy from associating with any listed public company and any company that
raises money from the public.
Sahara AMC has violated the provisions of Regulation 22 of the MF
Regulations, which requires the AMC to inform Sebi of any material change
in the information or particulars, stated the order. Saran also noted that
Subrata Roy has continuously failed to provide the required information as
per the MF Regulations since June 23, 2011.

8 http://www.stableinvestor.com/2015/03/Case-Study-Lumpsum-Investment-StockMarkets.html
27

INVESTMENT LAW
Sahara MF has been directed to transfer the activities of Sahara Sponsor and
Sahara AMC to a Sebi-approved AMC within five months from the date of the
order.
If the sponsors fail to transfer the business and the AUM to another AMC,
Sahara would be required to redeem the units allotted to its investors and
credit the respective funds to its investors, without any additional cost.
Jm Mutual Fund And Jm Capital ... vs Securities And Exchange Board
Of India9
The appellants being aggrieved by the order of the Adjudicating and Enquiry
Officer of SEBI dated 22nd of January 2004 have preferred these appeals.
By the impugned order, the respondent has imposed a penalty of Rs.30 lakhs
on the J.M. Capital Management Pvt. Ltd. (the second appellant herein) and
a further sum of Rs.20 lakhs on the J.M. Mutual Fund (the first appellant
herein). These penalties were imposed on the appellants for their failure to
comply with section 15E and section 15D of SEBI Act.
Section 15E deals with failure to observe rules and regulations by the asset
management company and section 15D deals with defaults in case of mutual
funds The J.M. Mutual Fund is the mutual fund and the J.M. Capital
Management Pvt. Ltd. is the asset management company. Both the mutual
fund as well as the asset management company have been imposed with a
penalty of Rs. 50 lakhs in all. The gravement of the charge against the
appellant was that the sponsors of the first appellant had suffered an order
at the hands of SEBI for violating SEBI (Substantial Acquisition of shares and
Takeover) Regulations, 1997 (hereinafter referred to as the Regulations).
The sponsors were the JM Financial and Investment Consultancy Services
Pvt. Ltd. (hereinafter referred to as the "sponsors"). The sponsors were
visited with an order by SEBI for violating the Regulations and a penalty of
Rs. 1,80,000/- was levied on the sponsors by SEBI. The sponsors appealed
to the Securities Appellate Tribunal and the Tribunal by its order confirmed
9 2005 57 SCL 262 SAT
28

INVESTMENT LAW
SEBI's order and reduced the penalty from Rs.1,80,000 to Rs. 1 lakh. The
order of the Tribunal became final. This piece of information was not
incorporated in the offer document prepared by the appellants and vetted by
SEBI.
Subsequently, the appellants devised seven schemes which were proposed
to be launched. The schemes were the JM G Sec Fund, the JM Short Term
Fund, the JM Basic Fund, the JM High Income Fund, the JM Fixed Maturity
Plan, the JM Sector Series and JM G Sec Marathon Series. While devising the
scheme the compliance officer of the appellant informed the sponsors that
there was a duty cast on the sponsors of the mutual fund to make a relevant
disclosure to the appellants. The letters of the compliance officer to the 2nd
appellant dated indicate that the appellants had informed sponsors to make
all the relevant disclosures as required under Regulation 29 of the Mutual
Fund Regulations.
It appears that the sponsors failed to make any mention with respect to the
order passed against the sponsors by the Tribunal. It also appears from the
records that the sponsors approved the above said scheme but did not
inform the appellants about the order of SAT imposing a penalty on them in
spite of letters written by the compliance officer of the appellants to the
sponsors. After getting the approval of the sponsors on various aspects of
the matter, the draft offer documents were filed with SEBI under Regulation
28 of the Mutual Fund Regulations. Curiously SEBI advised certain
modifications in the offer documents but did notice the penalty imposed on
sponsors. SEBI asked the appellants whether any cases were pending
against the appellants and against the trustees. The appellants also stated in
the offer document as follows:
"The Fund further confirms that there is no other case where penalty was
awarded by SEBI against the Sponsor of the Mutual Fund or any company
associated with the Sponsor in any capacity, including the AMC, the Trustee

29

INVESTMENT LAW
Company or any of the Directors or key personnel of the AMC and the
Trustee Company."
It is submitted by the learned senior counsel for the appellant that the
respondent admittedly had, at all material times, knowledge of the said
proceedings and penalties. The respondent, however, did not require the 2nd
appellant to carry out any modification in the drafts Offer Documents filed by
it with the respondent with respect to disclosure of the said proceedings and
penalties. By failing to do so, the respondent itself failed to perform its duty
to the investors in vetting the draft offer documents. It was stated that it
would be inequitable indeed that the respondent, though failing to discharge
its statutory obligation after accepting a substantive fee of Rs. 25,000/- for
each offer document vetted by it, should be allowed to get off scott free
whilst the respondent itself imposed a grossly disproportionate penalty on
the appellants.
In the result, Honble Court hold that the impugned order passed against the
first appellant JM Mutual Fund is set aside. We however modify the order
passed against the second appellant and reduce the penalty from Rs. 30
lakhs to Rs. 5 lakhs. It is submitted by the learned counsel for the appellant
that by virtue of the interim order, a sum of Rs. 3 lakh has been deposited.
The balance amount of Rs. 2 lakh shall be deposited within four weeks from
the receipt of the order.
SEBI vs. Shriram Mutual Fund & Others Appeal No. 9523-24 of
2004
a) Adjudicating Officer (AO) on Shriram Mutual Fund (SMF) imposed a
penalty of Rs. 2 lakh as it had repeatedly exceeded the permissible
limits of transactions through its associate broker, in terms of
Regulation 25(7) (a) of SEBI (Mutual Funds) Regulations.

30

INVESTMENT LAW
b) On an appeal by SMF, Securities Appellate Tribunal vide its final
judgment and order dated August 21, 2003, set aside AOs order inter
alia on the ground that the limit was not exceeded intentionally.

c) SEBI filed an appeal under SECTION 15Z of the SEBI Act in the
Honorable Supreme Court.

d) The Honorable Supreme Court pronounced its final judgment and order
on May 23, 2006. Honorable Supreme Court set aside the judgment of
SAT and settled the issues as under:
Mens rea is not an essential ingredient for contravention of the provisions
of a Civil Act.
Penalty is attracted as soon as contravention of the statutory obligation as
contemplated by the Act is established, and therefore the intention of the
parties committing such violation becomes immaterial.
Unless the language of the statue indicated the need to establish the
element of mens rea, it is generally sufficient to prove that a default in
complying with the statue has occurred.
Once the contravention is established, the penalty has to follow and only
the quantum of penalty is discretionary.
The SAT has erroneously relied on the judgment of Hindustan Steel Limited
vs. State of Orissa (AIR 1970 SC 253) as the said case has no application in
the present case which relates to imposition of civil liabilities under SEBI Act
and Regulations, and is not a criminal/quasi-criminal proceeding.
Imputing mens rea into the provisions of Chapter VIA against the plain
language of the statue frustrates the entire purpose and object of
introducing Chapter VIA which was to give teeth to the SEBI to secure strict
compliance of the Act and the Regulations.

31

INVESTMENT LAW
Kinetic Engineering Ltd. vs Unit Trust Of India And Ors.
Set of guidelines (second guidelines) were issued by the Ministry of Finance
(Department of Economic Affairs--Investment Division), The preamble to
these guidelines states "mutual funds have become a major vehicle for
mobilising the saving particularly from the small and household sector for
investment in the market. In view of the growing importance in the capital
market, their expanding investor base and the decision to allow mutual
funds to be set up in the joint and private sectors, it has become necessary
to evolve a comprehensive set of prudential guidelines for the all-round
development and regulation of mutual funds and for ensuring investors'
protection." In these guidelines also, "mutual fund" has not been defined but
it only states that the existing mutual funds should conform to these
guidelines within a period of six months from the date of issue of these
guidelines. Unlike the earlier guidelines of 1990, there is no express
provision to exempt statutory corporations in these guidelines. In respect of
investment limitation, these guidelines provide that no individual scheme of
mutual fund should invest more than 5 per cent, of its corpus in any one
company; no mutual fund under all schemes taken together should invest
more than 10 per cent, of its fund in the shares or debentures or other
securities of a single company. Besides these investment limitations, these
guidelines

provide

for

guidelines

relating

to

establishment,

asset

management company, trustees and trust companies, custodian, schemes,

winding-up, income distribution, etc.
CONCLUSION
The securities market operations promote the economic growth of the
country. More efficient is the securities market; the greater is the promotion
effect on economic growth. It is, therefore, necessary to ensure that
securities market operations are more efficient, transparent and safe. The
investors need protection from the various malpractices and unfair practices
32

INVESTMENT LAW
made by the corporate and intermediaries. As the individual investors
community and the investment avenues are on the rise, it is interesting to
know how the investors shall be protected through various legislations.
Securities market in general are to be regulated to improve the market
operations in fair dealings and easy to access the market by corporate and
investors. The present positive attitude of investors is heartening though
investor sentiments have been shaken by the various scandals. Even though,
there are various opportunities available for investment, investors are scared
of investing in corporate. In this situation, the individual investors protection
becomes necessary to sustain the economic development of all countries. To
achieve the desired level of economic growth is dependent upon investors
protection availability of the concerned country.
Globally, there is increased evidence to suggest that investor protection has
assumed an important role in the economic development of a country.
Integrity of the financial markets and economic well being of the country
depend on corporate accountability and investor confidence. The global
concern to make capital markets safer, transparent, strengthening financial
system and managing the crisis cannot be quickly fixed. But they add up to
a stronger system. Globally, many countries have undergone investors
confidence crisis in different aspects. The global evidence suggests that
every time there is stock market crisis, money pours into bank deposits.
SEBI, if not 100%, than for sure it has been near to 100% success as far as
the protections of the investors are concerned. As we have seen that via
different guidelines it had made it sure that no stone remains unturned in
the path of the mission of protecting the investors.
Again with economic recovery in the country, the funds are diverted to the
markets. Investors panic when markets slide. It is important for investors to
realize that returns on equities are cyclical in nature and also, market moves
up and down with time. Understanding market and being patient while
market is going down is important while investing in equities. The revival of
investors protection in the corporate securities market is necessary to make
market more efficient by means of converting savings to investment. If the
investors have not been protected properly by means of rate of return and
33

INVESTMENT LAW
capital, the corporate will not be able to collect the funds from the market
with cheap rate and effectively in future days. For gaining the confidence of
investors in the securities market there is a need to provide an adequate
rate of return and fair operating efficiency of corporate in the securities
market, then the investors lure back to market. This can be done by a series
of systematic measures, which would build their confidence in the systems
and processes and protect the interest of investors.

REFERENCE

Carhart M. (1997), On Persistence in Mutual Fund Performance, Journal

of Finance, Vol. 52, pp. 57-82.

Chen J., Hong H., Huang M. and Kubik J. (2004), Does Fund Size Erode
Performance? Liquidity, Organizational Diseconomies, and Active Money
Management, American Economic Review, Vol. 94, pp. 1276-1302.

Davis J. L., Fama E and French K. R. (2000), Characteristics, covariances

and Average Returns, 1929 to 1997, Journal of Finance, Vol. 55, pp. 389406.

Damato, K. and Burns, J. (2004, April 5). Cleaning up the fund industry.
Wall Street Journal, p. R1
34

INVESTMENT LAW

Sabrinathan, S. (2010). SEBIs regulation of the Indian Securities Market:

Acritical review of the major development. Vikalpa, 35(4), 13-26.

Lauricella, T. and Damato, K. (2004, April 14). Mutual funds scandal

spawns new SEC rules. Wall Street Journal, p. C1.

Maxey, D. (2004, March 1). Its what scandal? in mutual fund ads. Wall
Street Journal, p. R1. Retrieved from ProQuest.

Gompers P. and Metrick A. (2001), Institutional Investors and Equity

Prices, The Quarterly Journal of Economics, Vol. 116, pp. 229-259.

Grinblatt M. and Titman S. (1989), Mutual Fund Performance: An Analysis

of Quarterly Portfolio Holdings, Journal of Business, Vol. 62, pp. 393-416.

Ippolito R. A. (1993), On Studies of mutual Fund Performance, Financial

Analysts Journal, Vol. 49, pp 42-50.

Mohanan S. (2006), Mutual Fund Industry in India: +Development and

Growth, Global Business and Economics Review, Vol. 8, pp. 280-89.

Roy, Bijan and Deb, Saikat Sovan., (2003), "The Conditional Performance
of Indian Mutual Funds: An Empirical Study" A vailable at SSRN:
http://ssrn.com/abstract=593723

35