Why Chauhan of NSE needs to go back to get ahead

This is not to insinuate that Chauhan is unfamiliar with the Indian capital market’s varied topography. As a frontline administrator of the capital markets, he is certainly well-versed with the rocky terrain that Indian stock exchanges had to level over the past few decades. Yet, it might be instructive to re-examine that same history since it might provide some interesting markers for his new assignment.

Particularly interesting would be retracing the steps that led to the creation of NSE in the early 1990s. The immediate provocation was the 1992 securities scam which was centred in what was then known as Bombay Stock Exchange, or BSE. The exchange was owned by stockbrokers, was run by stockbrokers and was designed to benefit only stockbrokers. Price discovery for investors was inefficient and shrouded in opacity. Trading took place through an outcry mechanism. Transaction risks ran very high because brokers often defaulted on their commitments; risk mitigation measures were almost non-existent; the cash (or spot) market was driven by a shadowy derivatives market; and the exchange management was powerless. In short, you traded on the BSE at your own peril.

The 1992 scam gave New Delhi and the fledgling market regulator, Securities and Exchange Board of India, cause to germinate a rival exchange. Thus was NSE born, with the mandate to primarily serve investor interests. The first condition was that NSE had to be a demutualised exchange, or participants could not be shareholders, to avoid the kinds of conflicts of interest that had plagued BSE. Second, the exchange had to institute robust risk-mitigation measures, including capital adequacy norms for intermediaries. Third, technology would form the exchange’s backbone—facilitating anonymous trading through time-price matching—leaving marginal scope for human intervention and manipulation. Finally, screen-based trading helped NSE democratise Indian capital markets; anybody could trade from anywhere in the country, compared with BSE’s geographical limitations to Mumbai’s municipal limits.

In essence, investor interest became the primary driving force for NSE. This is what Chauhan needs to keep in mind as myriad interests vie for his attention. NSE’s share of governance and legacy woes—co-location scandal, illegal phone tapping allegations, indiscriminate hiring and remuneration policies, frequent technical glitches forcing market shutdown—is long and embarrassing. These issues are also exceedingly important but Chauhan needs to focus elsewhere to regain the exchange’s mojo.

High up on his list of priorities will be to take NSE public and list its shares so that investors who bought shares of the exchange can be offered some exit paths. This has become a sore point in the exchange’s trajectory and Chauhan would be expected to deliver on this promise on a priority basis. But a small proviso arises here: the impulse to list NSE can tangle with the original promise to safeguard trading efficiency and safety. 

The pathway to a Big Board listing requires building up a robust balance-sheet, one that is not only attractive to potential shareholders but also holds out promises of continuing future cash flows. This revenue can only come from higher trading volumes, and from fees generated through use of home-grown indices in distant exchanges. At the heart of those predictable stream of cash flows lies NSE’s original promise of transparency, efficiency, technological vigour and low-cost transactions.

Some of these promises seem broken in the light of recent developments in the bourse. Governance has been the casualty here, with both board and top management members failing in discharging their fiduciary duties. Chauhan’s primary task, therefore, would be to first guide NSE back to its founding principles, its original mandate. In that lies NSE’s salvation and the key to a glorious future.