Shyamal Banerjee/Mint
Shyamal Banerjee/Mint

Sebi must have a public discussion on market structure

It remains to be seen how exchanges implement the new policies

It’s been a little over two months since a fat finger order havoc at the National Stock Exchange. The Securities and Exchange Board of India (Sebi) has decided to prescribe a framework to prevent similar aberrant orders. To start with, it has mandated a maximum value of 10 crore for every order that comes into an exchange, apart from narrowing certain price filters and imposing further restrictions on brokers who are about to exhaust their collateral with exchanges.

It’s good to note that Sebi is moving on this front, but it would have done well to have a public discussion on these market structure issues before putting out a circular.

Before the fat finger fiasco involving Emkay Global Financial Services Ltd in early October, there have been a number of similar problems on Indian exchanges, and preventive measures were necessary. The markets regulator then initiated a consultation with market participants, stock exchanges and Sebi’s own expert committees, before issuing a circular last week. But this is no substitute for having a public discussion, through which the regulator would have benefited from wide-ranging views. Additionally, a discussion paper, followed by comments and feedback, would have given room to discuss related issues, which would have helped the regulator prescribe a comprehensive framework and explain its position better, rather than put a few measures in place in piecemeal fashion.

For instance, the regulator has said that any order exceeding 10 crore in value should not be accepted for execution by stock exchanges. While this is a very large limit for normal market transactions, including institutional orders, some market participants say this will limit the ability of institutions to execute block orders in normal market hours. While they can use the separate “block deals" window, they have to deal with some restrictions such as the limited time for which the window is open as well as the stipulation that these deals must happen only at +/-1% price band relative to prevailing prices. The regulator should have then relaxed these restrictions in the block deals window before tightening order norms for normal market hours. According to Sebi, block trades in the normal market hours have an average trade size of less that 10 crore.

Additionally, while the 10 crore limit will prevent a repeat of an Emkay-like scenario, it won’t protect the market from a faulty algorithm which can spew out successive 10 crore orders in quick succession. This is not to say that Sebi’s newly announced measures won’t help, but that a public discussion would have helped the regulator think through these issues in greater detail.

The second measure announced by Sebi is to limit the dummy price filters on certain stocks and futures contracts. Currently, for India’s most liquid stocks, while there aren’t any price limits, traders can place orders only in a price band of +/- 20% compared with the previous day’s close. This price band is flexible, and when the traded price approaches +/-15% level, the band is extended.

Sebi has decided to narrow this band to +/-10%. As pointed out in this column in end-October (, exercising this option will have unintended and undesirable consequences such as reducing the depth of the markets further. Retail investors put orders at prices that are far away from prevailing levels, since they can’t monitor positions regularly. They will no longer be able to do this. It would have been far better to address the erroneous orders problem by putting restrictions only on order execution, rather than tinkering with order books as well.

Sebi’s third decision to impose restrictions on brokers who are about to exhaust their collateral with exchanges is more than welcome. The regulator has said that once 90% of a broker’s collateral is used up, all unexecuted orders must be cancelled and only “immediate or cancel" orders will be permitted, subject to availability of margins. While exchanges are already doing some of this, it is good to have a uniform policy on this across exchanges.

Since the circular doesn’t get into nitty-gritty, it remains to be seen how exchanges implement the new policies on maximum order value and dummy price filters. Sebi hasn’t said how market orders will be treated, nor has it said at what level the dummy price filters will get relaxed to beyond +/-10%. Nor has it said what exchanges are supposed to do if a security suddenly hits the +/-10% mark. While these aren’t major problems, an exhaustive discussion process with market participants and experts would have helped the regulator put out a better framework.

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