Mumbai: The director general (DG) in charge of investigations at the antitrust watchdog has found that the National Stock Exchange (NSE), the country’s biggest bourse, had unfairly stifled competition in the trading of equity derivatives to the detriment of its older but smaller rival Bombay Stock Exchange (BSE).
The DG’s office at the Competition Commission of India (CCI), in a 245-page report following a probe, said NSE had done this by systematically waiving fees on transactions in 2000-02 to gain market share when equity derivatives trading was in its infancy. Mint has reviewed a copy of the report.
In March, CCI directed the DG’s office to investigate pricing practices at NSE and submit a report in 45 days following a complaint by rival MCX Stock Exchange Ltd, or MCX-SX, which had alleged predatory pricing by NSE in the currency derivatives segment.
Based on the report, the commission will hold a hearing on 15 December.
To be sure, the report only amounts to the findings of the investigation. CCI is expected to deliver a final ruling only after giving an opportunity to NSE and other parties involved to present their case.
CCI chairman Dhanendra Kumar declined to comment. He also reserved comment on whether a decision will be taken on 15 December.
Officials from both BSE and NSE declined to comment and said they did not have access to the contents of the report.
While concluding that NSE had tried to stifle competition in the currency segment by waiving transaction fees, the report observed it had a long history of such behaviour beginning in early 2000.
Sharad K. Sharma, additional director general, headed the panel that conducted the investigation.
“Turnover figures clearly show that waiver of transaction charges by NSE was clearly aimed at eliminating competition in the F&O (futures and options) segment. After completely dominating the market, NSE imposed transaction charges with effect from 1 April 2002 as the risk of losing customers to BSE had waned due to liquidity issues which is a major element of consumer preferences in stock exchange trading,” said the report.
Both NSE and BSE began trading in the equity F&O segment in June 2000.
According to the report, BSE had an average daily turnover of Rs 3.51 crore in the F&O segment in June 2000, while NSE had a turnover of Rs 2 crore. NSE had levied a transaction charge of Rs 2 per Rs 1 lakh of traded value in the futures segment then.
In the report, NSE has been cited as arguing that it had to waive transaction charges in various segments during the initial years as the exchange was formed with the objective of developing the country’s equity markets.
The equity derivatives market was in its infancy in 2000, and it definitely required some support, according to NSE’s argument.
NSE, however, had started the F&O business by levying transaction charges and just after two months, by a 31 July 2000 circular, it waived the transaction charges in the futures segment until 31 December 2000, the report said. The waiver was further extended till 30 June 2001.
Consequently, the market share of BSE in the F&O segment was eroded. By July 2001, NSE’s turnover in the equity derivatives segment rose to Rs 92 crore compared with BSE’s Rs 1.76 crore.
Once again, NSE introduced a transaction charge of 0.002% in the futures segment in September 2001, but in December 2001 it waived all transaction charges till 31 March 2002.
In the options sub-segment, NSE continued to extend waivers on transaction charges from October 2004 to February 2005.
“These waivers...helped NSE to achieve complete dominance in terms of volumes in the futures market,” said the report.
“BSE was completely marginalized in the F&O game and ground was completely open for NSE to lay (down) the rules of the game,” it said.
By July 2006, NSE’s turnover zoomed to Rs 22,726.29 crore while BSE’s turnover stagnated at Rs 1.31 crore.
Trading members tend to participate more on those equity derivatives platforms where there is enough liquidity or the volume of trading is sufficiently high. This is because in a liquid market, the chances of trades getting squared off at desired prices are higher. If any exchange manages to build enough liquidity in the derivatives segment, it can safely retain its dominance in the market even while charging fees from its clients.
The DG’s office also found that NSE waived fees in the gold exchange-traded funds, or ETFs, segment.
“Perhaps the ever-increasing market share of BSE forced NSE to separately identify this sub-segment and reduce transaction charges with the intent to ward off competition,” said the report. “The reason behind reduction in transaction charges does not appear to be the development of the market but definitely to beat the competition as was the case in F&O segment.”
“In the F&O segment, charges were waived to kill the competition and to establish complete dominance of NSE...the imposition and waiver of transaction charges have never been linked to the development of the market. Analysis shows that waiver of charges by NSE in various segments on the ground of development of market has never been a consideration in spirit, though it may have been taken up in letter,” the report said.
NSE started trading in 1994 on the recommendation of a high-powered group that studied the establishment of new stock exchanges.
As per the group’s recommendations, NSE was to play a supplementary role to the then existing stock exchange infrastructure in the country. “The recommendations were aimed at development of a very integrated capital market system in India wherein all the existing stock exchanges could survive by emulating the National Stock Exchange model,” the report said.
The report alleged that due to unfair pricing of products and stock exchange services, the existence of a healthy market itself has become questionable given the absence of many stock exchanges and BSE struggling to stay afloat.
“It can, therefore, be safely concluded that the waiver of transaction charges has nothing to do with the genesis of NSE and the reasoning of NSE, that it has been done to promote and develop a healthy market cannot be accepted,” it added.
It also alleged that NSE has used tactics to harm competition by using its dominant position in stock exchange services and has also protected its leadership in the currency derivatives segment by using monopoly revenues from other segments, in violation of the provisions of section 4 of the Competition Act.
“NSE has abused its dominant position...by directly imposing unfair and discriminatory pricing in the sale of services, including predatory pricing in the currency derivatives segment and has also used its dominant position and original monopoly in equity, F&O and WDM (wholesale debt markets) to protect its monopoly in the currency derivatives market,” concluded the DG report, asking CCI to consider taking requisite remedial measures.
A Delhi-based lawyer familiar with the proceedings said the report, in spite of taking six months to prepare, was flawed and, therefore, likely to fall through.
“The DG has not employed any econometric test such as SSNIP (small but significant non-transitory increase in price) test to determine the relevant market and has wrongly held that the entire stock exchange is the market. The complaint relates to only the currency derivative segment,” he said.
This segment, according to him, is a separate one in which MCX-SX has a dominant share by volume of trading.
“Since the DG has failed to determine the correct relevant market, there cannot be any question of dominance of NSE in this market. Moreover, the zero-transaction fee has been presumed by the DG to be predatory without establishing any such intent, a prerequisite under the competition law,” he added.
The lawyer did not want to be named, given the sensitive nature of the matter.
On 16 November 2009, MCX-SX filed its complaint with CCI against NSE, DotEx International Ltd (a wholly owned subsidiary of NSE) and Omnesys Technologies Pvt. Ltd (a software provider company in which DotEx holds a 26% stake). Mint did not reach out to MCX-SX for comments.
When CCI sought information from the exchanges, NSE filed a writ petition against CCI in the Delhi high court, seeking time to respond to its queries.
After CCI argued in October that NSE was been given enough time (till 1 November) to respond, the court disposed of the matter and asked CCI to act according to the law.
Sangeeta Singh in Delhi contributed to this story.