Is your stock
broker cheating you? Here's how you can avoid being duped
By Sanjay Kumar Singh,
ET Bureau | 16 Dec, 2013, 08.00AM IST
When Delhi-based Shyam
Sundar was hospitalised this year, his wife received several calls from the
relationship manager of his stock broker. He wasn't calling to ask how her
husband was doing, but for permission to transact in the futures and options
(F&O) segment on Sundar's behalf. Though she told him to wait till her
husband had recovered, the relationship manager went ahead and executed the
transactions. When Sundar got home from hospital, he discovered that the
unauthorised transactions ..
This horror story has a
somewhat happy ending. Sundar complained to the broking house, but they claimed
he had authorised the transactions. An adamant Sundar demanded proof and
threatened to complain to the Securities and Exchange Board of India (Sebi).
That's when the broking house gave in and made good the loss he had incurred
due to the rogue deals.
Sundar won because he had an
airtight case. The broker had no evidence that the deals had been authorised.
Sebi rules make it mandatory for brokers to maintain records of telephone calls
with clients. However, not all investors are so lucky. Brokers manage to get
away by exploiting loopholes in the law. They are able to do so because few
investors are aware of the rules or their rights. In our cover story this week,
we look at the tricks that brokers deploy to take investors for a ride, and
how ..
DON'T SIGN AWAY YOUR RIGHTS
The
first pitfall comes at the time of opening a trading account with a broker. You
are given a lengthy application form and a voluminous agreement booklet with
clauses in small print. Very few investors have the patience to go through the
fine print or the ability to decipher the legalese. The relationship manager
helpfully puts crosses at the places you need to sign on the agreement. Do so
without reading the clauses and you could be headed ..
What should you do?
Take
time to go through the form and the agreement. In particular, pay attention to
the power of attorney (PoA) section. The PoA allows the broker to transact on
your behalf. When you sign on the dotted line on the PoA pages, you basically
sign your rights away. In 2010, Sebi issued new guidelines for PoA to
intermediaries following large-scale complaints of misuse.
These
new rules curtailed some of the actions that a broker could take on your
behalf. Even so, a broker can transfer shares sold by you to the stock
exchange, pledge stocks to meet your margin requirements, and apply for mutual
funds, IPOs, rights, and offer of shares based on your instructions. He can also
transfer funds from your bank account for your settlement obligations and
margin requirements, as well as recover dues of your trading activity or other
charges.
Some investors blindly sign
on the form with a brokerage firm and give PoA for moving funds from their bank
accounts, whenever required. They do so because it is very convenient. When
they place orders on phone, the money automatically moves from their savings
accounts to their trading accounts. However, this convenience can cost them
dearly if their brokerage firm executes unauthorised trades from their
accounts. Ideally, the investor should transfer money from his savings account
to the brokerage account whenever needed.
The broker cannot execute
trades without the client's consent or transfer funds from his bank account to
conduct transactions with another broker. He cannot also transfer stocks for
off market trades or merge the balance from other accounts to nullify debit in
any other trading account.
DON'T CHURN AND BURN
Once
you sign up as a customer, the stock broker will start bombarding you with
phone calls, stock recommendations and SMSes, all of which will urge you to buy
this stock or sell that one. The tempo rises when the markets are on the
upswing. "If you don't buy now, you could miss out on a multi-bagger
opportunity," your broker will tell you.
Before you fall for the
bait, remember that the broker makes money every time you transact. His goal is
to get you to buy and sell at a furious pace. When you do so too often, it's
certain that your costs will go up. What is not so certain is whether you will
make profits. However, your broker may not care. Whether you make or lose
money, he will earn his brokerage fee.
What should you do?
When
you buy a mutual fund, your money is invested across a basket of well-chosen
stocks. You can be sure the fund manager and his team have researched the
stocks threadbare before including them in the portfolio. Investing on the
basis of tips from your broker is a different ball game. The risk is
considerably higher and avoidable. Do not blindly accept the broker's recommendations. Instead, for
each suggestion, conduct your own checks. Are the company's fundamentals sound?
Is the valuation attractive?
Similarly, when the broker recommends a sale,
find out whether the company's fundamentals have been irreparably damaged. Or
has the stock become over-valued? Don't let your broker force you to take buy
and sell decisions.
It's often said that if your
stock portfolio can beat a mutual fund or the broader market, you are in the
wrong profession. Check the returns from your stock investment. "If, after
a year or so, you find that your direct investment portfolio has underperformed
a broader index, such as the Sensex or the Nifty, quit direct investing and put
your money in actively managed funds or low-cost index funds," suggests
Vishal Dhawan, head of Mumbaibased financial planning firm Plan Ahead Wealth
Advisors ..
DON'T BE LURED INTO THE F&O
TRAP
Warren
Buffett calls them the financial weapons of mass destruction. Though
derivatives have their uses, these leveraged instruments can become very dangerous
in the hands of retail investors. Still, the F&O segment has a very high
retail participation. This is also the area where the maximum cases of
unauthorised trading take place.
It's easy to lure clients into this financial
equivalent of a minefield. Relationship managers of brokerage houses tell
stories of how they have made fabulous sums of money for clients by trading in
F&O. Customers often give consent to the relationship manager to trade on
their behalf. More often than not, losses follow and the customer is left
holding the can.
What should you do?
Derivatives are essentially
meant for hedging and should have no place in the small investor's portfolio.
Nip the problem in the bud and don't opt for trading in the derivative
segment when you fill up the account opening form. Says Kunal Pawaskar, head of
Capital Orbit, a Mumbai-based investor education firm: "Novice investors
who don't understand derivatives should not opt for this segment at all."
If you have already signed
up for investing in the F&O segment, avoid the temptation to trade in it.
While you can indeed make lots of money in this space, you can also incur steep
losses. Don't get swayed by the relationship manager's promises to earn big
money. Under no circumstance should you give him the authorisation to trade in
F&Os on your behalf. Keep a close eye on all the SMSes and e-mails from
your broker (alerts to customers after every transaction have become mandatory).
Besides the brokerage
commissions, another source from which brokers make money is by getting you to
engage in margin trading. Under this arrangement, the broker lends you money to
trade against the stocks lying in your account. Like F&O, margin trading is
also a leveraged position and should be avoided by retail investors. If the
stock drops, you lose on two counts: on the value and the interest that you
will have to pay.
DON'T BELIEVE ALL BROKERAGE
REPORTS
Brokerage
houses regularly come out with reports on stocks. Before you base your decision
on these reports, keep in mind that the financial services industry is facing a
crunch.
With commission rates on the
decline, most brokerage firms are not making much money from this source. The
larger slice of their earnings comes from investment banking: helping companies
raise capital through public issues of shares and bonds. A firm that wants to
get the investment banking mandate from a company would hardly issue a negative
report on it. Not surprisingly, the number of 'buy' reports exceeds 'sell'
reports.
What should you do?
Should
you then rely on brokerage house reports? Yes, but with a few caveats.
Gathering information on a company is difficult. You may read its annual
reports and track reports on it in the business media. Nonetheless, you may
miss out on crucial information because the management only reveals such
information to analysts.
Read brokerage reports, but
not from just one brokerage house. See what different analysts have to say
about a company's fundamentals. When it comes to assessment of forward
earnings, valuation and target price, make your own judgement.
Dhawan says one should not
consider only the firm's growth prospects highlighted in the report. "Pay
equal attention to the risk factors," he adds. Many reports also carry a
history of past recommendations. See how you would have fared if you had acted
upon them.
Do not blindly follow the
broking house's buy and sell calls. In fact, if you decide to be a buyand-hold
investor, who holds stocks for at least three years, you will cut out much of
the noise that emanates from brokerages.
Investment analyst R
Balakrishnan says your only chance of getting unbiased reports is from
independent research firms that make their money by selling their research
reports and don't have investment banking arms.
"There are very few
such firms because research is costly and most investors are reluctant to pay
for it," he adds. Canadabased Veritas is one example of an independent
research firm.
ENSURE TRADING AND BROKING ARE
SEPARATE
Brokerage
houses employ traders, who use the firm's capital to trade in the stock
markets. This is called proprietary trading. Firms also trade on their clients'
behalf. Typically, brokerage firms are required to maintain separate books for
their proprietary trades and the ones they conduct on their clients' behalf.
Sometimes, however, the firewall breaks down. Traders use clients' money to
trade. When they sustain losses, only does their firm suffer, but the clients,
who never authorised these trades, also take a hit.
What should you do?
You
may make enquiries at the brokerage house. In all likelihood, the firm will fob
you off with replies to the effect that the separation of proprietary trading
and client trading is treated as sacrosanct at their firm.
A better way of avoiding
falling prey to this misuse is not to keep excess money in your brokerage
account. Transfer money from your savings account to your brokerage account
just before a purchase. If you have sold stocks and don't intend to use the
money to buy another set, don't leave the money lying in the account. Have it
transferred to your savings account.
Guarding against misuse of your
trading account
Step
1: You place order to buy or sell stocks.
Step
2: Order executed.
Step 3: Stocks or cash
credited to trading account. (Could be misused by broker for unauthorised trading.)
Step 4: Transfer from
trading account to demat or bank account.
How to seek redressal
Stock
exchanges offer a grievance redressal mechanism. An Investment Protection
Committee looks into complaints from investors, and if the charges are proved
correct, investors are reimbursed from an Investment Protection Fund. There may
also be disgorging of profits.
However, you need to be
aware of a few things. "Investors often lose out because ignorance is not
really protected under the law. If you have signed off your rights, and
subsequently get cheated, you may not get protection. Only if you can establish
that there has been a fraud or malpractice will you get protection," says
Uma Shashikant, managing director, Centre for Investment Education and
Learning.
Find out who the grievance
redressal authority at the stock exchange is. Meet the person and explain your
case. Submit all the documentary evidence you have. If he thinks that prima
facie there is a case, he will admit it.
On the flip side, the
adjudication and grievance redressal process can be long drawn. If the stock
exchange does not give you redressal, you can escalate the matter to Sebi.
Do you have a complaint against a
broker?
Visit
Sebi's Scores (Sebi Complaints Redress System) website to file your complaint
online.
1)
Apprise your broker of your grievance.
2) If the response is not
satisfactory, tell him you will complain to Sebi.
3) The
Sebi threat usually works. If he doesn't agree, lodge a complaint online on the
Scores at www. scores.gov.in.
4) Scan the relevant
documents and upload them on this website.
5)
Sebi forwards your complaint to the concerned brokerage firm.
6) The
firm must reply to your complaint within 30 days.
7) You can track the
progress on your complaint on the website (click on 'View Complaint Status'
button on the main page).
8) If the brokerage firm does not reply to your
complaint within 30 days, the matter gets passed on to a dealing officer at
Sebi.
9) Scores also has a
helpline: 18002667575.
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