Explained | The SEBI order against NSE, Ravi Narain and Chitra Ramakrishna

SEBI headquarters (Representative image)

The Securities and Exchange Board of India (SEBI) has imposed a penalty of Rs 1 crore on the National Stock Exchange (NSE) and Rs 25 lakh each on former CEOs Ravi Narain and Chitra Ramakrishna in the co-location matter. Below we attempt to connect the dots about the SEBI probe and the order.

What is co-location and what triggered the SEBI probe?

The SEBI order pertains to a probe in the co-location matter. Co-location refers to a facility wherein brokers place their servers in the exchange premises to be physically close to the NSE servers. The physical proximity allows these members faster access to NSE servers, which, in turn, helps in executing the buy and sell orders faster.

While many brokers opted for co-location facility, SEBI received a complaint in 2015 that a certain broker—OPG Securities—was getting access to the exchange data faster than the other members who had opted for co-location. This was against the principle of co-location that was built to ensure that each member gets equal, fair and transparent access to the data.

The complaints triggered a SEBI probe, which, among other things, found that NSE failed in its duties to ensure fair access to each member. It found that former CEOs Ravi Narian and Chitra Ramakrishna were at the helm of affairs when the violations happened and hence were ultimately responsible for the wrongdoings.

Narain was the MD and CEO of NSE from 2000 to March 2013 while his successor Ramakrishna occupied the chair from April 2013 to December 2016. Earlier, she was Joint MD from 2010 to 2013 and deputy MD from 2008 to 2010.

What was the complaint against NSE?

The complaint received by SEBI in 2015 accused NSE of using a so-called ‘Tick-by-Tick’ data protocol wherein data was delivered one by one instead of a broadcast mechanism that would have ensured everyone got the data at the same time. More importantly, under the ‘Tick-By-Tick’ mechanism, data was disseminated sequentially in the order in which members connected to the server and the first one to connect to the server with the lowest load would get an advantage in terms of getting the data faster than others.

The complainant alleged that Omnesys Technologies—in which NSE was the second-largest shareholder—knew this feature of the ‘Tick-by-Tick’ protocol. OPG Securities, as per the complaint, hired an individual from Omnesys and also entered into “certain arrangements” with an NSE datacentre staffer to know when a particular server would be switched on, which had the lowest load and hence give it an advantage over other brokers.

What were the allegations against the two former CEOs of NSE?

The main allegation against the two former honchos of NSE is that while they were in charge of the affairs of the exchange, they failed to act and implement proper checks and balances to ensure that each trading member got a fair and equitable access to data in this specific matter. The extent of unfair access by OPG was possible only through the active connivance of NSE officials, stated the order.

What did the NSE and its former CEOs state in their defence?

While SEBI-mandated teams and forensic audits did state that the Tick-by-Tick system was prone to manipulation while giving unfair access to certain members, NSE, in its defence, stated that the sequential data dissemination did not provide any benefit. The exchange further submitted that more than 50 percent of the members who opted for co-location had access to multiple servers, which proved that NSE was fair and equitable while treating the members.

Narian submitted that he went by the advice given to him by the functional heads, including those in charge of technology and hence should not be held responsible for any alleged wrongdoings. Chitra Ramakrishna said that ‘Tick-by-Tick’ protocol was already in place when she became the CEO and was discontinued in a phased manner by December 2016 – when she was at the helm. In her defence, Ramakrishna said she went by the advice of the technology heads of the exchange.

Why did SEBI drop allegations related to “fraud” against the three entities?

While the complaints and allegations pointed towards fraudulent activities allegedly done by the exchange and the two former CEOs, the capital market regulator concluded that while there were violations of the regulatory framework, charges of fraud were not established as the initial technology used for co-location facilities were not designed with “the motive or ill-conceived idea or design to defraud or induce any other person to deal in securities”.

What action has SEBI taken against the three entities?

“… NSE has failed to comply with the provisions of SECC Regulations in letter and spirit and Noticee No. 2 and 3 (Ravi Narain and Chitra Ramakrishna, respectively) are vicariously liable for the acts of omissions/ commissions committed by Noticee No. 1 (NSE),” stated the SEBI order. While NSE has been imposed a monetary penalty of Rs 1 crore, both Ravi Narain and Chitra Ramakrishna have been ordered to pay Rs 25 lakh each.