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SEBI Chairperson on finfluencers, AI, and regulatory sandboxes

“We respect that there is freedom of speech in our country…But if it crosses that line and becomes enticement, entrapment, fraud, then that’s not okay,” SEBI Chairperson said at a recent event.

SEBI Chief Madhabi Puri Buch's Address At Global Fintech Fest 2023. Image Source: MoneyControl video on YouTube

Financial influencers (finfluencers) have the freedom of speech and expression to do what they do but if they are going to work with entities regulated by the Securities and Exchange Board of India (SEBI), then they need to be registered with the Board, SEBI Chairperson Madhabi Puri Buch said on September 5 at the Global FinTech Fest in Mumbai, echoing a consultation paper put out by the Board in August that proposes a ban on regulated entities from working with finfluencers.

Buch also spoke about the role of AI in the securities market, the cybersecurity measures the ecosystem is implementing, and the steps taken by the regulator to encourage innovation through regulatory sandboxes.

What does SEBI think of finfluencers

“We respect that there is freedom of speech in our country. We respect that there’s freedom of expression. We respect that if people are doing genuine education, we respect all that. We have no problem with it. But if it crosses that line and becomes enticement, entrapment, fraud, then that’s not okay,” Buch responded when asked about her thoughts on finfluencers.

Her comments come at a time when there have been increased calls for regulation of the sector because of multiple instances of finfluencers sharing fake profit-and-loss screenshots to boost their credibility. We have an in-depth explainer on this issue if you’re interested.

If finfluencers want to work with regulated entities, they need to be registered with SEBI, Buch stated.

“We have no desire to bring all tech platforms under our jurisdiction. But if you are not following our rules, then the people who are following our rules, the people who are registered with us, they cannot have any dealing with you. It cannot be that people who are expected to follow the rules and do follow the rules, partner with people who have no rules. Because then by definition, the whole ecosystem doesn’t have rules,” Buch opined, suggesting that regulated entities cannot work with unregistered finfluencers to do what they otherwise are prohibited from doing.

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How AI can be leveraged in the securities market

Buch said that artificial intelligence (AI) presents a huge opportunity for fintechs that want to come in as well as for the regulator itself to improve how it does regulation.

How AI will help SEBI come out with tailored regulations for entities: “There is a very typical thought process which is prevalent in the mind of a regulator saying it takes just one bad apple to ruin the whole pie. Many of our regulations have traditionally been based on this assumption. But we believe that this assumption is now ripe for disruption. […] What artificial intelligence will allow us to do is to actually differentiate between the good apple and the bad apple at a much more granular level. Therefore, we believe this will allow us to take regulation to a level where the risk management will be almost custom fit for the entity. It will become a situation where if the entity has really managed its risk well and has demonstrated all the parameters of being a good apple, then the level of regulation that will apply, the level of supervision that will apply, and so many other things that would apply would automatically be of a lower level,” Buch explained.

How AI can be leveraged by fintech companies to analyse the vast amount of information submitted by companies: SEBI has primarily focused on disclosure-based regulation to a point where the Board has sometimes wondered if they made disclosure reach a level where it has become information overload. “Has it reached a level where people now actually cannot make out what they are supposed to make out of the disclosure? This was a thought that was worrying us,” Buch remarked. “But now, as we see the way that artificial intelligence is evolving, we believe that whether it is in the space of disclosures made by listed companies or by mutual funds or by PMS managers or investment managers, anybody in our domain, those disclosures, if artificial intelligence is applied on them, this can become the tool for giving very high-quality input and advice to possibly every citizen of the country at a very granular level. This is the potential that we believe that artificial intelligence and fintechs can leverage,” Buch added.

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How SEBI is encouraging innovation in the securities market

The Chairperson touted two regulatory sandboxes that have been introduced to promote innovation in the securities market: the Innovation Sandbox and the Regulatory Sandbox.

Innovation Sandbox: “The concept behind the Innovation Sandbox was that when a young company with young people wants to do something innovative, the first challenge that they face is how do they get the data and access to the ecosystem to actually be able to test out whether their application works or not. Therefore, what we did was to make this ecosystem, the APIs, the system itself, from our exchanges, our clearing corporations, our mutual funds, all of this to be available for testing along with test data. If anybody needs to come and try out their idea, here is a place that you can come and try it out. In fact, I think what we are happiest about in this is that the eligibility criteria for this is practically nil. You only do your KYC and get started,” Buch said.

Regulatory Sandbox: “In the innovation sandbox, you don’t need to be a regulated entity. We have a regulatory sandbox where you’re actually allowed to go and operate in the live environment. For that, you need to be either a regulated entity or tied up with a regulated entity because the SEBI Act doesn’t allow us to do otherwise,” Buch added.

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Why have many applications for the Innovation Sandbox been rejected? “There has been only one application which has been approved till now, and I think 10 others have been rejected or withdrawn. What exactly are the challenges on the regulatory side that you’re seeing based on the applications that are coming?” a member of the audience asked the SEBI Chairperson, to which she responded by outlining the following issues with the proposals received by the regulator:

  1. Entities don’t submit new ideas: The Innovation Sandbox is meant for new ideas and not for startups trying to do something that’s already in practice. “Very often what we find is that the applications which are coming are actually not new at all. […] I’m taking a very plebeian example. There are already regulations for brokers. Somebody wants to come in and do broking itself. No matter what they may put on the application, when you have that discussion and debate with them, it’s basically a form of broking only. In which case there is a normal route available to you and you can come through that normal route, there’s no need for you to come through this platform. This is one of the principal reasons the applications get rejected,” Buch explained.
  2. Entities submit ideas that the SEBI Act does not permit: Startups sometimes ask to be allowed to do something which the SEBI Act does not permit. “I’ll give you an example. Something that we were very keen to do, we could not do. For instance, fractional shares. Now, somebody came with that. We thought it was a good idea. We would have wanted to welcome them into the Innovation Sandbox. But it is not permitted in the SEBI Act itself. Until we change the Companies Act and the SEBI Act, even if we let them into the sandbox, it’s not going anywhere from there because the law simply prohibits it,” Buch pointed out.

Cybersecurity measures being implemented

SEBI is working on new mechanisms to deal with broker and exchange or clearing corporation (CC) failures. These entities have implemented a new system that ensures trading continues even in the event of one exchange or CC going down. “So if one clearing corporation or exchange goes down, that data is taken and actually uploaded onto the software system of the second exchange,” the SEBI Chairperson said

The regulator is also implementing a mechanism where if a broker goes down, the client of that broker will have direct access to the exchange in order to manage his position for risk reduction and to close out his positions.

These are two “slightly non-traditional approaches to cybersecurity, which is much more of a community approach or ecosystem approach,” Buch stated.

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