News headlines can sometimes be stranger than fiction. So when news reports screamed that Securities and Exchange Board of India (Sebi) has barred National Stock Exchange of India Ltd (NSE) from accessing the securities market for a period of six months, people were understandably confused.
After all, most Indians access the securities markets through NSE’s trading platforms. The exchange had to eventually clarify that all its market segments will continue to function as normal. The prohibition Sebi spoke of was on NSE’s much delayed plan to issue its own shares through an initial public offering. Put another way, what Sebi’s order essentially means is that NSE can finally go ahead with its IPO about six months from now, after years of delays.
It’s not just this aspect about Sebi’s order that gives the impression that it has made a mountain out a molehill. The elephant in the room is the fact that the regulator has found no evidence of fraud after multiple years of investigation and a number of forensic audits.
In short, NSE’s famous co-location scam is no scam at all, in Sebi’s own words.
“At the outset, as the allegation of fraudulent and unfair trade practices levelled against the Noticee No. 1 (NSE) stands disproved, the same can no longer survive against the employees (of NSE)," a Sebi whole-time member wrote in his 30 April order.
So why impose a hefty fine adding up to about Rs1,200 crore, including interest, on the exchange? The order states that while there was no fraud, NSE did not exercise adequate due diligence while selecting its trading architecture, thereby creating an environment in which information dissemination was asymmetric.
Did the information asymmetry cause disproportionate profits to any of the trading members? If yes, Sebi has found no such evidence. In fact, one of the audits conducted on NSE suggests that trading members who logged in first to the exchange’s trading system, presumably to take advantage of the weakness in the system, made less profit than some members who logged in later.
If anything, Sebi’s order exonerates all employees whose names had been tainted in the so-called co-location scam. But the fine presumes that every rupee of profit made by the exchange by providing co-location services was ill-gotten. And this is the amount that the regulator has sought to disgorge.
We must note here that a disgorgement order hurts a company’s shareholders the most, rather than errant employees. In a case where Sebi itself is saying that NSE employees haven’t done anything fraudulent, a disgorgement looks even more appalling.
And that isn’t all. Sebi has raised the bar on expectations from top functionaries at stock exchanges, a first-line regulator of securities markets. But this raises disconcerting questions about Sebi’s own role as the last-line regulator. To start with, appointments of top officails at exchanges are always vetted by Sebi.
Besides, the order states, “The MD and CEO of a stock exchange cannot abdicate his/her responsibility by citing limited knowledge in certain spheres of the business activities." In other words, the regulator is saying NSE’s top officials can’t excuse themselves saying they don’t look into the nitty-gritty of technological issues.
But this raises the bar for Sebi officials as well. The order makes it obvious that Sebi’s top officials were ill-equipped to handle the NSE co-location issue, which is the reason it dragged on for years. The question that arises is, did Sebi also abdicate its responsibility citing limited knowledge on technological issues?