Over 60 stockbrokers under CBI, ED scanner in NSE COLO case

Mumbai, 11th April Stock brokers who escaped scrutiny from market regulator SEBI in the NSE colocation scam (COLO) are now being probed by the Central Bureau of Investigations (CBI) and the Directorate of application (ED).

The CBI is investigating brokers for the misuse of NSE COLO trading systems while the ED is investigating the money laundering angle, mainly involving brokers who have overseas connections and presence, have indicated sources. Business Line.

About 62 brokers had connected to the secondary servers of NSE’s COLO systems, which offered an unfair advantage in receiving data feeds. A Deloitte forensic audit report had revealed that warning tickets had been issued to several brokers against connecting to secondary servers. Despite warnings, brokers were granted unhindered and illegal access to secondary servers.

Investigative reports had also revealed that the average turnover and profits of many brokers on the NSE were higher between 2010 and 2014, when they gained unfair access. Their profits plummeted when NSE changed its COLO architecture to Multicast tick-by-tick (MTBT) broadcasting. Unlike TCP/IP, where data packets are received on a first-come, first-served basis that NSE previously used, MTBT ensured that packets reached everyone connected through the COLO grid simultaneously. Another gray area was the unauthorized use of secondary servers.

Unfair advantage of secondary servers

Secondary servers are an emergency backup machine meant to only kick in when the primary server goes down. Temporarily, the load is shifted to the secondary server until the primary server is operational again. Since this lag occurs in “milliseconds”, it remains imperceptible. But even when not in use, the secondary servers continue to operate alongside the primary machines as they are required to be ready to take on the load immediately when needed. Since secondary servers are lightweight until fully utilized, they maintain a speed edge over primary servers. Few brokers with the patronage of the NSE COLO farm enjoyed the party through a secondary server – topping the markets in milliseconds.

In 2018, Deloitte submitted its second investigation report to SEBI. This report had two parts. The second part of the report talked about preferential access to brokers like OPG, Barclays and SMC. The first part of the report was based on the analysis performed against brokers such as Crosseas Capital Services Private Limited, GDR Securities, KIFS Securities Private Limited, KIFS Trade Capital Private Limited, Estee Advisors Private Limited and Quadeye Securities Private Limited. It was about the “designation of an unauthorized service provider for connectivity to NSE’s COLO”.

Goldman Sachs, America’s premier bank and FII, is among the big name names on the NSE promoter list and owns a 5% stake in the exchange. In 2010, its Indian branch, GS (India) Securities Private Limited, connected to secondary servers in NSE’s COLO 69 times, forensic investigations have revealed. But the SEBI had limited the scope of investigation of its technical advisory committee (TAC) to a period between 2012 and 2015.

Sources said some brokers mentioned in the Deloitte report operated in tax havens like Mauritius and were also affiliated with international trading platforms including the Dubai Gold and Commodity Exchange and the Singapore Stock Exchange (SGX). Their statutory documents show that their management is Indian, but they have created a large network of HFT trading companies around the world, where profits can be transferred. They have company vehicles capable of moving money back and forth in various jurisdictions including the United States and are also registered as FII sub-accounts in India.

A report from the Indian School of Business (ISB) gave an overview of who had all benefited from connecting to NSE’s secondary servers. GS, according to the report, made intraday gains to the tune of ₹90.74 crore and Barclays ₹146 crore. On page number 16, ISB said: “The total average profit of brokers during unicast (the old system of NSE between 2010 and 2015) is five times higher than the period of multicast (the new system that NSE introduced in silence after Deloitte submitted its first report in December 2016). The difference is clearer when we look at the medians, where the profit during the unicast is about 15 times higher than the multicast period.

Deloitte, however, said there were no documents, policies and protocols regarding the operation of COLO, the TBT system, connecting or assigning servers to brokers, etc. Most of the information was provided orally to the listener and often the information shared differed in various discussions. Deloitte also could not find historical information due to the lack of protocols on the retention of data, emails and other information for certain key NSE employees.

The Deloitte report mentions that NSE’s COLO team wrote to SMC Global several times asking them not to connect to the secondary server. But the broker said they wanted to continue because the main server was too slow. SMC Global connected to the secondary server for 389 days in the equity derivatives segment but only complained about difficulties for 210 days. SMC Global was unable to provide evidence for the days they had connected to the secondary server without a corresponding connectivity complaint. Yet NSE’s DAC just let go of the broker with just a “terrible warning”, according to the Deloitte report.

In the case of Barclays, no warning was issued and no further action was taken. During the investigation, Barclays simply said it was unaware of why its applications IT team was switching between primary and secondary servers. He said his IT team was transferred to an entity called Squarepoint Capital in 2015. SEBI and NSE did nothing more against the FII broker. Most HFT Algo and FII players have their base in Singapore, where the Nifty Index is traded. Much of their profits are also generated in a jurisdiction that is beyond the reach of the Indian market regulator. According to the SEBI CFT report, OPG could produce volumes worth 26.64 lakh crore in five years between 2010 and 2015, but similar estimates for other brokers are lacking.

In May 2018, the CBI filed a First Information Report (FIR) against OPG Securities, Sanjay, his brother-in-law Kokrady, Ajay Shah and other “unnamed officials” of NSE and SEBI. The CBI is investigating the matter under Section 120 B (criminal conspiracy) of the Indian Penal Code (IPC), 204 (destruction of evidence), Prevention of Corruption Act 1988 and the 2000 on Computing, which make unauthorized access to computing resources and breaking into digital systems a punishable offence. However, until ED came into the picture recently, the possible money laundering angle had remained completely untouched.

A senior SMC Group official said Activity area that after a show cause notice was issued to them by SEBI, they had satisfied the regulator with their responses. According to Rajesh Baheti of Crosseas Capital, “Everyone in COLO had faster access than those who were not in COLO. No investors operated in COLO but there were only professional trading companies. If the most of the brokers had accessed the secondary servers so there would be no benefit to anyone other than the secondary server was not faster than the primary server it was for wider coverage data due to lost packets.

Published on

April 11, 2022

Dolores W. Simon