Time to scrap SEBI Research Analyst Regulations?

The recent settlement order against a registered research analyst – Mr. Amit Jeswani (Stallion Asset) has put everyone into a state of confusion and dilemma.

It has brought back the same old discussion on what a Research Analyst can and cannot do.

This forced me to go on a deep dive into what Research Analyst Regulations are.

Though I had always believed the person or entity giving recommendation or its view on a particular security comes under RA Regulations, it was time to relook at the background of the RA regulations.

I again went through the consultation paper (read it as concept paper) on the then proposed research analyst regulations.

Here is my understanding:

What does a research analyst do?

A research analyst studies companies and industries, analyses raw data, and makes forecasts or recommendations about whether to buy, hold or sell securities. S/He analyses information to provide recommendations about investments in securities to the clients.

What was the need for RA regulations?

Such recommendations from the analysts were many times prone to conflicts of interest that prevented them from offering independent and unbiased opinions which affected the investment decision of investors.

Hence, there was a need to have appropriate regulations for research analysts that will ensure the neutrality of the research reports.

There are “Sell-side Analysts” as well as “Buy-side Analysts” and “Independent Analysts”

“Sell-side Analysts” work for firms that provide investment banking services for corporate clients, including clients whose securities the analysts cover.

“Buy-side Analysts” work for money managers like mutual funds, hedge funds, pension funds, or portfolio managers that purchase and sell securities for their own investment accounts or on behalf of others.

And then there are Independent Analysts i.e. those individuals or non-individuals working for research originators or boutique firms that are legal entities separate from full-service investment firms and selling their research to others on a subscription or other basis.

Basically, the RA Regulations came to regulate the research analysts who work for different firms and unlikely for those who sell their research to retail clients.

This falls totally in line with the definition of “research entity” under the current RA regulations.

As per Regulation 2(v), research entity means an intermediary registered with Board who is also engaged in merchant banking or investment banking or brokerage services or underwriting services and issue research report or research analysis in its own name through the individuals employed by it as research analyst and includes any other intermediary engaged in issuance of research report or research analysis.

If you observe, the definition starts with an “intermediary registered with SEBI” AND “also engaged in merchant banking or investment banking or brokerage services”. The end of the definition also includes the word “intermediary”.

It clearly means that the RA regulations were issued for regulating intermediaries providing research recommendations to the clients.

The consultation paper also has the list of the entities engaged in publishing research reports. They are:

1. Large brokerage firms and the merchant/investment-banks
2. Independent research firms providing investment ideas to corporate houses, professional money managers and high net worth individuals
3. Credit Rating Agencies (CRAs) that undertake customized credit research of a number of borrowers in a credit portfolio
4. Proxy Advisory Service Providers

In fact, the definition of research analyst in the proposed regulations was different from the current one.

The definition of intermediary was also given in the proposed regulations:

However, the definition of intermediary is not included in the current regulations. 

RA Regulations are about intermediaries providing research recommendations. This makes so much sense.

Then what about the Research analysts who are not intermediaries, especially the ones providing services through some platforms?

The most burning question!

Surprisingly, the answer was given in the consultation paper itself.

A view emerged that the analysts providing services for a fee (to retail clients) may be considered for regulation under Investment Advisor Regulations.

It means, if you want to service retail investors, SEBI IA Regulations is the answer.

Here is another one!

Do you wonder, why RA regulations have no mention of fees to be charged by research analysts?

The reason now looks simple. The RA regulations were never meant for individuals or entities providing research to retail investors. It was introduced for intermediaries or research firms to address the conflict of interest and ensure neutrality.

The provisions of the existing RA regulations are primarily meant for intermediaries.

Does it make sense now?

I hope, a lot.

Unfortunately, not all definitions from the proposed regulations were carried through to the actual regulations. This led to an increase in the scope for interpretation for those seeking the license as well as for SEBI.

This is also responsible for the entire current confusion.

So where are we?

1. There are merchant bankers / investment bankers / brokers with their own regulations to follow and also provide research recommendations and reports.
2. There are individuals and entities who are giving recommendations to retail clients.

Clearly the point no. 2 is an anomaly.

Then, why does anyone need to ask, “Should I register as an RA or RIA?”

This question should have never come up. It only points out to the significant regulatory overlap and it is time to clear the massive confusion and drama that comes along.

I think there is a way to simplify the mess – SCRAP the RA regulations. 

Hold on! I can explain.

The merchant bankers / investment bankers/ brokers already have their respective regulations. SEBI should add a code of conduct for them to deal with the conflict of interest while giving research recommendations.

And all service providers providing advice / recommendations to retail clients should simply follow the SEBI IA regulations.

In short, all those providing institutional research can follow the code of conduct and others can be included in RIA regulations.

This solves the confusion, once and for all.

I rest my case.

Over to you SEBI.