New Delhi: Unearthing a major insider trading case in shares of L&T Finance, SEBI Thursday barred a Cayman Islands-based hedge fund from Indian securities markets, while the role of other entities including some employees of investment banking major Credit Suisse are also under scanner.
This hedge fund, Factorial Master Fund, traded in derivative contracts of L&T Finance with Offshore Derivative Contracts (commonly known as P-Notes) through five different FIIs (Foreign Institutional Investors) -- namely Macquarie Bank, Goldman Sachs Singapore, Merrill Lynch CM Espana, Nomura Singapore and Citigroup Global Markets Mauritius Ltd -- in an "aberrant and suspicious" manner.
Besides, a probe by the capital markets regulator found that Factorial was involved as potential investor in the market gauging exercise undertaken by Credit Suisse as 'Seller Broker' of L&T Finance for its Offer for Sale (OFS) in March.
The order does not affect L&T Finance or its promoters as such.
Finding Factorial prima facie guilty of having violated various regulations including those for prevention of insider trading and prevention of fraudulent and unfair trade practices, SEBI said the fund traded on the basis of its access to 'unpublished price sensitive information' (UPSI).
It, however, added that the entire channel for flow of 'unpublished price sensitive information' in this case needs to be further investigated.
"It may be mentioned in this regard that as per its submissions, investment banking team of Credit Suisse had contacted Factorial in relation to the OFS of L&T Finance.
"On examination of Bloomberg chat transcripts provided by CS, it is observed that on March 13, 2014, information like, 'likely to come in at a steep discount about 70 types' was being circulated amongst the members of Equity team of Credit Suisse," SEBI order said.
In this chat, '70' apparently referred to the price for sale of shares in the OFS, the floor price for which was actually later fixed at Rs 70 per share.
"It is noted that this message from one CS employee to another in the Equity team was sent at 09:21:24 much before the formal announcement of OFS and the floor price at 21:22:00 on the same day.
"At this stage, however the channel of communication of the 'unpublished price sensitive information' is not ascertainable as various stakeholders such as seller, Seller Broker, their employees, potential investors, etc are involved in the whole process.
"In my view, this aspect needs thorough investigation so as to come to a definite conclusion," SEBI's Whole-Time Member Rajeev Kumar Agarwal said in his seven-page order.
SEBI has restrained Factorial from dealing in securities in Indian securities market (including through Offshore Derivative Instruments), as also from accessing the Indian markets, directly or indirectly, till further orders.
The fund has been asked to file its reply, if any, to SEBI within 21 days.
SEBI said that the dealings of Factorial "are prima facie inimical to the interests of participants" in the securities market.
"It is noted that Factorial still has open position of 62.08 lakh shares in cash market and the same quantity in F&O segment on the short side in 1552 derivative contracts.
"In the facts and circumstances of this case, it is incumbent to intervene promptly in the interests of investors and to safeguard the market integrity," it stated.
The Securities and Exchange Board of India (SEBI) had begun its probe in this case after it observed abnormal movement in the share price of L&T Finance Holdings Limited.
SEBI observed that on March 13, 2014 -- the day on which the shares of L&T Finance were included in the F&O segment -- the future contract price dropped by more than 10 per cent.
In cash segment, the scrip opened at Rs 86, rose to Rs 88 and then dropped by more than 10 per cent close at Rs 79.20.
It was also observed that in the late evening on March 13, the company's promoter, L&T, made announcements with regard to its planned Offer for Sale exercise and appointment of Credit Suisse as 'seller broker'.
As per requirements under Minimum Public Shareholding norms, L&T was obligated to reduce its shareholding in L&T Finance to 75 per cent by August 2014.
It had disposed of one per cent of its shareholding in L&T Finance on December 23, 2013 (through a market sale), and it had to further offload a total of 6.46 per cent stake to meet the norms after expiry of requisite 12 weeks cooling-off period that was expiring on March 17, 2014.
L&T had sought exemption from the 12-week mandatory cooling-off period which was allowed by SEBI through a letter dated March 13, 2014.
During preliminary inquiry, L&T submitted that on March 10, Credit Suisse was mandated by it to launch the OFS within the next 2-3 days based on the market conditions and potential investor interest for the proposed OFS.
L&T later submitted before SEBI that Credit Suisse had given updates on general pulse of the market and the trends over four days from March 10-13 and and also informed that investors would seek a good discount to buy shares.
On its part, Credit Suisse submitted before SEBI that in order to gauge market sentiment for the scrip, between March 10-13, its team held discussions with over 70 institutional investors which included their direct clients and potential investors which typically invest in India through ODI route.
On examination of order book and trade data in cash and derivative segments, SEBI found that on March 13 -- when the shares of LTFH were included in F&O segment -- four FIIs had taken substantial short positions which contributed around 86.83 per cent of the market wide open interest (OI) on the short side.
These short positions were built on March 13 much before the formal announcement of OFS and floor price at 21:22:00 hours on the same day.
Further, none of these FIIs had any offsetting position in cash segment or equivalent holding of shares of L&T Finance in their demat accounts, SEBI said, while adding that the position of these FIIs was a net short position on the stock.
"On examination of information provided by these FIIs regarding their trading in the derivative contracts of L&T Finance, it was observed that these FIIs had executed the most of these trades (96.74 per cent) on behalf of an Offshore Derivative Instrument (ODI) client Factorial Master Fund which is domiciled in Cayman Islands and operates as a hedge fund.
In addition to these trades, Factorial created a short position of 10 derivative contracts through Citigroup Global Markets Mauritius Private Limited.
On examining the trading of these FIIs on behalf of Factorial in derivative segment, it was noted that Factorial built a short position of 5,309 derivative contracts of L&T Finance on March 13, which is equivalent to 2,12,36,000 shares or 84.15 per cent of market wide open interest built during the day in the scrip.
After taking such an unusually aggressive short position in the F&O segment, Factorial took a reverse position of 2,75,10,484 share in the cash market by subscribing to the OFS at a price of Rs 71.50 on March 14.
By taking the said position, Factorial locked-in a profit of approximately Rs 20 crore based on the difference between the average price at which the short position was created and the OFS subscription price of Rs 71.50.
"The facts that it did not have any previous exposure in the securities of LTFH and that it used five different FIIs for its trades in derivatives contracts of LTFH , make its trades even more aberrant and suspicious.
"It is highly unlikely that one who does not have any exposure in the scrip will take such an aggressive short position - which is quite contrary to the market behaviour on that day as 84.15 per cent was built by Factorial only- unless it had some definite information about fall in price of the scrip in near future," SEBI said in its order.
The regulator said that "the facts and circumstances create strong suspicion that Factorial built aforesaid unusual and aggressive short position in the F&O segment ahead of the OFS on the basis of the unpublished price sensitive information, which it had received or had access to, regarding the likely floor price of the OFS.
"The source through which Factorial might have got the information can be established only after detailed investigation in the matter," SEBI said, while adding that it can be "safely inferred" that Factorial is covered by definition of 'insider' in this case.
