Research shows how information leaks in India's Offer for Sale mechanism undermine market integrity and demand proactive, tech-driven surveillance.

The pursuit of market integrity is a constant endeavour for financial regulators worldwide. In India, our efforts to enhance public shareholding through mechanisms like the Offer for Sale (OFS) are vital for fostering liquidity and good governance.

However, recent research co-authored with Dr. Niti Nandini Chatnani, Professor, Indian Institute of Foreign Trade in New Delhi, and published in the Review of Behavioral Finance reveals that even well-intentioned mechanisms can harbour vulnerabilities that demand urgent attention from policymakers.

Our study, which analysed 39 OFS cases on India's National Stock Exchange (NSE) between March 2012 and July 2023, uncovered a concerning pattern: the leakage of sensitive "floor price" information.

The floor price, announced just days before an OFS, is meant to ensure fair pricing. Yet, our quantitative analysis, drawing on data from NSE Cogencis and Bloomberg terminals, shows that for Public Sector Undertaking (PSU) companies, significant price declines occurred in both the cash and derivatives segments before OFS announcements.

This strongly suggests that critical, price-sensitive information was leaking into the market prematurely. While non-PSU companies exhibited this pattern in the cash segment, the dual-segment leakage in PSUs is particularly striking.

Tangible consequences

This isn't merely an academic observation; it has tangible consequences for market fairness. Such information leakage creates unfair arbitrage opportunities, allowing certain market participants to profit at the expense of others. It erodes investor confidence and ultimately compromises the integrity and efficiency of the capital markets.

From the perspective of market participants, these consequences are deeply felt. For institutional investors, such leaks create an unlevel playing field, where those without privileged access are put at a distinct disadvantage. It introduces significant uncertainty into their valuation models and can lead to material losses if they purchase shares just before a leaked floor price triggers a stock decline.

For brokers, the environment becomes fraught with risk. They face the dual challenge of protecting their clients from unfair market movements while ensuring their own trading desks are not implicated in any regulatory investigations into potential insider trading, which carry severe reputational and financial penalties.

The 2014 SEBI investigation into Factorial Master Fund, which allegedly exploited leaked floor price information in an L&T Finance Holdings Limited OFS, serves as a stark precedent for the real-world impact of these vulnerabilities. More recent enforcement actions, such as SEBI’s order against individuals involved in insider trading in Infosys shares ahead of a major partnership announcement, show these vulnerabilities persist.

India's OFS mechanism, while a crucial tool for meeting Minimum Public Shareholding (MPS) requirements, highlights a broader challenge faced by many emerging markets: how to balance growth with robust regulatory oversight.

The issue of information leakage in particular has not diminished in relevance. Every subsequent OFS transaction is a new test for the existing framework. Our findings highlight that current surveillance frameworks, while necessary, may not be sufficient to prevent sophisticated forms of information leakage.

Addressing gaps

To address these critical gaps, our research proposes a comprehensive, three-pronged surveillance framework that offers a blueprint for regulators not just in India, but across APAC:

1. Enhanced Transparency Measures: We advocate for mandatory disclosure of all substantial trading activities in both cash and derivatives segments within a five-day window preceding the OFS floor price announcement. This complements existing measures like the phased implementation of freezing PANs at the security level for designated persons during trading window closures. Setting clear thresholds would provide regulators with the necessary data to identify anomalies before they escalate.

2. Proactive Rumour Verification Protocols: Before any OFS floor price announcement, strict protocols should be in place to verify market rumours, especially those linked to unusual price or volume movements or irregular order sizes. Market participants linked to such anomalies should be required to provide clear explanations, with non-compliance leading to swift regulatory action. SEBI's recent large-scale probe into pump-and-dump schemes underscores the necessity of this proactive approach to nip potential manipulation in the bud.

3. Real-time, AI/ML-driven Surveillance: The future of market oversight lies in technology. We propose continuous, real-time monitoring of trades in both cash and derivatives segments during the critical pre-announcement window. Leveraging advanced AI and machine learning tools, integrating data from various sources, and developing sophisticated anomaly detection algorithms can enable regulators to identify and prevent suspicious activities like market manipulation or insider trading as they unfold, moving from reactive enforcement to proactive prevention.

Recent statements from SEBI officials increasingly emphasised the regulator’s commitment to leveraging technology, including artificial intelligence (AI) and machine learning, to strengthen market surveillance and preemptively detect anomalies. This suggests that the groundwork for a more technologically advanced oversight regime is already being laid.

According to its latest annual report, SEBI has already been intensifying its market oversight, more than doubling its inspections of stock brokers to 312 in FY25 compared to just 146 in the previous year. On the enforcement front, SEBI initiated 287 investigations into insider trading cases during FY25, up from 175 in the previous year.

Forward-looking framework

Our proposed blueprint, therefore, serves not as a critique of past efforts, but as a forward-looking framework that supports and provides a detailed structure for this ongoing regulatory priority to combat market abuse and safeguard retail investors.

India’s experience with the OFS mechanism offers invaluable lessons for its regional counterparts. Many APAC jurisdictions employ similar methods, such as Secondary Public Offerings (SPOs) or block trades, and face analogous challenges in ensuring information symmetry.

Our proposed surveillance measures can serve as a practical template for fostering fair trading practices, strengthening regulatory effectiveness, and ensuring market stability across diverse capital markets in the region.

As we continue to build robust and transparent financial ecosystems in APAC, it is imperative that we proactively address these vulnerabilities. Our research provides empirical evidence and actionable recommendations that can help regulators fortify their oversight, protect investors, and ultimately enhance the integrity of our markets.

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By Saurabh Maheshwari, a finance and policy research professional with previous roles at India's Ministry of Finance (DEA-AJNIFM Research Programme) and NSE IFSC Limited, GIFT- IFSC, Gandhinagar, Gujarat. He is also a Research Scholar at Indian Institute of Foreign Trade, New Delhi.