Regulations
Now, Manipulation in Currency and Commodities Markets Too
In June 2015, Moneylife published the first letter from an anonymous whistleblower on manipulation at the National Stock Exchange (NSE). The letter, and two subsequent ones, triggered a chain of events: a Rs100-crore defamation suit against us by the NSE; a detailed investigation by the market regulator’s technical advisory committee (TAC) which confirmed the whistleblower’s charges; regulatory action to impound part of NSE’s revenues and investigation to fix responsibility; sweeping changes in NSE’s top management and, finally, NSE’s admission of wrongdoing in its draft red herring prospectus.
 
On 14 February 2017, the whistleblower sent a detailed fourth letter addressed to Securities and Exchange Board of India (SEBI); a copy was mailed to me. The closely typed, 13-page letter, with technical details and names, identifies loopholes in NSE’s systems architecture that remain unplugged even after the wide-ranging SEBI investigation. More worryingly, it shows how a few large traders, with high-frequency trades (HFTs), are ripping off huge profits by exploiting currency derivatives (especially contracts for the USD-INR pair) and commodity markets which the whistleblower says continue to operate in a ‘regulatory vacuum’.
 
With a new chairman at SEBI, a new managing director at the NSE, and the government fully apprised about issues of manipulation in NSE, we will wait to see if there is any action on this report. Meanwhile, here are the key issues raised this time by the whistleblower. 
 
Currency Trading Manipulation
A big new disclosure is about the manipulation of currency derivatives which are also regulated by the Reserve Bank of India (RBI). He says, “for most contracts traded in India, the price discovery tends to be in India, during Indian working hours, except for currency pairs such as USD-INR. In case of currency pairs, especially in emerging market currencies, the price discovery happens in global financial capitals such as London, Singapore and Hong Kong. The USD-INR pair is traded on the Reuters trading platform. The interbank spot fx market is by far the largest platform where spot currency is traded. Since its sheer size is much larger than the futures market, the spot market is often the place where price discovery occurs. Banks also price NDF (non-deliverable forwards) on any currency including USD-INR using the spot price as the starting point for generating their quotes.”
 
The whistleblower alleges that a couple of global HFT firms (a specific global firm with Indian operations is named along with a previously named firm which is being investigated) access price/data feeds which are prohibited for non-bank participants for Indian trades. This gives them a huge two-second information advantage, allowing them to operate on miniscule price changes, that are exploited through large trading volumes which are, sometimes, as high as 30%-40% of the entire USD-INR futures volume, on any given day. The letter informs regulators about how his allegation can be verified by checking the open positions of that firm and low inventories. 
 
He says, one foreign firm alone has made profits of anywhere between Rs200 million to Rs300 million (2013-14) in the very first year that it began to use such prohibited data feeds in India. This global firm has faced allegations and investigation in overseas markets as well. The whistleblower wonders why surveillance systems of both, RBI and SEBI, are never able to capture what is being done by this global firm and another one which is already under investigation. 
 
Old Problems at NSE Remain with Small Changes 
Following the SEBI investigation, the average order response time at NSE’s co-location has gone down from the order of around two milliseconds to approximately 150x00 microseconds, depending on various factors. But, he says, the “advantage of speed is not only in absolute terms but always in relative terms.” So, he says, a select few traders still get to calculate real-time latency across multiple gateways and then route all orders via the fastest gateway. The whistleblower alleges that NSE continues to drag its feet about introducing basic transparency measures such as allowing PTP (point to point connectivity) at the co-location. He says, without PTP, it is almost impossible for SEBI to catch preferential access to a select few and it means that the “Exchange can pretty much do whatever it likes so long as it is not blatant enough to be observed.” The motive, according to him, is to support their profit objectives “without looking at the market-wide consequences.” Does this mean that, apart from individual collusion, there is an institutional issue as well? SEBI will need to investigate. The letter has a long and technical narrative on what can be done to fix the problem. 
 
There are also issues of disclosure by exchanges and adherence to SEBI’s rules. For instance, he says, NSE does not publish “latency encountered at co-location,” despite a clear SEBI circular. While the BSE (Bombay Stock Exchange) publishes these numbers real-time, NSE publishes average latency across the quarter! “In an era of micro seconds, what usefulness is provided by publishing quarterly average latency to the market is beyond comprehension. It is unfortunately a reflection of the lip service to the spirit of compliance which exchanges do even to SEBI directives,” he says.
 
Market Abuse through Spoofing/Flashing Orders 
The whistleblower details how a few firms are working around the rules that were framed to prevent order spoofing (creating the illusion of demand/price by placing a large number of orders and modifying or cancelling them rapidly to confuse other traders by whipping up a froth of artificial trading volumes). Without going into technical details in the letter, the whistleblower makes a pertinent point when he says, “It is strange that the exchanges are not able to notice this (manipulation through spoofing or cancelling orders) as a discernable pattern in their tick data and haul up firms which are trying to act in this manner. Either they simply do not care or they wish to permit the same and not raise red flags on purpose.” 
 
He says that there is time-stamped data available for an auditor to “check which firms are engaged in this practice and then match their trade pattern in the scrips where they flash orders.” He accuses both the national exchanges of granting favourable access to some, or creating impediments for others, including grant of connectivity. One feels confident that SEBI’s TAC will want to investigate these revelations.
 
Commodity Exchanges and Regulation 
According to the letter, the commodity exchanges have the least regulatory oversight and need urgent attention. He comes back to the ‘dark fibre’ issue (flagged off in his second letter), which seems to have been ignored in the corrective action so far. This issue concerns large telecom carriers which are the billing companies for providing connectivity to algo traders. Although NLD (national long distance) licence-holders are required to have complete ownership of the telecom equipment, in practice, actual networks are owned by unlicensed vendors and the carrier only acts as a billing agent. These vendors raise invoices in the name of ‘link optimisation’ for installing devices and dark fibre paths to ‘speed up’ links to the exchange. It should be easy for SEBI to verify which firms have been paying money to unlicensed vendors for services, says the whistleblower.
 
Interestingly, he says, telecom firms with NLD licences that are disallowed by NSE because they do not have certain equipment (and their vendors providing ‘speed links’) are operating on commodity exchanges and have a big market share. There are firms providing dark fibre links to commodity exchanges quite openly, for inter-exchange connectivity. Shockingly, he says, some firms provide different speeds of connectivity based on what they are paid. All this becomes a matter of serious concern as SEBI is set to permit options trading in the commodities exchanges. 
 
I have shared the whistleblower’s letter with former SEBI chairman UK Sinha and several SEBI officials, top bureaucrats in the finance ministry, the RBI governor and some key officials at the NSE. NSE wrote to say that the “matter is under consideration” and it has been advised to “restrict any outside communication, in respect of matters disclosed in the DRHP (draft red herring prospectus),” hence, it is “unable to provide any response at this point of time.” We will watch how SEBI and the government deal with this information.

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COMMENTS

Ravish Singh

3 months ago

I feel people/ firm if proved guilty needs to be punished severely because they have cheated and looted the money of firm/people who believe in fair play market.

Ravish Singh

3 months ago

I feel people/ firm if proved guilty needs to be punished severely because they have cheated and looted the money of firm/people who believe in fair play market.

Ravish Singh

3 months ago

I feel people/ firm if proved guilty needs to be punished severely because they have cheated and looted the money of firm/people who believe in fair play market.

Ravish Singh

3 months ago

I feel people/ firm if proved guilty needs to be punished severely because they have cheated and looted the money of firm/people who believe in fair play market.

Ravish Singh

3 months ago

I feel people/ firm if proved guilty needs to be punished severely because they have cheated and looted the money of firm/people who believe in fair play market.

Ravish Singh

3 months ago

I feel people/ firm if proved guilty needs to be punished severely because they have cheated and looted the money of firm/people who believe in fair play market.

AlphaTrader

3 months ago

We all know who the suspects are. AlphaGrep securities aka way2wealth securities && tower research.

KAVIRAJ B PATIL

3 months ago

This would have been exhaustively highlighted in business channels (TV) if they wanted to show real news. But there has not been a whisper. If NSE continues to dodge the issue, the wheels will come of their IPO. Probably the big investors will then use their knives on the culprit.
I remember how NSE once tried to harass an employee who wanted to quit by using a whole lot of dirty tricks.

T.c. Shivswamy

3 months ago

This is only a tip of the iceberg. What about electronic currency markets such as BITCOIN and other nearly173 underworld currencies with no regulatory control which are playing havoc.Bitcoin has beaten even gold and dollar markets and some of our own high-tech start ups are used to convert Black Rupees into BItcoin and trade them . So also commodity markets which are manipulated on the global markets. All this ends up as Maya Bazaar of Money.How are you control all this.

REPLY

Rajan Vaswani

In Reply to T.c. Shivswamy 3 months ago

Bang on target. RBI still only issues advisories. Each gullible investor who enters, ensures the others benefit from the higher valuation.

Arunkumar A Vijayan

3 months ago

A very big thank you to ML and Suchetaji for sharing such irregularities boldly.

RAVI RAM PV

3 months ago

“matter is under consideration” - classic Govt response. Sad.

But, one way learnt ways things happen! Thanks for sharing!!

Parimal Shah

3 months ago

'Jab niyat men khot ho to supervision sirf naam ke vaste hai' - when the desire to supervise is lacking supervision is only for namesake.

Karthik Bharathi

3 months ago

As a retailer, i couldnt even understand many terms used. How SEBI, exchanges expect us to be aware of such issues. Thanks ML for striking the bell at the right time. hope it reaches SEBIs ears.

Market Inches Up on Global Cues: Weekly closing report
We had mentioned in Thursday’s closing report that Nifty, Sensex continued to be range-bound. Indian equity markets provisionally inched up on Friday, as positive global cues and healthy buying in capital goods, automobile and IT stocks buoyed investors' sentiments.
 
The trends of the major indices in the course of Friday’s trading are given in the table below:
 
 
 
Indian shares ended little changed ahead of the election outcome in five states on Saturday. The S&P BSE Sensex ended almost flat at 28,946, gaining 0.35% for the week. The NSE Nifty 50 index ended 0.1% higher at 8,934, gaining 0.42% for the week. 
 
The advanced-decline ratio was firmly in favour of the sellers. 624 stocks ended with gains while 986 stocks declined. 311 stocks remained unchanged in the day of trade.
Tata Motors announced that it has signed a Memorandum of Understanding (MoU)  with Germany's Volkswagen Group and Skoda to jointly develop products in the long-term.
Shares of Alembic Pharma jumped by as much as 7.76%, to Rs648, after the company, in an exchange filing, said that its bio-equivalence facility at Baroda, Gujarat was inspected by the United States Food and Drug Administration between March 6-10, 2017. No form 483s were issued at the end of the inspection, the filing said.
 
India’s industrial output grew 2.7% in January, from a -0.4% percent in December and -1.5% in January last year, amid signs that demonetisation and restricted cash access continued to hurt production activity in thousands of factories. The manufacturing sector, which accounts for more than 75% of the index of industrial production (IIP), grew 2.3% in January, compared to -2% in December and -3% in January last year. The latest factory output data came barely ten days after government forecast India’s “real” or inflation-adjusted gross domestic product (GDP) is likely to grow at 7.1% in 2016-17, running counter to analyst projections that had forecast a sharp deceleration in the broader economy because of demonetisation. 
 
The wider 51-scrip Nifty of the National Stock Exchange was up 7.55 points, or 0.08%, to 8,934.55 points. The Sensex touched a high of 29,076 points and a low of 28,851 points during the intra-day trade.
 
In contrast, the BSE market breadth was tilted in favour of bears, with 1,639 declines and 1,165 advances.
 
The top gainers and top losers of the major indices are given in the table below:
 
 
The closing values of the major Asian indices are given in the table below:
 
 

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Air India ran Rs 321-cr operating loss, not profit, in 2015-16: CAG
New Delhi, Air India has posted a standalone operating loss for 2015-16 of Rs 321.4 crore, though the company has claimed an operating profit of Rs 105 crore, the official auditor said on Friday.
 
The Comptroller and Auditor General (CAG) also pointed out significant understatement of losses by the national carrier in its financial statements.
 
"Air India is claiming an operating profit of Rs 105 crore for financial year 2015-16. But based also on the statutory auditors' reports, the airline had an operating loss of Rs 321.4 crore last year because the required provisions were not made," Director General in the CAG's office V. Kurian told reporters here.
 
Kurian was presenting the CAG's audit report on the financial restructuring plan of Air India tabled in Parliament on Friday.
 
He said the airline had made inadequate provisions for payment of various liabilities, including outstanding amounts to the Airports Authority of India and payment to employees for encashing leave, and had also made excess valuation of a company property in Delhi.
 
The official auditor said that the understatement of losses was to the extent of Rs 1,455.8 crore for 2012-13, Rs 2,966.66 crore for 2013-14 and Rs 1,992.77 crore for 2014-15.
 
"Considering the effect of these qualifications on the financial statement, the EBITDA (earning before interest, tax, depreciation, amortisation) of Air India would be negative (up to March 2015)," the report said.
 
CAG noted that the actual working capital requirements of Air India, being far in excess of the limits envisaged in the financial restructuring plan, had resulted in the company taking additional short-term loans.
 
Short-term loans were on the rise and amounted to Rs 14,416.85 crore as of March 2015, and Rs 14,550.88 crore as of March 2016.
 
"The high volume of short-term loans had eroded the benefits of financial restructuring exercise carried out," the report said. 
 
The value of the airline's short-term loans was nearly four times the cash credit laid down in the turnaround plan, it added. 
 
The report also said Air India had incurred a book loss of Rs 671.07 crore on the sale of five Boeing 777-200 Long Range aircraft and payment of Rs 324.67 crore towards interest on loans availed for procurement of these aircraft.
 
CAG's analysis of the routes operated by the airline showed that only 17 of its services recovered total costs in 2015-16, while 36 services, including five international and 31 domestic ones, did not recover the variable costs during the year, though they met jet fuel costs. 
 
Another 169 services (56 international and 113 domestic) did not recover total costs, though they recovered variable costs.
 
Disclaimer: Information, facts or opinions expressed in this news article are presented as sourced from IANS and do not reflect views of Moneylife and hence Moneylife is not responsible or liable for the same. As a source and news provider, IANS is responsible for accuracy, completeness, suitability and validity of any information in this article.

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COMMENTS

pradip

3 months ago

What is dark fibre, it is interesting to know. Data passes through opticle fibre as light pulses. When this is happening out is called fibre is lighted. A core of fibre is capable of carrying a huge amount of bulk data, better not imagine how much. So different streams add data are tagged and streamed simultaneously. That protocol delays transmission if data by miniscule amount of time. Now if you've a dark fibre rented for you alone, obviously there's no other data except your own. And you get, what, speed of light. And that's what "flash boys" want. Dark fibre is no mystery anymore.

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