Searches are being conducted on the premises of former nse ceo chitra ramakrishnan. In fact, Sebi had accused her of leaking confidential information to a mysterious himalayan yogi. Yogi who has also been confirmed to be the same individual as anand subramanian by EY and NSE perhaps one of the biggest stories of possible financial fraud has hit the national stock exchange india’s largest stock exchange.
In February 2022 the former group operating officer of the National Stock Exchange Mr Anand Subramanian was arrested by the CBI in its probe into something called the coal location scam. This scam is said to be so huge that the beneficiaries are suspected to have made 50 to 100 crore rupees extra profits every single day for two to three years and the worst part is that while every single media house has been talking about this Himalayan Yogi Baba barely anyone is actually telling us how was this scam executed in the first place which is why in this blog today we are going to explain to you how does the nse fundamentally make money? How did the scammers find a way to game the system? and most importantly how did it silently affect investors like you and me?
Before we deep dive into the nse scam first thing you need to understand is how does the national stock exchange make money so as usual let’s try to understand this using a simple story let’s say ‘A’ wants to raise 10 cr rupees with 2 lakh shares at 500 rupees per share for this –
We would approach the national stock exchange and when we do the nse will charge us something called the listing fee for putting up cool stocks on its exchange, then it will charge us a processing fee at the end of fundraising this way just like ‘A’.
There would be hundreds of companies that would approach the nse to list their stocks this listing and processing fee together accounts for nearly three percent of nse’s revenue apart from that nse may also guide me and parise with the listing price that is they may tell us that 500 rupees per share is better or 1000 rupees per share is better for this service nse would charge me something called the book building fee book building nearly accounts for 0.3 percent of the total business revenue of nse so considering all this let’s say ‘A’ goes for an IPO and all of our shares get subscribed after using this 10 crore rupees nse gets a transaction fee for facilitating the trade this transaction fee is what forms a significant portion of nse’s earning and forms nearly 74 percent of their business volumes apart from that nse also invests and earns interest income and has other sources of income that contribute to nearly 17 percent of their business volumes and lastly they earn from something called the co-location charges that form nearly 5 percent of the business volumes of nse and this is precisely where the scam happened so the question is what is co-location? and how did the scam happen?
You see guys the stock exchange has data servers that relay the stock prices and market data in real time but the catch over here is that there is a slight lag of a few seconds that happens between the actual price and what we see on screen and since the stock price may vary every second timing and every small difference in price is extremely critical to make profits now to retail investors like you and me a share price difference of 30.15 rupees and 30 rupees may not make much of a difference because we might barely invest 30,000 rupees. So the difference is just 150 rupees or just five shares but in case of hedge funds wherein they invest 300 crore rupees at once this 15 paisa of difference may mean losing out on the purchase of thousands of shares and a straight out difference of 1.5 crore rupees this is the cost of one second and 15 paisa of difference now the nse understood this pain point very well so on august 2009 the nse said that it would offer something called co-location facilities to the stock brokers who are willing to pay extra money what this meant is that the brokers could place their it servers right next to the nse servers for a simple fee this way the prices broadcasted by the nse’s trading system would first reach the brokers whose servers were the closest to the nse servers so if the price fluctuates from 30 rupees to 30.15 rupees the premium brokers would know it first and then the normal brokers would be updated now was this illegal well not really but it was definitely unfair to those brokers who could not afford it.
So the non-co-location brokers would receive the prices with a little bit of lag and this lag would be anywhere between a few milliseconds to a second or maybe even more and depending on the physical distance from the exchanges server you actually lost out on time and eventually money but everything was still fine until now now everyone would assume that all co-location brokers would have gained from this system right well not really because something strange happened between 2010 to 2015. As it turns out a whistleblower came up with a critical complaint that actually started the nse saga –
Now let’s see what this exactly means if you look at the functioning of the nse back then the nse servers used to transmit data or in this case the share price data was transmitted to multiple servers wherein the brokers were actually locked in now usually when it comes to tech companies like google these companies have hundreds if not thousands of servers that cater to the huge amount of user data from all across the world so to regulate this traffic they have something called a load balancer this tool constantly looks for the least loaded server and allocates the user accordingly. So if I am searching something on google, google has hundreds of servers to which it can allocate my load to and the load balancer will first check which server has the least traffic and will allocate that server to me accordingly.
This way google servers are managed efficiently and at the same time I as a user can get my search results quickly because of less traffic in my server but you know what guys strangely in this case this load balancer was not installed earlier in nse and these servers seem to have needed manual intervention for operation so in reality there were actual people who were turning on and off the service and instead of automated allocation in nse the brokers were logged in first to the server would by default stay in front for the rest of the day and could have the first shot at the trade so what did the brokers do through insider information the brokers found out which server would be started first and they would latch onto that server to get the first mover advantage some brokers also figured out that there was an advantage of being on the server with the least amount of load or in simple words the server with the least number of trading members logged in so you know what they would latch on to that server by which their trades would be executed faster than the members who were locked down to the crowded servers and in some cases these brokers purposefully crowded other servers so that the other brokers could not execute the trade faster.
This is where ladies and gentlemen the scam actually happened as per a complaint received by the market regulator from a whistleblower OPG Securities was this entity that used the systems at the national stock exchange to get an unfair advantage by hiring someone called Nag Bhushan Butt this guy was working with omnisis technology and this was done to figure out which server was working better these allegations also state that there was an arrangement between the staffer from the nse data centre named jagdish joshi and this guy would inform these brokers about the time in the servers would start by which these entities could be the first ones to connect and have an undue advantage over the rest and you know if I were to give you an oversimplified example of the same it’s like if you and I were to be betting during a game of cheney super kings and mumbai indians if you are watching it on hotstar and I am watching it on tv even if hot stars broadcast is one ball ahead I will note that dhoni will hit a 6 next because I will watch it first so immediately I will bet you ten thousand rupees on dhoni hitting a six and because you would always be behind me you will never be able to win the bet against me similarly when the brokers got the data ahead of others they were able to make a ton of profits as compared to the rest because they were able to bet on the best prices.
This is how certain powerful brokers game the system to get early access to the data eventually ended up having an unfair advantage of time and eventually money over the rest this is how they made crows of rupees every single day now it’s not like the nse did not try to fix these problems at all nse actually introduced a load balancer by which these orders would be automatically allocated to the least crowded server by april 2015 the nse implemented the multi-broadcast tbd protocol and as the term broadcast suggests the data feed would now be decimated simultaneously to all co-location brokers instead of a first-come first-served basis so now there was no longer any advantage of logging in first but guess what the smarter players still manage to game the system the question is how?
As it turns out nse actually had a backup server to which these co-location brokers could log in if there was trouble with the primary servers so some brokers would access the server regularly even with the primary servers working fine so this way again the brokers were able to get the data before anyone else and they were able to execute the trade faster because of very less traffic on the backup server and once someone had access to the entire order book ahead of time it was just raining profit for these brokers and according to the whistleblowers these players with this advantage were easily making between 50 to 100 crore rupees cumulatively every single day and all of this happened during the tenure of two senior members who are in charge of the nse who are ravi narayan and chitra ramakrishna and the impact of this scam in our lives is that if you and I were investing in the stock market between 2010 to 2015 either directly or through mutual funds if these transactions were done on nse there is a probability that we may have paid a slightly higher price while buying shares and received a slightly lower price while selling and because this difference was as small as 15 paise or 30 paise it was not big enough to arouse suspicion but if you look at the total volume of trade these rupees in pieces were multiplying by crows with each passing day.
Now the question is amidst all of this who is this yogi baba that everybody is talking about and how is this connected to the scam well long story short sebi changed upon certain confidential emails (firstname.lastname@example.org) between the then md of nsa chitra ramakrishna and a certain yogi with this email id between 2014-2016. the emails revealed that rama krishna shared confidential data about nse’s five-year projections financial data dividend ratio business plans and even the agenda of the board meetings with this guru some say that chitta ramakrishna who claims that she was in need of spiritual guidance fell victim to this group while some believe that this is all a cooked up story just to protect herself in case she was caught on top of that chitta ramakrishna also appointed a guy called anand subramanian and out of nowhere made in the group operating officer of the nse and somehow both the board of directors and sebi did not take notice of it at all now why this happened how did they miss it and who actually made money apart from the one scene in the news we don’t know but what we know for sure is that sebi needs to up its game because we are talking about the biggest stock exchange of india and tomorrow if another scam breaks out it might wipe out thousands of crows of investor wealth within no time and since normal people like you and i are in no position to act upon this all we could do is stay aware and spread awareness about these mishappenings in the system and that is exactly why we made this episode so if this makes sense to you please share this in your social circle that’s all from myself today.