India's capital market regulator has proposed discontinuing the current practice of an advance transfer of funds to stockbrokers before secondary market trades are executed.

Such a move will prevent misuse of client funds, brokers' defaults and the consequent risk to investors' capital, the regulator said in a discussion paper to seek views before it finalises the rule.

The Securities and Exchange Board of India's (SEBI) move follows one by the Reserve Bank of India to allow a one-time blocking of funds in bank accounts and multiple debits through the unified payments interface (UPI) real-time payments system.

The RBI service "can be integrated with the secondary markets to provide a block mechanism (similar to pledge-like mechanism in securities)," Sebi said in the discussion paper.

Once implemented, it continued, investors can block funds in their bank accounts rather than transferring them upfront to brokers, "thereby providing enhanced protection of cash collateral."

"This will also ensure that the interest on the funds is accrued to the investor and not to the broker," a regulatory official said.

SEBI, however, did not spell out whether the blocking of funds would be voluntary or compulsory for retail investors.

"The thought process within the regulator is to make it mandatory for retail investors in a phased manner," said the official cited above.

The regulator has sought comments from market participants until Feb. 16 on any operational challenges on the proposed concept, associated processes, transaction flow and risk management. (Reporting by Jayshree Pyasi; Editing by Savio D'Souza)