Essays on regulatory aspects in Indian financial market

Abstract

Country-level legal and regulatory institutions play a crucial role in the overall economic development of the country by facilitating the raising of external financial capital, and the flow of foreign investments among others (Cumming et al., 2017). In addition, successful financial regulations in place promote macroeconomic stability and prevent market failure. In this thesis, with three essays, I examine two specific country-level national laws —the Insolvency and Bankruptcy Code (IBC) 2016 of India; and Section(11) of the Security and Exchange Board of India (SEBI’s) Act 1992 and their interplay with the Indian financial market. A combined brief summary of all these three essays have been given below. In the first essay, the trading of exchange-listed stocks which have already entered for insolvency proceedings has been examined. The essay highlights two important questions:—(a) are market participants incorporating information related to the bankruptcy event and (b) is there a lack of availability of the information in the financial market? The second essay brings another dimension of bankrupt firms. Here, the earnings management of the listed firms in their pre-bankruptcy period has been examined. This question is of special significance as earlier studies have mostly been carried out in a country where the insolvency regime is “pro-debtor” whereas the IBC of India is a leading example of a “pro-creditor” insolvency regime. Cumming and Johan (2019) argue that to properly analyse the impact of securities market regulations, an understanding of computer surveillance is a must. The third essay, thus, aims to make an additional contribution to the literature falling at the intersection of law and finance, by examining one of the surveillance actions implemented by the Indian Stock Exchanges. A separate summary of each of the three essays is provided below:Previous laws related to corporate insolvency resolution in India neither aided in “credit recoveries” by the lenders nor in the “reorganization of firms”. The Insolvency and Bankruptcy Code 2016, thus is considered as a major structural reform as it restrained managerial opportunism by making the incumbent management relinquish control over the company’s affairs, once the firm is admitted to insolvency proceedings. As a result, the impact of this pro-creditor insolvency law on the financial market is of special importance given significant amount of trading witnessed in some of these bankrupt firms1. Using a simple mathematical model, this essay shows that even to recover the initial invested amount in such stocks, it would take a significant amount of time to recover the original money. In this study, the concept of “insolvency tub” has also been introduced indicating a clear difference between the “true price” and “market price” of the firm resulting from information asymmetry among the market participants. Thus, this essay poses a crucial policy question—How reasonable it is for the regulators to allow continued trading in such stocks, given the confidential treatment of the resolution plan would lead to information asymmetry in the market? The findings from this study does not only contribute to the literature on the trading of stocks of bankrupt firms but also alerts policymakers and regulators about market inefficiency at the time of insolvency proceedings.