(Part 3)
SEBI:
The Stock Market’s Failed Judge, Jury, and Executioner
An average investor in India, pours savings into stocks, hopes for a brighter financial future. Then another scam hits the news. Someone pockets crores by gaming the system. People wonder why this keeps happening. The Securities and Exchange Board of India is supposed to be the market’s watchdog, armed with powers unlike any other institution in India. It acts as judge, jury, and executioner, with only a narrow path for appeals. Yet despite this immense authority, SEBI’s track record remains dismal. Scams keep appearing. But the real scandal is not what SEBI catches. It is what SEBI enables.
The Scams SEBI Catches
Stock market scams in India follow familiar patterns. Front-running happens when brokers or fund managers know a big client is about to buy shares. They sneak in their own buy order first, ride the price bump, and cash out. In 2021, Viresh Joshi at Axis Mutual Fund allegedly made ₹200 crore through front-running trades. SEBI’s probe led to ₹17.4 crore in seized assets.
Pump-and-dump schemes work differently. Scammers buy cheap, obscure stocks. They hype them with fake news or WhatsApp buzz. They dump their shares when prices soar. Regular investors hold worthless stock. SEBI’s 2024 raids across seven cities targeted groups using social media for these schemes.
Insider trading involves someone with secret company information trading before news goes public. It cheats the average investor out of fair opportunity.
Price rigging and circular trading create fake demand through bogus trades. Scammers trade among themselves to spike prices. Computerized trading starting with the National Stock Exchange in 1994 reduced this. But clever scammers keep finding new ways.
SEBI is not just a regulator. It investigates, passes orders, and slaps penalties like ₹25 crore fines or market bans. Appeal options are limited, mainly through the Securities Appellate Tribunal or rarely the Supreme Court. No other Indian institution has this kind of unchecked authority over an entire sector. Yet despite this muscle, SEBI’s performance disappoints. More troubling, its own policies enable exploitation far larger than the scams it catches.
The Scams Enabled by SEBI
SEBI catches retail traders and mid-level operators breaking rules. Data mining spots unusual patterns like sudden price jumps or suspicious trade timing. This is how they caught Joshi’s front-running and the 2024 pump-and-dump gangs. These cases make headlines. Assets get seized. Penalties get levied. SEBI looks busy.
But there is a much bigger problem. SEBI’s own regulations create systematic exploitation of retail investors by large players. This exploitation dwarfs every scam SEBI has ever caught. Yet it is not called fraud because SEBI designed it.
The mechanism is simple. Large speculators operate a pump-and-dump scheme that SEBI’s policies facilitate. They accumulate shares in the cash market, driving up prices. Retail investors see momentum and pile in with their cash positions. Meanwhile, large speculators enjoy monopoly access to derivatives. They load up on short positions or sell massive quantities of call options. Then they dump their cash holdings. Prices crash. They collect enormous profits on derivative positions. Retail investors cannot hedge because SEBI bars them from derivatives through prohibitive lot sizes.
The Finance Minister herself has stated on record that India’s retail and small investors hold the market stable. They offset sales by foreign institutional investors. When foreign money flees during global turbulence, steady retail hands prevent catastrophic crashes. This is official acknowledgment from the highest government levels that retail investors are the backbone of market stability.
Yet SEBI maintains policies treating these stabilizing retail investors as incompetent fools. Derivatives contracts require minimum values of ₹5 lakh, now moving to ₹15 lakh. A retail investor with ₹50,000 can buy 500 shares in the cash market, taking full downside risk. But that same investor cannot buy a protective put option because the minimum contract size is ₹5 lakh. SEBI protects retail investors by preventing them from protecting themselves.
This creates a two-tier market. Large investors and institutions hedge positions, deploy sophisticated options strategies, and manage risk efficiently. They access the full toolkit of modern finance. Small investors face forced unhedged cash positions. They are more vulnerable to crashes. They cannot use instruments that could safeguard their capital.
The Performance Metrics
SEBI measures success by cases caught, fines levied, and assets seized. By these metrics, SEBI shows activity. The Axis Mutual Fund case saw ₹17.4 crore in seized assets. Jane Street’s 2025 ban showed SEBI can tackle foreign players. The 2024 raids hit pump-and-dump scammers.
But these metrics miss the point. The right questions are different. Is the market fair? Can retail compete on equal terms? Are policies evidence-based? Do regulations enable or prevent systematic exploitation?
By these real metrics, SEBI’s performance is worse than dismal. SEBI catches a broker making ₹200 crore through front-running. But its lot size policies enable large players to extract billions from retail investors who cannot hedge. SEBI raids pump-and-dump operators using WhatsApp. But its uniform margin requirements push traders toward riskier ITM option selling instead of conservative OTM strategies. SEBI bans foreign firms for trading violations. But its lot sizes ensure only firms with massive capital can participate, creating the oligopoly it claims to prevent.
The Policy Failures
SEBI relies heavily on data mining. It scans millions of trades for suspicious patterns. This catches individual rule violations effectively. A broker trades ahead of client orders. Data mining spots the pattern. Investigation follows. Penalties result.
But data mining cannot catch structural exploitation that is the rules themselves. When large players pump stocks in cash and dump via derivatives while retail is locked out, no rule is violated. The system works as designed. SEBI created this structure. Data mining will never flag it as fraud because SEBI does not consider it fraud.
The regulator also avoids spelling out scams clearly. SEBI worries that listing every known scam might give fraudsters a playbook. So the PFUTP Regulations use vague legal language like prohibiting manipulative devices and deceptive artifices. This is great for lawyers but useless for regular investors who do not know what these terms mean in practice. The bureaucratic caution leaves investors clueless about what to watch for.
Recent Regulatory Failures
SEBI’s recent margin regulations reveal how policies create new problems while claiming to solve old ones. Now peak margin rules required 100% upfront collection of margin throughout the trading day. The stated goal was preventing over-leveraged positions. The actual effect was killing any capital efficiency for retail while large institutions absorbed the requirements easily.
SEBI also mandates that margin benefits for hedged positions disappear on expiry day. A trader constructs a careful spread with limited risk. SEBI grants margin relief for the hedge. Then on expiry day, when the hedge matters most, SEBI removes the benefit. Traders must square off or suddenly provide full margin. This forces exits at bad prices. It creates predictable panic.
The panic is not random market behavior. It is regulatory design. Everyone holding hedged spreads must adjust positions in a narrow time window. Markets know this is happening. Large players with capital to absorb margin hits or those unaffected by the rules profit from the forced flow. Premium collapses rapidly on expiry days not from natural trading but from SEBI-induced panic.
SEBI treats OTM and ITM options identically for margin purposes. This makes no economic sense. In the United States and Europe, regulators charge less margin for OTM options because they carry lower risk. ITM options face higher margin because assignment probability is greater. SEBI charges the same margin for both. Worse, premium collected from selling options gets credited the next day, not immediately. In developed markets, premium offsets margin requirements right away. SEBI’s approach ties up capital inefficiently.
The effect is pushing traders toward riskier positions. An OTM option sale might collect ₹5,000 premium against ₹50,000 blocked margin. An ITM option sale collects ₹25,000 premium against the same ₹50,000 margin. Traders looking at return on capital employed naturally gravitate toward ITM selling. But ITM options carry far higher assignment risk and potential loss. SEBI claims to curb speculation while creating incentives for riskier speculation.
Critical Failure of SEBI
Two explanations exist for SEBI’s failure to address these issues. The first is regulatory capture. Large institutional players benefit enormously from retail exclusion. They maintain their edge, their monopoly on sophisticated tools, their ability to exploit defenseless counterparties. When they advise SEBI about protecting retail investors, they mean keep them out so we can keep exploiting them. Because only institutional voices reach SEBI’s corridors, that perspective shapes policy.
The second explanation is ideological blindness enabled by isolation. SEBI genuinely believes retail equals unsophisticated money requiring protection from itself. This patronizing view persists because the regulator never interacts with retail investors who could demonstrate their understanding of risk and need for proper tools. When you make policy about people without talking to them, you rely on assumptions. Those assumptions go unchallenged because the people who could challenge them have no access.
SEBI actually considered banning retail from option selling outright. The problem was defining who counts as retail. By income? Net worth? Account size? Any line drawn would be arbitrary and legally challengeable. Unable to define who to ban, SEBI banned through economics. Lot sizes of ₹5 lakh rising to ₹15 lakh create a wealth filter. Most retail investors cannot lock up ₹1.5 to 2 lakh margin per position. SEBI achieved a ban without calling it a ban.
Real Reforms in Market
SEBI needs structural changes, not minor adjustments. First, mandate retail investor consultation on all major rule changes. Create online polls. Hold town halls. Send surveys. Give retail investors actual voice in the room where policy gets made. The people affected by regulations should participate in creating them. (As argued in Part 2 of this series of articles)
Second, implement risk-based margins like the United States and Europe. Charge lower margins for OTM options with lower risk. Charge higher margins for ITM options with greater assignment probability. Credit premiums immediately to offset margin requirements. Remove the expiry day margin benefit withdrawal that creates forced exits and exploitable panic.
Third, lower lot sizes dramatically. Contracts should be accessible with ₹50,000 to ₹1 lakh, not ₹5 to 15 lakh. The Finance Minister praises retail for market stability. Let them bring that stability to derivatives by actually accessing the tools. Small lot sizes do not increase risk. Position limits and individual margins scale appropriately. High lot sizes only create oligopoly.
Fourth, acknowledge that current policies serve institutional interests while harming retail. Stop pretending that locking retail out of derivatives protects them. It exposes them to unhedged risk in cash markets where large players can manipulate prices through derivatives monopoly. Protection should mean enabling risk management, not preventing it.
Conclusion
SEBI has come far since its powerless origins. The Harshad Mehta and Ketan Parekh scams drove its transformation into an institution with unchecked authority. It can investigate, judge, and punish with minimal oversight. No other Indian regulator has comparable power.
Yet this power produces disappointing results measured by what matters. It appears that SEBI is operating in collusion with big financial players. This is the impression without any proof. The earlier the SEBI, dismantle this image, the better it will be. There shall be a part 4 of this series of article explaining that SEBI is fighting with gravity.
SEBI’s dismal performance is not about insufficient resources or missing a few scams. The problem is structural. The regulator’s policies enable the largest ongoing exploitation in Indian markets while it chases smaller violators. Until SEBI breaks its ivory tower isolation, and designs policies based on evidence rather than institutional lobbying, retail investors remain prey in a system designed to hunt them.
The watchdog is not sleeping. It is guarding the wrong door while the real theft happens through the window it built.