NSE officials to meet Sebi panel on alleged algorithmic violations
Interaction expected to help Sebi form opinion on allegations after NSE explains its case; meeting set for 7 July
The Securities and Exchange Board of India (Sebi) has asked officials from the National Stock Exchange (NSE) to come and clarify their position on the alleged violations in algorithmic trading before its technical advisory committee (TAC), said three people familiar with the development. This is a rare instance where the TAC is helping the regulator in its investigations on the matter before a final order is passed.
“Sebi’s technical advisory committee and NSE are in discussions to address certain issues that were highlighted by the TAC. Technological issues should be examined by technical barometers rather than just purely on merit of regulations. The interaction is to help Sebi form a concrete opinion on the said allegations only after NSE has had a fair chance to explain its case to the TAC," said one of the persons quoted above, requesting anonymity.
A second person confirmed the development, adding that the Sebi committee and NSE officials are set to meet on 7 July.
An NSE spokesperson declined to comment. An email sent to a Sebi spokesperson on Tuesday did not elicit a response.
These developments come after the NSE refuted allegations of unfair access that were highlighted in a report by the TAC.
On 5 April, Mint reported that Sebi’s TAC had in a report to the market watchdog noted that some traders on the exchange’s algorithmic trading platform had unfair access to market data and trading systems. The panel concluded that NSE had violated norms of fair access and allowed some brokers to benefit.
Algorithmic trading or high-frequency trading (HFT) refers to the use of electronic systems, which can potentially execute thousands of orders on the stock exchange in less than a second. Trading firms that have faster access tend to have an edge over others. The allegations against NSE pertain to members who co-locate their servers on the premises of the exchange. Even at these co-located centres, some of the servers themselves might have differing hardware capabilities or workloads.
This issue first came to light when a whistle-blower who went by the pseudonym Ken Fong wrote to the regulator alleging that NSE’s systems were being misused, and that some people consistently enjoyed an advantage to the detriment of others.
After examining the issue, a Sebi panel recommended action against NSE for lapses on the exchange’s part and exploitation by brokerage OPG Securities. The panel further advised Sebi that it may constitute a team comprising people with an appropriate background to investigate any alleged collusion between NSE officials and OPG.
On 27 May, Mint reported that NSE in its reply to Sebi said that it did not violate any regulations in the relevant period and pointed to certain factual inaccuracies.
“Based on NSE’s response that were quite technical to begin with, it was felt that NSE should explain its stance to the TAC and that is being achieved through this interaction. Sebi will form an opinion based on the final recommendations of the TAC," said the second person quoted above, who is familiar with the regulator’s thinking. He declined to be identified as talks are confidential. A third person added that the issue is tricky and a final opinion must be arrived at only after understanding the true nature of the technology.
“It is a tricky issue because technology is like law and there are various ways to interpret the implications of adopting a particular technology, especially when its usage increases. At the same time, it is critical to understand the risks and have ways to curb them and deter market participants from manipulating the markets," he said on condition of anonymity.
“Every exchange, particularly the large ones such as NSE, which deal with voluminous trades, must ensure that the technology is not prone to any misuse by anyone at any level. However, this may result in limiting the abilities of the systems and the technology employed to handle the market depth. Sebi is looking for a suitable solution," he added.
Sebi has several committees which advise the regulator on issues related to primary markets, secondary markets, takeover issues, etc. However, investigations on violation of Securities Act are by and large conducted by Sebi’s investigation team. In this case, however, the TAC has also assumed the role of a fact-finder for the regulator.
“Technology is moving so fast and regulators the world over consist of officials who are not that technologically savvy. So, it is only fair that the TAC, which is made up of independent technical professionals, should examine the issue with the exchange’s technical officials before Sebi arrives at a conclusion," said J.N. Gupta, former executive director at Sebi.
Gupta, who was in charge of the market regulation department of Sebi between 2009 and 2011, said that the TAC was always intended to have a dual role of advising on regulations while also weighing in on matters and investigations related to the use of sophisticated technology.
“It is also possible that after the interactions with the technical team at the exchange the contentious issues that came out in the report initially may not remain a concern at all," Gupta added.
The four-member TAC was formed in 2010 and is headed by Ashok Jhunjhunwala, faculty member, Indian Institute of Technology (IIT)-Madras. The other members include H. Krishnamurthy of the Indian Institute of Science (Bangalore), Abhay Karandikar of IIT-Bombay and Vibhakar Bhushan of Trignon Business Consulting and Synchosoft.com.
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