Put an end to opacity, NSE
A farrago of ugly issues have been raised over the murky NSE algo case. New Securities and Exchange Board of India (Sebi) boss Ajay Tyagi is clear that NSE may need to refile its application for a stock listing. This comes in the wake of Financial Chronicle providing unadulterated and unalterable facts from a forensic report of NSE’s co-location facility (COLO) by Deloitte Touche Tohmatsu which showed preferential access by brokers, like OPG Securities, to the exchange trading system ahead of other members. The report which lanced the boil suggested that this was done with the active involvement of NSE brass. Now deep in the woods NSE brass which has been trying desperately to create a smoke and mirrors type of scenario after the dubious departure of NSE MD Chitra Ramakrishna needs to answer several questions raised by the provocative Deloitte report.
By tamping down on what is clear case of preferential access as nailed down by Deloitte, it cannot wash its hands like Pontius Pilate. It needs to be answerable. After all lakhs of investors trade on the exchange daily with their savings and if the exchange itself appears to be “crooked”, then the trust deficit will only grow. If for nothing else but transparency, probity and propriety, the NSE should desist from its cowboy style approach and choose to introspect. A stock listing at this juncture can wait for substantive governance issues of great import have been flagged which are germane to the entire investor stakeholder community. And if there is collusion and complicity between the brokers getting the preferential access and the exchange officials as the report alleges, then the NSE stands indicted. The arguments are neither specious nor facetious, they are birthed by genuine and withering facts unearthed after a detailed and thorough investigation.
More than that, Tyagi rightly wants NSE to address the ongoing probe first and in doing that update the DRHP application with new information, including updating its financial statements. NSE which for years under RH Patil and then Ravi Narain created the right eugenics for itself has fallen off the cliff under Ramakrishna who indulged in varying degrees of nepotism, till her unsavory exit from the exchange. While her term needs to be probed diligently, including decisions which far exceeded her brief, it is imperative that this is done by the securities market regulator in a time bound manner. Incidentally, she was groomed for the job by Narain. NSE unfortunately hushed up her hasty departure, one remembers the exchange putting out a statement — “She (Ramkrishna) resigned due to personal reasons. Linking her resignation to any other issues would be inappropriate. NSE management and the board respects her decisions and her contributions since its inception.” It all started with the finance ministry and Sebi receiving complaints from NSE shareholders over alleged “non-cooperation of the management.”
It is NSE’s overall attitude which has raised Cain along with other concerns. That its architecture itself was flawed and suspect and prone to jiggery pokery. It wants to move on with its listing by proposing to settle with Sebi by paying a penalty. Case closed. Sebi has never said that it is open to a settlement. For the express purpose of transparency and to highlight malfeasance in the functioning of the National Stock Exchange (NSE), we decided to put out excerpts from the report by Deloitte in public interest. To provide a brief background, co-location or co-hosting is a service offered by stock exchanges to their brokers/ members to locate their trading systems within the stock exchange’s premises. A significant order flow of NSE now passes through the co-location facility especially for Algorithmic Trading and Direct Market Access (DMA).
The Deloitte report said that Sebi received certain complaints pertaining to NSE’s co-location facility, and in particular the TBT (tick-by-tick) dissemination system, which were forwarded to NSE for clarification in early 2015. Sebi advised NSE to examine the issues highlighted and furnish a report to Sebi after placing the same before the Standing Committee on Technology (SCT-NSE). For over two and a half years despite Sebi advising NSE to examine the issue thrown into stark relief, the latter chose to dumb it down.
The architecture of the TBT system was prone to manipulation: Review of TBT system architecture indicated data was disseminated to members in a sequential manner whereby the member who connected first to the POP server received the ticks (market feed) before the members who connected later. Hence, the system architecture of the TCP based TBT system was prone to manipulation. Deloitte analyses highlighted trends for certain periods whereby members such as OPG Securities, Universal Stock Brokers Private Limited, and NYCE Securities & Derivatives appeared to be the first to connect to specific servers significantly more than the others.
Here is a damning and damaging example from the report: Forensic Data Analysis38 on FO TBT server Market Data logs indicate that OPG securities was connecting first, second and third to this server for most part of the period January 2012 to May 2014. As per the attachment from Abhishek Soni’s email on January 9, 2012, OPG securities had six IPs assigned to port 10990 on TBT server It should be noted that while CNB Finwiz had 10 IPs mapped to port 10990 on this server, OPG still had more first, second and third connections that CNB Finwiz. In the absence of availability of any logs or records related to how the initial connections each day was initiated, we are not able to comment whether this was coincidence, or if there was any manual intervention at any point. Caveat — this does indicate that member(s) having multiple logins to a single disseminating server through multiple IPs assigned could gain advantage by logging in first, second and third since flow of tick-by-tick data was sequential as per its architecture.
Potential preferential treatment to certain members in terms of IP allocations and movements from one server to another: In the course of our (Deloitte) review, we also saw indications of potential preferential treatment to few members. During our discussions with the NSE team, we were made to understand that a sequential method of allocation of new IPs (internet protocol) across ports on existing servers was followed. It was stated by the NSE IT team that when the new servers were introduced in 2012, none of the IPs mapped to the existing servers were migrated to these. However, we reviewed certain emails which indicated that some IPs of a few members who had multiple connections were distributed to TBTCOLO (COLO is for co-location facilities) when it was introduced in January 2012.
Potential preferential access to multiple dissemination servers with regard to OPG Securities: In our review, we came across an email where OPG wrote to Jagdish Joshi (project manager, COLO Support), requesting to be moved to a different TBT server, citing performance degradation. The email was only sent to Joshi and not to COLO Support, the team tasked with handling members’ queries. Joshi instructed the COLO Support team to move four of their IPs to a different server. Despite resistance from the COLO Support team citing that there was neither proof of performance degradation nor approvals, Joshi appears to insist that this was to be done in order to “mitigate risk” by spreading the member IPs across all servers. Eventually, the PSM team deactivated IPs of another member which were mapped to the target server in order to accommodate the four OPG IPs on the server. Our analysis of server logs also indicated that after these IPs were migrated, OPG were successful in frequently establishing first five connections on this server.
Sebi earlier made sure that it was incumbent on Ramakrishna not to continue, it now needs to push the envelope and make sweeping changes in the exchange and its personnel to ensure that the opacity practiced ends. Here and now.
Sandeep Bamzai