 "CBI seeks details from Sebi on NSE co-location issue")
In what now appears to be becoming a case being looked into by multiple agencies and regulators, the Reserve Bank has also asked Sebi whether "the alleged short-comings in NSE's system architecture" pertained to operations of the exchange traded currency and interest rate derivatives, sources said.
Besides, Sebi has received complaints raising the issue of 'independence' of a forensic probe into the matter as Ravi Narain, who was NSE's MD and CEO during 2010-13, was part of the team of board members of the exchange that supervised the forensic investigation done by Deloitte.
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Sebi has sought comments from NSE's board on this matter as the period of investigation assigned to the forensic auditor was 2010-15, a top official said.
As the case relates to the country's largest stock exchange in terms of turnover of securities market, a detailed status report on the entire NSE co-location matter will be discussed tomorrow at Sebi's board meet, which will follow an address by Finance Minister Arun Jaitley to the board members and top officials of the market regulator.
While detailed queries sent to NSE remained unanswered, the sources familiar with its thinking said the exchange believes that "there has been no conclusive evidence of any manipulation".
Asserting that the exchange was not "hushing up the matter" as has been alleged, the sources said NSE was following each and every direction of the regulators while systems and technology were already in place to ensure no preferential access was given to any broker.
The sources also said the exchange has not heard anything directly so far from CBI and RBI, but "the work is already on" in strengthening various policy framework and systems to ensure there are no lapses at its end, going ahead.
Sebi began probing the matter in early 2015 after it received at least three complaints related to some brokers allegedly getting preferential access through co-location facility, early login and 'dark fiber' -- which can allow a trader a split-second faster access to data feed of an exchange. Even a split-second faster access is considered to result in huge gains for a trader.
Sebi has received "various references" from the Ministry of Finance, VVIPs and CBI, etc, in relation to complaints against NSE, the official said, while adding that the finance ministry has been informed of the progress made in the matter.
CBI has also been given the requested details regarding action taken on the issue while Sebi has provided the details sought by a Member of Parliament on this matter.
The finance ministry had also asked Sebi to elaborate on "the rationale of advice to NSE to conduct forensic investigation on its lapses rather than conducting it under supervision of Sebi". The official said the ministry has been given details.
On complaint relating to 'independence' of the forensic probe in view of former exchange chief Narain's presence on board team, the sources familiar with NSE's thinking said there was no 'conflict of interest' and the entire process was supervised and monitored at multiple levels, including by the entire board and the market regulator Sebi itself.
In complaints received by Sebi, it was alleged that NSE's
system architecture allowed 'Tick-by-Tick' price information to be disseminated sequentially in the order brokers connected or logged-in to the server.
Further, multiple TBT servers at NSE experienced varied load and started at different time while the back-up servers were allegedly allowed to be accessed by certain brokers as load on such servers was low.
It was also alleged that some brokers colluded with NSE's employees and outsourced staff to obtain information regarding load and starting of servers, including backup servers.
This enabled 'first-to-connect' brokers to get date ahead of others for three years between 2011 and 2014.
Besides, differential access in the form of 'dark fiber' was allegedly given to one trading member at NSE in particular to connect across NSE and BSE co-location at least 4-5 months ahead of other members, as per the complaints.
Detailing the action taken on the matter, Sebi said it set up a cross-functional team (CFT) for preliminary fact- finding and it identified some technological issues warranting detailed examination by an expert.
Sebi's Technical Advisory Committee subsequently recommended setting up an expert committee, which submitted its report to the regulator in March last year. The TAC observed that NSE had violated norms of fair access and allowed some brokers to benefit. Also, when the complaint was first made to NSE, its management dismissed it and didn't initiate any steps to check the possibility of any collusion with the staff of NSE.
It was also observed that NSE's TBT dissemination architecture was prone to manipulation and market abuse while the alleged broker referred to in the complaint, OPG Securities, was able to gain from the exploitation of NSE's TBT architecture.
Regarding the issue of Dark Fiber, NSE allowed non-ISPs like Sampark Infotainment to lay fiber on its premises for various members in violation of its own policy on allowing only ISPs, the TAC noted.
At the same time, the TAC also observed that it was not possible from the available data alone to investigate and determine the extent of collusion of NSE officials with OPG or others.
Sebi subsequently sought response of NSE on the examination report, which the exchange submitted later, and the findings were also discussed with the board of the bourse.
The TAC recommended that NSE's board should immediately initiate an independent examination, including a forensic probe by an external agency, of all concerns highlighted in Sebi expert committee report and fix the accountability for the breaches covering NSE, brokers, vendors and outsourced entities involved in the matter.
As an interim measure, NSE was also asked to place all revenues from co-location facility, including from any fiber connectivity from broker's co-location facility to their offices, in an escrow account.
NSE's board was also asked to complete the probe and submit a comprehensive report to Sebi within three months.
Consequently, the NSE board appointed Deloitte to conduct the forensic probe and sought an extension of time up to December 31, 2016, to submit a report to Sebi.
The exchange also discontinued TCP-based TBT broadcast with effect from close of business on December 3, 2016.
In the meantime, Sebi ordered its supervision and surveillance departments to conduct specific-purpose inspections to ascertain role of brokers and the trading activity of certain brokers for any manipulation, including allegations of collusion with exchange officials.
that the architecture of TBT system was to probe manipulation as data were disseminated to members in a sequential manner whereby certain brokers appeared to be first to connect to specific servers significantly more than others.
It also found that certain brokers were told that there was an advantage in connecting early to the POP servers.
On preferential treatment to certain brokers in terms of IP allocation and movement from one server to another, the forensic report found that the IPs were re-assigned to some brokers despite the absence of requisite documentation and approvals to prove legitimacy of the request.
It also cited instances of potential preferential treatment given to certain brokers by a few NSE employees.
There were indications that members of NSE's IT team appeared to ask for certain members to be moved to specific servers while denying others the same.
There were also instances where some COLO members were allowed access to multiple TBT servers by redistribution of their IPOs which was not in line with the sequential method.
Members having multiple logins to a single server could gain by logging in first, second and third since flow of TBT data was sequential as per its architecture.
It also observed that it was possible for NSE to negate the advantage of connecting first by implementing a 'randomiser', which NSE had even developed in 2011 but was not put in place for the TBT servers.
Further, e-mails reviewed suggested that certain members may have got advice from someone within the exchange that there was an advantage in receiving market feeds on early logins to the TBT servers.
Regarding Sampark, the report found that it was not authorised to provide point-to-point connectivity and the exchange, in absence of a specific policy and operating procedure, relied on members' undertakings rather than satisfying itself on Sampark's status as a licensed provider.
The forensic audit also observed absence of protocols related to data retention, e-mail and other information for certain former key team members of NSE.
Sebi noted that the findings of forensic auditor confirmed the findings of its expert committee, including the allegations of collusion of certain NSE employees and stock brokers.
The sources familiar with NSE's thinking said one concerned employee left the exchange in 2014 and disciplinary action would be taken, including against the concerned brokers on conclusive evidence of any collusion or manipulation.
After taking into account various findings, Sebi has asked NSE to present a "comprehensive action plan" to address the issues and findings in the forensic auditor's report as also the road map and action plan on technological and process changes required at the exchange.
The sources said the exchange has submitted a report to Sebi and is waiting to hear back.
Meanwhile, Sebi has also asked the stock exchanges, including NSE, to strengthen their trading infrastructure and allow direct connectivity between servers of a stock broker placed in co-location facilities of various exchanges, among other necessary actions.
The forensic auditor had flagged non-cooperation of NSE employees during the course of investigation and similar issues were faced by the Sebi expert committee as well.