Explainer: Freak Trades in the NSE Derivatives Segment and How To Avoid Them
Moneylife Digital Team 23 August 2021
Traders have been calling out the frequent freak trades in the derivatives segment on the NSE (National Stock Exchange).
On Friday afternoon around 2.18pm, yet another incident of freak trade (the third such freak trade in under 7 weeks) on the NSE brought out a barrage of complaints on social media. Traders saw a sharp spike in some options contracts on the NSE. The call option contract for the NSE’s main index Nifty (16,450 strike price) for August expiry rose by 800% from Rs100-Rs800. Likewise, put option contract for Bank Nifty index (37,000) strike price rose by 2000% from a low of Re1 to touch a high of Rs2,040.
What Exactly Happened?
On Friday, around 2.18pm, suddenly there was a freak trade whereby 16,450 call options which was trading at Rs80 suddenly traded at Rs800 that too with a huge volume of over six lakh quantity within a minute. 
Traders had kept stop losses at Rs120-Rs200 and all of these stop-losses got triggered and they couldn’t understand the reasons. All this happened within a minute and this was not even recorded on the charts; so when they went back and checked the charts, the candle had not even reached Rs200 levels leaving traders totally perplexed. The stop-losses could have triggered a domino effect. This freak trade made retail investors lose a lot of money; many have lost over Rs10 lakh.
Why Was It Not Recorded on the Charts?
Only LTP at the end of every second gets recorded on the charts but what happens between any two seconds is not recorded. Experts say all of this happened within micro seconds and, hence it was not recorded on the charts (between seconds). They also suggest these orders were most likely placed by HFT (high frequency traders)—institutional firms which are into algo trading and they would have ended up with very good profits on Friday. 
For a retail trader, the average order execution time is 60 - 200 milli seconds. The best that one can push in a second is 4-5 orders. But these HFT firms have an average order execution time of 5 to 10 milli seconds (i.e., 200 orders within a second) which means that they can push up to 50X orders more than retail traders in the same amount of time.  
These HFT firms enjoy a competitive advantage over retail traders. You can read more about how this works in the recently launched book - Absolute Power - co-authored by Sucheta Dalal and Debashis Basu.  
Why Did This Happen?
On 31st July, NSE came out with a circular saying that, with effect from 16th August, there won’t be any trade execution range. Thus, from 16th August, no equity derivative contract will have any upper circuit or lower circuit—so even though it is there, it is not actually valid which means options can get traded at any price.
NSE decided to follow what most other exchanges in the world do, which is not to have such restrictions and allow demand and supply at any given time to determine at what price a trade gets executed. NSE's stance seems to be that traders have to be careful about this while placing orders on the Exchange and that contracts being completely banned from trading for a few minutes is a lot worse than a few freak trades. 
Unfortunately what has happened is, in the process, the retail traders have been thrown to the wolves such as in case of this freak trade.
Freak Trade Streak in the Past 7 Weeks
On 5th July, Nifty index futures surged 805 points or over 5%, without any similar rise in the underlying cash market. Following this, on 28th July, Nifty futures for August expiry crashed 5% or over 531 points to a low of 15,256 from its opening 15,787.
During all these incidents of freak trades, the reversal to normal happened within a few seconds. An NSE spokesperson said “The exchange systems functioned normally and all orders were executed as per the operating range as prescribed by the exchange.”
While brokers are raising questions about the frequency of such trades, some even suggested that it could be more than a coincidence. 
Interestingly, like one market expert pointed out the market regulator Securities and Exchange Board of India (SEBI) has been focusing only on manipulation in the cash market segment and penny stocks on the Bombay Stock Exchange (BSE) while such highly unusual price movements are becoming frequent on the NSE’s derivative segment and, more often than not, even go unreported. 
Earlier this month, the BSE was criticised as the Exchange attempted to curb manipulation by establishing circuit filters in cash segment stocks that are exclusively listed on its platform. But while price filters and surveillance measures are imposed on cash segment, no such restrictions exist in the derivatives segment, leaving the field open for manipulators.
The market regulator has been investigating incidents of unusual price moves and manipulation in illiquid derivative contracts on the NSE. However, none of its findings has been released in public domain yet. There have been reports in the past about inquiries conducted even by the income-tax (I-T) department but sources say that matter has not moved forward due to the complex nature of trades. The I-T wing was said to be investigating if these derivative trades were for creating artificial loss and avoiding taxes on profits.
Cheatsheet To Protect Against Such Freak Trades 
Nithin Kamath, the founder and CEO of Zerodha, tweeted to say that Zerodha has been been getting a lot of questions about freak trades in options with huge slippages recently. 
He also wrote a detailed blog post on how retail investors can steer clear of such freak trades in F&O (futures and options) which can possibly impact their positions. 
“Over the last couple of weeks, many traders have been sharing screenshots of trades being executed far away from the current market price in F&O contracts on social media, referred to by many as “freak" trades. These incidents are especially around index F&O contracts," Mr Kamath wrote.
Always Place Limit Orders
At times, due to the shallow market, you might get unlucky when you place a market order. "Your trade could get executed at a price far away from the current market price in a fraction of a second, causing a significant loss, especially if your order coincides with another large market order on the exchange," the Zerodha founder wrote.
One of the ways to cover yourself from a large loss due to a freak trade while also entering/exiting immediately is to use limit orders with a price higher than the current market price for buy orders and lower for sell orders, Mr Kamath explained. This will ensure that you are still placing market orders but also are protected against freak trades.
He cited an example to highlight how limit order works. “Assume that an Index call option contract is trading at Rs100, and you decide to buy five lots at market price. Instead of placing a market order, you can place a limit buy order at Rs102. This will ensure that your order is treated as a market order and that the impact cost does not exceed 2 points, if at all. Similarly, if you want to sell at the market price of Rs100, place a limit selling order at say Rs98 to ensure impact cost is not more than 2 points on the trade," Nithin Kamath wrote in his blog post.
Zerodha has blocked market orders on stock options for many years now,  Nithin Kamath said, adding that due to the extremely shallow market, "we have had many incidents in the past with our customers losing money trading market orders on stock options. For customers who want to trade market orders, “we suggest placing limit orders with a price higher than LTP for buying and lower than LTP for selling."
In the Indian market, index F&O contributes more than 90% of all F&O trading volumes. “Most intraday traders looking to enter or exit quickly also mostly trade index F&O. So blocking market orders on Index F&O isn’t the optimal way to ensure customers don’t lose money on freak trades," he said.
However, “we have come up with a solution where market orders for index F&O with an impact cost of more than a certain percentage of the last traded price will be disallowed.”
Use Stop-loss Limit Orders
Nithin Kamath also recommends the use of stop-loss limit orders  over stop-loss market orders, especially when trading contracts with a shallow market.
"If you have placed stoploss orders, freak trades on the exchange can trigger your pending stoploss orders. So if you had bought an Index call option at Rs80 and stoploss at Rs70, a freak trade at Rs50 would trigger your stoploss order; there is no way to avoid triggering a stoploss order due to a freak trade”. But to ensure your stop-loss order triggered does not have a high impact cost due to freak trades make sure to use stop-loss limit orders and not stop-loss market orders, he clarified.
“When trading the markets, there are certain things in your control and many that aren’t. A good trader always does whatever to reduce risk on things that can be controlled, like using limit orders instead of market orders and using SL over SL-M, especially when trading contracts with a shallow market," the Zerodha CEO wrote.


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2 years ago
What if we have already put SL Limit order(Specially in Option Selling Scenario), freak trade happen our SL Limit order wouldn't get executed but M to M loss will wipe out all the available margin even M to M loss could be more than entire account value at that short span of time , although we already would have hedging position , I have following questions in my mind :-
(a) Will our trade automatically squared off by broker's system due to negative account value and we have to bear peak loss even our account could go into negative value?????

(b) Could SLL order be executed as SLM (Beyond given range of SLL) in freak case scenario???
Replied to sure101negi comment 2 years ago
I have a similar question, did you get any answer for this ?
2 years ago
price manipulation insider trading and front running are regular .even god cannot stop this kind of casino.this is the main reason and problem majority of indian household.gold fell more than 25 percent from last year peak .but indian house holds not at all worried because they understand that asset very well.world stock exchanges already converted as worst casinos. it is now days turned worse then terrorism.
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