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SEBI To CRAs: I'm Watching You...Even More Now!

Published on Thu, Mar 29,2012 | 16:00, Updated at Thu, Mar 29 at 17:56Source : 

By: Veena Sivaramakrishnan, Partner, Juris Corp

In yet another classic case reflecting expansive exercise of powers, SEBI recently issued guidelines for Credit Rating Agencies (“CRAs”) (“Guidelines”).

The SEBI (Credit Rating Agencies) Regulations, 1999 (“Regulations”) deals with the power of a CRA to rate “securities”. Therefore, SEBI exercised its jurisdiction over CRAs only for the ratings they provided to securities and did not concern itself with the rating provided for any other instrument.

It is a prevalent industry practice for market players to rate other products and instruments in the nature of loans, money market instruments, etc. Rating by a CRA not only brings in some amount of credibility to the instrument rated, it also leads to an automatic increase in the investor class of such products. Entities like banks and mutual funds have significant restrictions on investments made by them in unrated products and a rated product automatically widens the array of investment for such entities.

It is also relevant to note that certain instruments like commercial papers are required to be compulsorily rated under the prevalent laws (in this case, as prescribed by RBI). While RBI did state that the instrument requires rating and also specified the rating agency and minimum rating of such instruments, the credit rating agencies as such were not regulated for the rating they provided to such instruments. The code of conduct, periodic reporting and other norms prescribed by SEBI did not oversee the rating agency for the ratings it provided to such instruments.

SEBI, through the introduction of these Guidelines (but without amending the Regulations) has provided that all ratings provided by a CRA (irrespective of whether they relate to securities or not) would be governed by SEBI and that the existing Regulations will interalia apply to all such instruments. Therefore any instrument rated by a CRA would need to adhere to the tests laid down in the Regulations including but not limited to transparency, monitoring, disclosure and reporting. The Guidelines do not list out the instruments that fall within the purview of SEBI, but effectively provide for a blanket provision bringing in all the instruments rated by the CRA within SEBI’s monitoring purview. The reason for such move by SEBI is probably boosting investor credibility by enhancing governance of CRAs in entirety.

One critical issue that arises in this context is whether SEBI as the capital markets regulator can oversee the ratings provided for non-securities related instruments (and seek details thereof) and whether the Guidelines are by itself sufficient for effective implementation without the Regulations being amended to inter alia expand the scope of the terms “client” and “securities”. While the Guidelines state that they have been issued pursuant to the discussions SEBI has had with other regulators, in our view, the Regulations per se also requires amendments to require an entity seeking the rating and the rating per se to be equally bound by the Regulations.

The fact that SEBI is privy to information relating to various rated instruments that are not just “securities” related (and for that matter can actively seek and scrutinize the same) is a cause for concern as these instruments / products are not within SEBI’s regulatory purview.  How SEBI and rating agencies will react to the Guidelines is something the market will need to watch out for.


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