2019 (6) TMI 843 - AT - SEBI

Annulment of certain trades executed in NIFTY Options Contract - order of the Independent Oversight Committee of the National Stock Exchange of India Limited challenged - HELD THAT - All trading members who were doing the trades at the relevant time, therefore, were expected to be aware of the possibility of prices moving within these ranges. We are also told that along with the best five prices shown on the trading screen the quantities on offer are also available against those best prices. So traders wanting to trade in large quantities had to be conscious of the possibility of matching their trades at prices substantially varying from the five best prices shown on the screen. It is not for this Tribunal to get into the issue of how prices can vary suddenly from ₹ 100 to ₹ 10 or even ₹ 1 within a fraction of a second except restating that the automated trading system of a highly liquid options market is so complex and fast changes in prices based on various factors are expected in milliseconds or even microseconds. In a liquid market, the market moves even within the time when an order is placed and a huge order itself will move prices are known to all experienced traders like the appellant. It is an admitted fact that the traders of the appellant did not use the limit order route. It is also an admitted fact that a large quantity of NIFTY Options were placed for sell in the last few minutes of the closure of the trading day which was also the expiry day of the contract. It is also a generally known fact that on the expiry day of a contract prices tend to fall and, therefore, executing large orders will invariably gravitate towards lower prices. Here the price range was set by the Black-Scholes methodology and in the range of ₹ 0.05 to ₹ 570.10 for NIFTY put Options ₹ 6000 and between ₹ 0.05 to ₹ 687.45 for NIFTY call Options ₹ 5700. When a methodology was known to the market participants and as per the methodology price range was set we cannot interfere with such a system in arbitrarily deciding what should be far away prices from the intrinsic value. There were 101 counter parties who all were aware of the applicable price ranges and placed orders at different prices. Bye-law 5 of the Exchange NSE is essentially about upholding the sanctity of trade since it is on inviolability of trade . Accordingly, we agree with the contention that annulment of trade should be resorted to only in extreme cases as specified under this bye-law. We do not agree with the contention of the appellant that it was a material mistake from the side of the trader / dealers of the appellant and, therefore, we do not agree that the impugned trades are liable to be annulled. Exchange was not very clear when they issued advisories to the trading members that they should not be placing orders at far away prices. It is also noted that such advisories were issued even on August 14, 2013. Similarly, the Circulars dated November 16, 2010 and April 24, 2012, the issue of price range and flexing of price range from ₹ 1 to ₹ 3 etc. is ambiguous. Regulatory instruction, particularly relating to trading and settlement matters should be clear and unambiguous and also clearly stating the consequences of violations. Such violations, if any, also need to be dealt with appropriately. However, we refrain from issuing any directions to NSE in this regard at this time since by the Circular dated April 11, 2014 greater clarity and certainty have been brought in clearly stating the range within which only trading is possible in the options segment as well.

Summary

Issues Involved:

1. Annulment of trades executed on September 26, 2013.
2. Alleged "inadvertent punching error" and "fraud and criminal breach of trust."
3. Compliance with NSE Circulars and bye-laws.
4. Applicability of the Black-Scholes model for pricing.
5. Comparison with the Emkay case.
6. Inviolability of trade under NSE bye-law 5.

Issue-wise Detailed Analysis:

1. Annulment of Trades Executed on September 26, 2013:
The appellant challenged the order of the Independent Oversight Committee of NSE dated July 07, 2017, which rejected the request for annulment of certain trades executed on September 26, 2013, in NIFTY Options Contract. The appellant argued that the trades were executed at substantially low prices due to an "inadvertent punching error" and sought the annulment of these trades. The NSE, however, rejected the application for annulment on May 06, 2014, and the matter was remanded to NSE by the Tribunal for a fresh order in view of the Emkay judgment.

2. Alleged "Inadvertent Punching Error" and "Fraud and Criminal Breach of Trust":
The appellant contended that the orders were placed at market rate due to negligence of the dealer traders and not based on client instructions. The appellant also filed a criminal complaint alleging "fraud and criminal breach of trust by employees" and requested NSE to withhold payouts to counterparty brokers. The NSE and respondent brokers argued that the appellant, being an experienced trader, deliberately chose the market price option to ensure the entire quantity would be squared off within the limited trading time.

3. Compliance with NSE Circulars and Bye-laws:
The appellant referred to various NSE Circulars advising market participants not to place orders at unrealistic prices. The appellant argued that the low execution prices were against these Circulars and requested NSE to investigate potential fraudulent activities. However, the respondents contended that the Circulars belonged to an earlier regime and that the pricing at the relevant time was determined by the Black-Scholes model.

4. Applicability of the Black-Scholes Model for Pricing:
The respondents emphasized that the prices of the options premium at the relevant time were decided by the Black-Scholes model, which was known to all market participants. The Tribunal noted that the price range set by the Black-Scholes model was from ?0.05 to ?570.10 for NIFTY put Options 6000 and from ?0.05 to ?687.45 for NIFTY call Options 5700. The Tribunal accepted this methodology as the appropriate range since it was not challenged by the market participants at the relevant time.

5. Comparison with the Emkay Case:
The appellant heavily relied on the Emkay case, where the Tribunal annulled trades due to abrupt movements in the NIFTY Index and violations of position limit and margin rules by counterparty brokers. However, the Tribunal distinguished the present case from Emkay, noting that there was no movement in NIFTY, and the appellant's large sell orders in the last minutes of trading led to low execution prices.

6. Inviolability of Trade under NSE Bye-law 5:
The Tribunal referred to bye-law 5 of Chapter VII of NSE, which allows annulment of trades only in cases of fraud, willful misrepresentation, or material mistake. The Tribunal found no merit in the appellant's claim of an unintentional mistake, as it was a conscious decision to square off positions in the last minutes of trading. The Tribunal emphasized the importance of upholding the sanctity of trade and concluded that the impugned trades were not liable to be annulled.

Conclusion:
The appeal was dismissed, with the Tribunal finding no material mistake in the trades executed by the appellant's dealers. The Tribunal also noted the ambiguity in NSE's advisories on trading at far away prices but refrained from issuing directions to NSE, acknowledging the clarity brought by the Circular dated April 11, 2014. The appeal was dismissed with no order on costs.