Regulations
High-frequency Trading Needs a Detailed Probe
Finance Ministry nudges regulators in Mumbai to probe NSE’s HFT scam
 
After five months of silence, multiple agencies have woken up to the possible dangers of large-scale market manipulation by large institutional traders who run high-frequency trading (HFT) programmes in India.
 
A whistleblower’s letter to the Securities and Exchange Board of India (SEBI) detailed how certain institutions registered for HFT, also known as algorithmic trading or algo trading (based on formulas that execute rapid and large volume trades), were allowed to profit illegally by the NSE’s (National Stock Exchange) insiders. The letter, written in January 2015, was addressed to SEBI’s deputy general manager BK Gupta; it was copied to me and sent by snail mail from Singapore.
 
For several months, I shared the letter with key market-players and investigators to find out more; but the NSE operates like a fortress and outsiders had no details. Nobody we spoke to was surprised to know that the system was manipulated and each one speculated about the likely beneficiaries; but no proof was forthcoming. The reason for this is best explained on the jacket of Michael Lewis’s book Flash Boys. It says: “Now, the world’s money is traded by computer code, inside black boxes in heavily guarded buildings. Even the experts entrusted with your money don’t know what is happening and those who do aren’t about to tell—because they are making a killing.”  
 
It is a market where every microsecond that you gain in executing high-speed trading orders is worth several hundred crore rupees in profits. Large investment institutions pump money into expensive technology and servers get co-location advantage by installing them inside the Exchange’s premises. The whistleblower’s letter explains in detail how the NSE’s insiders allowed some chosen traders to benefit through faster connectivity, day after day. These high-frequency trades contributed to the huge froth of trading volumes on the Exchange. Since top management salaries at the NSE are linked to the turnover and profit generated by the Exchange, there may have been a reluctance to upset the applecart. The NSE is unique in having had the same senior management for the entire 20+ years of its existence. 
 
We expected the whistleblower’s letter to trigger, at least, an investigation. After four months of silence, I sent a copy of the letter to the SEBI chairman as well as NSE’s chairman, Ravi Narain, and managing director, Chitra Ramakrishnan, seeking their comments. No response. After another text message to the NSE’s top brass, we published the letter on 19th June on our website. The letter can be accessed on http://tinyurl.com/pl46qfw
 
Action started only after that. We now have information from credible sources that the finance ministry has desired that, apart from SEBI, the Reserve Bank of India (RBI) also take a detailed look at the implications of continuing HFT without adequate safeguards. Government sources also tell us that “NSE’s management of HFT servers in the initial years until 2013 (which are the subject of the whistleblower’s letter) may need a detailed review by SEBI or an investigation agency.”
 
Soon, SEBI and RBI dutifully responded to the finance ministry’s direction. The Financial Stability Report (FSR) released in June suddenly identified algo trading as an area of concern. It said, “The increased complexities of algorithm coding and reduction in latency due to faster communication platforms needs focused monitoring, as they might pose risks in the form of increased possibilities of error trades and market manipulations.” It goes into some detail about the rise in algo trading in the cash market and speculates that certain instances of abnormal movement in Indians stocks are attributed to algo trades. 
 
Immediately thereafter, the Business Standard and other papers reported that SEBI was considering steps to slow down the pace of trading through measures such as a minimum resting time for orders before execution and randomising the time priority of orders that an Exchange receives. This will effectively reduce the co-location advantage enjoyed by large trading firms. 
 
The critical issue here is not whether some band-aid is applied by SEBI. It is whether our regulators have the will, and the expertise, to assess the systemic risks and even catch the manipulation, if it involves insiders. Until now, they have shown neither. HFT is, often, blamed for precipitous sell-offs in global markets. We need a clear assessment of the risks that India is exposed to. Then, there is the issue corruption. Clearly, people at the NSE and SEBI who permitted the manipulation of algo trades and attempted to bury the scandal cannot be in charge of this investigation. It has to be done by an independent agency.

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COMMENTS

Vivek

1 year ago

Sebi is not going to do anything.... Markets are been manipulated by some big guys.... There main motive is 2 keep retail investor and trader out of this market....

Sucheta Dalal

1 year ago

Whistleblowers would be more valuable if they were in touch ...
Watching from a distance, jumping to conclusions about "self-imposed gags" and remaining silent when writers to battle is disappointing!!

Technology allows many ways of ensuring confidential communication.

A techie should know that!

REPLY

shashank shekhar

In Reply to Sucheta Dalal 1 year ago

when i intimated the brokerage house they first said its normal, likely they didnt understand what isaid, then my relationship manager tried the same and then the complaint was taken but no update on that

imam

1 year ago

kuch nahi hoga there were many scams n manipulation in the past that too open before the hft n sebi was a mute spectator..

shashank shekhar

1 year ago

hopefully the probe goes and finally comes out in favour of the retail investors

shashank shekhar

1 year ago

few months back when i complained to sbicapsec that while i was trying to place order the ticker was automatically going higer by 5 paise (buying ) or lower by 5 paise (selling) and when i cancelled then it was immediately going below what order i placed. i tried this many times on multiple occasions and multiple stocks including in derivatives, i suspected something nosy but the response i received was the complaint was taken and they would try their best to do what they could. i have sent this article to them . thanks

Sushila Pursnani

1 year ago

And this legal way of manipulation, wonder if this is not already happening in India.

http://www.bloomberg.com/news/articles/2...

Silver lining of the Greek and China crisis: Oil capitulation
Indian bears are pressing the sell button hard taking cues from the Chinese stock market sell-off and the possible contagion effects of a Grexit on peripheral Europe. 
 
Yes, the China fall is extremely worrying. This is not only because of the steepness of the fall and the scary margin debt levels the rally had been built on but the fact that Beijing has failed to stem this capitulation. The belief that the Chinese authorities has a stronghold on the domestic economy - from inflation to property markets to equity and FX markets - has been shattered. The so called "Beijing put" has vanished. 
 
Copper is a commodity known to have a PhD in economics. The metal, which has in the past predicted many economic booms and busts, is on the verge of a major technical breakdown. There certainly seems to be more global economic pain ahead.
 
But within this gloomy context (at least from India's perspective), a commodity sell off has been a net positive. Oil prices have dropped by more than 15 percent with both crude benchmarks - WTI and Brent - showing no signs of a trend reversal. Add to this that the market will soon start focusing on the potential Iran deal breakthrough. When the US/European sanctions on Iran crude are lifted, Iran can and will restore its production of one million barrels per day  fairly quickly. Iran's oil minister has told OPEC ministers that this supply can hit the market in less than six months.
 
As things stand now, there is a low probability that Fed chief Janet Yellen will raise rates in September. The US federal funds rate futures market certainly believes that is the case. Considering that a September liftoff was the base case scenario just a few weeks back, the delay in monetary tightening will support emerging markets ex-China. 
 
The above two factors - delay in US rate hike and the fall in oil prices - should finally encourage our conservative "star" central banker to step up the interest rate easing cycle in India. India badly needs a considerably large fall in capital to revive our investment cycle. 
 
The RBI has been behind the curve and Governor Raghuram Rajan must act urgently. This is not the time to be talking about global coordinated monetary policy and "depression like economic conditions". 

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