Securities Contracts (Regulation) Act, 1956

The Securities Contracts (Regulation) Act, 1956 is a foundational legislation governing the functioning of securities markets in India. Enacted to regulate transactions in securities and to control the operations of stock exchanges, the Act plays a critical role in ensuring orderly development, transparency, and integrity in the capital market. In the broader framework of banking, finance, and the Indian economy, the Act provides the legal backbone for organised securities trading and contributes significantly to financial stability and investor confidence.

Background and Objectives of the Act

Prior to independence and in the early years thereafter, securities trading in India was largely unregulated and fragmented. Stock exchanges operated with minimal statutory oversight, leading to speculative practices, price manipulation, and investor exploitation. Recognising the need for a uniform legal framework, the Securities Contracts (Regulation) Act, 1956 was enacted to regulate securities trading and ensure that stock exchanges functioned in a fair and transparent manner.
The primary objectives of the Act include preventing undesirable transactions in securities, regulating the business of stock exchanges, protecting investors, and promoting healthy growth of the securities market. These objectives align closely with India’s broader financial sector reforms and economic development goals.

Scope and Applicability

The Act applies to contracts in securities, which include shares, debentures, bonds, derivatives, and other marketable financial instruments. It governs both spot delivery contracts and derivatives trading, subject to conditions prescribed by the central government and market regulators.
The Act empowers the central government to recognise stock exchanges, withdraw recognition where necessary, and frame rules to regulate trading practices. Over time, regulatory responsibilities under the Act have been largely delegated to the Securities and Exchange Board of India, reflecting the evolution towards an independent and specialised capital market regulator.

Regulation of Stock Exchanges

One of the core functions of the Securities Contracts (Regulation) Act is the regulation and recognition of stock exchanges. An exchange must obtain formal recognition to operate legally. Recognised stock exchanges are required to comply with prescribed conditions relating to governance, membership, trading practices, and dispute resolution.
The Act authorises regulatory intervention to ensure that exchanges maintain orderly trading conditions. It empowers authorities to suspend trading, supersede the governing body of an exchange, or impose restrictions in the interest of investors and the financial system. This regulatory oversight has been essential in maintaining market discipline and preventing systemic risks.

Control over Securities Transactions

The Act regulates the types of contracts that can be entered into in securities markets. It distinguishes between legal and illegal contracts and provides the framework for enforcing valid transactions. Certain speculative or forward transactions are restricted unless expressly permitted, thereby limiting excessive speculation that could destabilise markets.
With the introduction of derivatives trading in India, the Act was amended to recognise derivatives as valid securities, subject to regulatory approval. This enabled the development of modern financial instruments such as futures and options, enhancing market efficiency and risk management.

Role in Banking and Financial System

The Securities Contracts (Regulation) Act has a close relationship with the banking and financial system. Banks, financial institutions, and non-banking entities participate actively in securities markets as investors, issuers, and intermediaries. A well-regulated securities market complements the banking sector by providing alternative avenues for capital mobilisation and investment.
For banks, the Act ensures that investments in shares, bonds, and other securities are conducted in a regulated environment, reducing market and operational risks. It also supports liquidity management through active secondary markets for government and corporate securities.
By promoting transparency and standardised trading practices, the Act strengthens the linkage between capital markets and the broader financial system.

Significance for the Indian Economy

At the macroeconomic level, the Securities Contracts (Regulation) Act has been instrumental in fostering capital market development in India. Efficient and regulated securities markets facilitate capital formation by enabling companies to raise funds from a wide investor base. This supports industrial growth, infrastructure development, and entrepreneurship.
The Act also enhances investor confidence, which is essential for mobilising household savings into productive investments. Increased participation in capital markets contributes to financial deepening and reduces excessive reliance on bank credit and public financing.
By curbing speculative excesses and ensuring orderly markets, the Act supports financial stability, which is a prerequisite for sustained economic growth.

Amendments and Evolution

Since its enactment, the Securities Contracts (Regulation) Act has undergone several amendments to keep pace with changing market conditions and financial innovation. Amendments have expanded the definition of securities, strengthened regulatory powers, and aligned the Act with international best practices.
The shift towards electronic trading, dematerialisation of securities, and sophisticated risk management systems has been facilitated within the legal framework provided by the Act. Its adaptability has allowed it to remain relevant despite rapid transformation in financial markets.