Jan. 1, 2013 4:29 p.m. ET

MUMBAI—India's capital-markets regulator is taking steps to tame what has been one of the world's wildest IPO markets, with plans including forcing companies' founders to reimburse small investors for some losses.

The goal is to convince investors that the stock market is a safe place for their savings. In the first 11 months of 2012, investors pulled out a net total of nearly $2 billion from equity mutual funds, which are used mainly by individuals.

"There was a feeling in this country that many IPOs are manipulated," U.K. Sinha, chairman of the Securities & Exchange Board of India, said in an interview. While all IPOs can be volatile, Indian IPOs had been particularly wild on their first day of trading. In some cases in 2011, shares jumped as much as 100% from the issue price, giving rise to suspicions about price manipulation. Critics say that some traders used a classic "pump-and-dump" technique, pushing up volume to attract other investors, who drove up share prices only to sell afterwards, sending stocks plummeting.

SEBI moved to make day trading more difficult and costly during the first 10 days after a listing. Before February, day traders could offset their intraday purchases and sales against each other, paying their broker a net amount at the end of the day. Under the new rules, which took effect that month, purchases and sales must be settled separately, requiring investors to tie up more capital.

This rule is applicable to IPOs raising 2.5 billion rupees, or around $46 million, or less, which compriseda majority of the IPOs in India in the last two years.

A separate new rule also limits a stock's movement on the first day of trading to a narrow band.

The most controversial regulation is still in the proposal stage. In September, SEBI proposed a rule that would provide refunds, to investors who apply, for up to 50,000 rupees in IPOs that fall sharply.

The refund would be given if the stock fell more than 20% from its issue price within three months of listing, even as the broader market was stable or rising. If the broad market was also falling, the refund would occur if the stock lost 20 percentage points more than the market.

The company's founders, or controlling shareholders, would have to buy the investors' shares back with their own money, without drawing on company funds.

Bankers say the rule, if implemented, could make some companies rethink their plans to sell shares for funds. "Trying to give some sort of protection...is in principle against the spirit" of equity markets, said K. Srinivas, founder of Mumbai investment bank Saffron Capital Advisors Pvt.

But Mr. Sinha, chairman of the regulator, doesn't think the rule would have a major impact on the IPO market. The refunds would be capped at 5% of the IPO's total size, he said.

SEBI has yet to decide whether to make this proposal a rule. There is no timetable for a decision.

Less than 5% of India's household savings of around $300 billion are invested in stocks and mutual funds, according to India's central bank, depriving companies of a huge pool of potential funding for investments. Indians have typically preferred to put their money in gold jewelry and real estate. Some investors moved into stocks after markets began to boom in 2005, but a collapse in prices after 2008, allegations of wrongdoing and a number of IPOs that fell sharply after listing have turned many investors off.

Several stocks listed in the fall of 2011 had particularly large price fluctuations on the first day of trading, sparking investigations by SEBI. In late September 2011, shares of PG Electroplast Ltd. EQPGEL 4.15% , a maker of electronic components, were issued at 210 rupees and rose to 484 rupees within a few hours of listing on the National Stock Exchange. But over the next week, the shares lost more than half their value, dropping back to 212 rupees, according to SEBI. In October 2011, shares of information-services provider Taksheel Solutions Ltd. lost 62% of their value on the day they listed, closing at 55.85 rupees.

SEBI said it had found evidence of share-price manipulation, among other violations of securities rules, by these firms. In an order in late 2011, SEBI barred both companies indefinitely from raising fresh equity capital from the securities market.

Kuntal Kar, PG Electroplast's compliance officer, denied that the company or its founders were involved in any wrongdoing, and said that the company is considering its legal options. Taksheel didn't respond to requests for comment.

Individual investors remain wary of equities. India's benchmark Sensex gained 26% in 2012, but remains near where it traded at the end of 2007, leaving many investors without gains.

An IPO in December by Bharti Infratel Ltd., the telecom-tower arm of Bharti Airtel , raised $756 million, largely from institutional investors, making it India's biggest IPO in two years. Retail investors bought only 20% of the stock that was available to them, and shares fell 13% on Friday, their trading debut.

India's government is trying to woo individuals. In September, the finance ministry announced a tax break for small investors who are investing in equities for the first time.

Mr. Sinha, a former mutual-fund manager, hopes a less volatile IPO market will help attract investors.

In October, SEBI announced new rules under which it can turn down IPOs if it finds companies have made inadequate financialdisclosures, or haven't clearly defined how they plan to use the funds. Investment banks working on IPO deals now have to declare the price performance of all deals they have worked on, a move aimed at shaming banks with a poor record.

In general, investment bankers welcome steps that could help energize India's IPO market. But Not all the regulator's moves have been well received.

Venky Panchapagesan, a finance professor at the Indian Institute of Management Bangalore, wrote to SEBI last year that regulators elsewhere in the worldtake action only when declines following IPOs are caused by wrongdoing.

"SEBI is abandoning its responsibilities to detect fraud and has decided to penalize all firms whether they committed fraud or not," Mr. Panchapagesan said in the letter.

Mr. Sinha denied the regulator was trying to fix prices. "The basic idea is to force realistic pricing," he said.
[null, {"document_url": "https://www.wsj.com/articles/SB10001424127887324296604578177041785270314", "unformatted_src": "https://si.wsj.net/public/resources/images/MI-BT317_SEBI_D_20130101171509.jpg", "src": "https://si.wsj.net/public/resources/images/MI-BT317_SEBI_D_20130101171509.jpg", "formatted_filename": "MI BT SEBI D", "alt_text": "In IPO Cleanup, India Weighs a Refund Plan"}, null]