SALES PRACTICES AND INVESTORS PROTECTION SERVICES

Understanding Risk Profile of the Client

• Definition of Risk: In the context of investments, risk refers to the chance that an investor may not get the desired return on an investment vehicle, in addition to the chance of losing capital.
• Types of Investments: Investments generally comprise Fixed Income Instruments and Market Oriented Investments. Fixed income instruments have a definite interest rate with little risk of not getting desired returns, while market-oriented investments carry a higher risk of not meeting expected returns.

Risk/Return Trade-off

• Risk/Return Principle: There is a risk/return trade-off, where the greater the risk accepted, the greater the potential return as a reward for committing funds to an uncertain outcome.
• Risk Aversion: A risk-averse investor prefers more secure investments, allocating a higher portfolio to debt and fixed income instruments, while a less risk-averse investor prefers greater exposure to equity and other risky investments.

Importance of Understanding Risk Tolerance

• Reasons for Understanding Risk Tolerance: Understanding risk tolerance is necessary for:
  • Achieving financial independence
  • Accepting a certain return rather than an uncertain profit
  • Evaluating self-worth and self-esteem related to financial satisfaction
  • Appreciating personal comfort zones when trading off possible losses versus gains
  • Developing realistic investment objectives
  • Overcoming difficulties in describing attitudes about risk
  • Accurately assessing risk profiles

Parameters Affecting Risk Tolerance

• Key Parameters: Risk tolerance depends on parameters such as:
  • Age
  • Personal Income
  • Combined Family Income
  • Number of Dependents
  • Occupation
  • Marital Status
  • Education
  • Existing Liabilities
  • Access to Other Inherited Sources of Wealth

Investment Horizon and Objectives

• Investment Horizon: Financial advisors need to know the investment horizon to provide proper advice and meet short-term and long-term needs.
• Objectives: The longer the investment horizon, the more risk can be integrated into financial expectations about the investments.

Risk Disclosure Document

• Definition: A document that highlights the risks involved in trading on stock exchanges and the rights and obligations of the broker and their clients.
• Purpose: To make clients understand the risks involved in trading derivatives and to get a copy of the Risk Disclosure Document signed by their clients at the time of client on-boarding.

Key Risks in Equity Derivatives

• Market Risk: The risk of the market or the stock price moving in an unfavourable direction and causing a loss to the investor.
• Liquidity Risk: The risk arising out of the investor’s inability to liquidate a loss-making position.
• Counterparty Risk: The risk arising out of the default of a counterparty to the transaction, generally not applicable to clients trading in exchange-traded equity derivatives.

Risks Specific to Clients Trading in Futures and Options

• Risks to clients trading in futures contracts: Marked to market and settled on a daily basis, requiring clients to deposit the amount of notional loss resulting from unfavourable movement.
• Risks to option buyers: Options are a wasting asset, and buyers must pay the premium when they buy an option, with the risk of losing the entire or a large part of the option premium if the option becomes worthless.
• Risks to option sellers: Option sellers face the risk of losing a substantial amount if the price of the underlying stock or index moves in an unfavourable direction, with unlimited risk.

Regulatory Focus and Risk Disclosure

• Broker-Client Relationship: Brokers must know their clients and ensure that the derivative product being sold is suitable to their understanding and financial capabilities.
• Risk Disclosure Document: Contains information describing the mechanics and risks of derivatives trading, transaction costs, margin requirements, and tax consequences of margin trading.
• Risk Disclosure Facts: Must be displayed on brokers' websites and acknowledged by clients before proceeding, including facts such as 9 out of 10 individual traders incurring net losses and average loss makers registering net trading loss close to ₹ 50,000.

Written Anti Money Laundering Procedures

• Definition: Money-laundering offense is defined as acquiring, owning, possessing, or transferring proceeds of crime, or knowingly entering into transactions related to proceeds of crime.
• Details: The Prevention of Money-Laundering Act, 2002 (PMLA) aims to prevent money-laundering and provide for confiscation of property derived from or involved in money-laundering.

Key Components of Anti-Money Laundering Procedures

• Client Due Diligence Process: Includes policy for acceptance of clients, procedure for identifying clients, and transaction monitoring and reporting.
• Customer Due Diligence (CDD): Involves obtaining sufficient information to identify persons who beneficially own or control securities accounts, verifying customer identity, and identifying beneficial ownership and control.
• Risk-Based Approach: Applying customer due diligence measures on a risk-sensitive basis, with enhanced measures for higher-risk categories and simplified measures for lower-risk categories.

Client Acceptance Policy

• No Fictitious or Anonymous Accounts: No account is opened in a fictitious or benami name or on an anonymous basis.
• Risk Perception Factors: Clearly defined factors for monitoring suspicious transactions, including client location, business activity, and payment methods.
• Documentation Requirements: Depending on perceived risk, documentation requirements may vary, and accounts should not be opened if due diligence measures cannot be applied.

Client Identification Procedure

• Know Your Client (KYC) Policy: Clearly spells out client identification procedures at different stages, including establishing the intermediary-client relationship and carrying out transactions.
• Reliable Sources: Using reliable sources, including documents and information, to identify clients and verify their identity.
• Adequate Information: Obtaining adequate information to satisfy competent authorities that due diligence was observed.

Documents Required for Customer Identification

• Individual Accounts: Requires proof of identity (PAN card, passport, etc.) and address (Aadhaar card, passport, etc.).
• Company Accounts: Requires certificate of incorporation, Memorandum & Articles of Association, and resolution of the Board of Directors.
• Partnership Firm Accounts: Requires registration certificate, partnership deed, and power of attorney.

In-Person Verification and e-KYC Process

• In-Person Verification: Compulsory for opening a trading or demat account, can be physical or online through video call.
• e-KYC Process: Allows investors to fill account opening forms online, submit scanned proofs, and complete in-person verification on video call.

Unique Client Code (UCC)

• UCC Generation: After completing the KYC process, the broker allots a UCC to the client, linked to the client's PAN.
• UCC Upload: The broker uploads UCC details to stock exchanges/clearing corporations, and the client's trading account is activated only after UCC generation and mapping.

Suspicious Transaction Reporting (STR)

• Definition: Suspicious transactions are those that appear to be related to money-laundering or terrorist financing.
• Examples: Includes clients with difficult identity verification, asset management services with unclear source of funds, and substantial increases in business without apparent cause.
• Reporting: Suspicious transactions must be immediately notified to the Money Laundering Control Officer or designated officer, and dealing with the client should continue as normal until told otherwise.

Investors Grievance Redressal Mechanism

• Definition: The Investor Grievance Redressal Mechanism is a key regulatory function of SEBI, responsible for monitoring exchanges and ensuring that investors' complaints are addressed in a fair and timely manner.
• Details: The mechanism involves the Investors Grievance Division (IGD) of the exchange, which coordinates with the member and the complainant to resolve disputes.

Key Features of the Grievance Redressal Mechanism

• Investors can approach the IGD of the exchange for redressal of their grievances.
• The exchange has a mechanism of resolving disputes by coordinating with the member and the complainant.
• Exchanges generally entertain complaints against trading members in respect of various issues, including:
  • Non-receipt of documents
  • Non-refund of margin money
  • Trades executed without adequate margins
  • Delay or non-receipt of funds
  • Unauthorized transactions
  • Trading errors
  • Servicing issues

Guidelines for Filing Complaints

• Clients should first send the complaint against the concerned member to the exchange with whom the respective member is registered and then to SEBI.
• Complaints can be in writing in English or Hindi or in any regional language and shall be duly signed by the client.
• No fee is chargeable on such complaints.
• Frivolous or vexatious complaints which are vague, anonymous or pseudonymous or trivial in nature are not entertained.

SEBI Complaints Redressal System (SCORES)

• Definition: SCORES is a web-based centralized grievance redress system of SEBI.
• Details: Complaints can be made online and acknowledgement is generated instantaneously acknowledging the receipt of complaint and allotting a unique complaint registration number to the complainant for future reference and tracking.

Online Dispute Resolution (ODR) Portal

• Definition: The ODR Portal is a transformative step in resolving disputes within the Indian Securities Market, initiated by SEBI.
• Details: The portal aims to efficiently address and resolve conflicts between investors and market participants using modern digital solutions.
• The ODR Portal addresses various grievances, including:
  • Service-related complaints
  • Trade disputes
  • Disputes related to fees
  • Product misrepresentation
  • Issues with depository participants and registrars
  • Compliance violations
  • Ethical violations

Process for Addressing Grievances

• Filing the complaint: Investors initiate the process by filing a complaint through the ODR portal.
• Conciliation: An attempt is made to resolve the dispute through conciliation, a less formal method where a conciliator helps the parties reach a mutual agreement.
• Arbitration: If conciliation fails or is deemed inappropriate, the matter may be escalated to arbitration, where an arbitrator (or panel of arbitrators) reviews the evidence and issues a binding decision.

General Do's and Don'ts for Investors

• Do's:
  • Always deal with market intermediaries registered with SEBI/stock exchanges.
  • Carry out due diligence before registering as a client with any intermediary.
  • Collect photocopies of all documents executed for registration as a client.
  • Ensure that documents or forms for registration as a client are fully filled in.
• Don'ts:
  • Deal with unregistered brokers or other unregistered intermediaries.
  • Execute any documents with any intermediary without fully understanding its terms and conditions.
  • Leave the custody of Demat Transaction slip book in the hands of any intermediary.
  • Make any payments in cash.
  • Accept unsigned/duplicate or incomplete contract notes.