SEBI board to vet National Stock Exchange colocation probe report

SEBI board to vet National Stock Exchange colocation probe report

The regulator has completed the investigation against 20 brokers, who allegedly gained unfair access to NSE's trading facilityThe Securities and Exchange Board of India (Sebi) has completed its investigation of 20 brokers in the National Stock Exchange (NSE) colocation (colo) controversy.

The regulator in August last year had ordered a joint forensic audit to probe the brokers, who had allegedly gained unfair access to trading data feed between December 2012 and May 2014.According to sources, the investigation report has a detailed analysis of brokers using the colo facility to churn out thousands of trades and make huge profits.

“There is a high probability that some brokerages who were using dark fibre connections received preferential treatment from bourse officials,” said a person privy to the development. However, he refused to give further details of the findings.The report is likely to be tabled in Sebi’s upcoming board meeting on March 28.Sebi had appointed two audit firms, EY and Deloitte India, to conduct a forensic audit and establish whether there was collusion between the brokers and exchange officials.

The firms have conducted the probe under the regulator’s supervision.Sources say Sebi had independently scanned internal emails of brokers and their communications with the exchanges.The brokerages concerned were asked to share information relating to their agreement with Sampark Infotainment, a company that had provided the dark fibre between the NSE and the BSE. A dark fibre connection was to link colo servers of a broker in two exchanges, enabling them to obtain the stock data and trading information.

Sources say with this report, Sebi would soon decide action in the matter and pass its final order on the entities involved.The report could pave the way for the NSE to re-file the consent plea with Sebi for settling the issue. The regulator early this month had returned the NSE’s consent application, citing pending investigation.The NSE, along with some of its former and current employees, had submitted its consent application on July 28 last year. Early this month, Sebi had returned the consent pleas, citing pending investigation.

The NSE had said it intended to re-file the application after investigations were completed. At present, only the brokers’ audit report on unfair gains is pending.In November last year, the NSE had submitted two audit reports to Sebi, prepared by EY and the Indian School of Business (ISB).EY was given the mandate to do an audit into the cash, currency derivatives, and interest rate future segments, while the ISB was to determine whether certain brokers made undue profits by getting preferential access to the exchange’s platform. 

Earlier too, the NSE had appointed Deloitte for a forensic audit, which had established that the trading systems at the NSE colo facility were prone to manipulation. But the consulting firm was not able to find evidence that entities in the ecosystem made monetary gains. The report, however, mentioned that preferential treatment might have been given to a few stockbrokers. It had said some stockbrokers were consistently the first or second people to connect to a fallback secondary server between December 2012 and May 2014. And it said it could not be possible without exchange employees’ knowledge.

The issue at the NSE is related to allowing brokers to set up servers next to the exchange’s trading servers on their premises, popularly known as colocation. This has given these brokers the advantage of getting access to trading data quicker by a split second as compared to other brokers. Based on the internal probe, Sebi had issued show-cause notices to the exchange and 14 officials for alleged violations of securities contracts rules and stock exchange clearing corporation rules. The notice had mentioned failure on the part of NSE officials in ensuring fair access and their non-cooperation during the probe.

If the exchange is held guilty, it will pay the penalty, but if employees, especially former officials, are responsible for the alleged violations, the exchange would not bear the cost, said another person in the know of things.

THE STORY SO FAR

March 2016: Sebi’s technical advisory committee submits its report, notes NSE violated norms of fair access, allowing some brokers to benefit

October 2016: NSE appoints Deloitte to examine the allegation, as directed by Sebi

December 2016: Deloitte submits its report, finds fault in the co-location architecture

March 2017: NSE appoints EY to audit its cash, currency, and derivatives segment; ISB appointed to determine whether certain NSE brokers made any abnormal profits

August 2017: Sebi appoints EY, Deloitte to jointly probe brokers’ role in the matter

November 2017: NSE submits EY, ISB reports to Sebi

March 2018: Sebi board to be apprised of brokers’ probe report

The Business Standard, New Delhi, 26th March 2018