Anatomy of a crime P4 – Who benefited from the HFT scam?

A short cast of characters who benefited from the HFT scam

October 4, 2017

In Part 1, I defined a few terms associated with High-Frequency Trading (HFT) explained its beginnings and how it was gamed in the United States of America. Part 2 describes the amount of money looted by a small set of players, close to Rs.50,000 – Rs.70,000 crores ($7.7B – $11.5 B) over a five-year period. In Part 3, how a few benefited at the expense of many was described. This is Part 4.

I need to explain the definition of Order Book as it relates to a Stock Exchange. An order book is an electronic list of buy and sell orders for a specific security or financial instrument, organized by price level. The order book lists the number of shares being bid or offered at each price point, or market depth.

Time series data based forecasting is a popular method used in algorithms to predict the future prices of stocks. Based on past data, one can fine tune one’s algorithms to identify the best one to use, by looking at the data, in order to maximize your returns in the Stock market. If your eyes are beginning to glaze over, be patient! I am getting there… I promised you the list of people who benefited from this scam, according to the whistleblower. Figure 1 below shows the main cast of characters. You can see that it includes a certain name which has become synonymous with corruption.

How did they do it?

The then Finance Minister Chidambaram, realized that there was far more money that can be made in stock markets (the Harvard education helped) than in deal kickbacks. Chidambaram, for reasons unknown, favored the National Stock Exchange over others. More on this in a later series. Lobbyist Ajay Shah was a blue-eyed boy of P Chidambaram and a close aide of the then capital market secretary K P Krishnan. Susan Thomas, wife of Ajay Shah and her sister Sunitha Thomas (wife of NSE’s then trading head Suprabhat Lala) formed HFT firms like Infotech and Chanakya to exploit the loopholes in NSE architecture. They then turned around and sold their technology to brokers such as OPG. Needless to say that they shared the pie with those who enabled them the backdoor access.

**Fig 1.** The players who benefited from the HFT Scam

In the garb of research, they got full granular time series data from NSE which no one else could get and created algorithmic programs to game the market through brokers such as OPG, Alpha Grep etc. Such access helped them to stay ahead of others in the market and ensure that they would always win as they were privy to information ahead of the others. Remember that some got their data (the order book) 3 hours ahead of the market opening which gave them the time to find the best algorithm for maximizing the profits. The reconstructed order book then would go to tax havens preferred by the Foreign Institutional Investors (FII)s like Cyprus, British Virgin Islands, Mauritius, Hong Kong etc. where shell companies owned by Karti Chidambaram such as Advantage Strategic Consulting had access.

That they were co-located at NSE already gave them a tremendous speed advantage. Add to that their peek into the Order Book and they could game the system all day long!

Forex trading

Between July 26, 2013 and Aug 30, 2013, the Rupee experienced a sudden depreciation, of almost 10% (see Figure 2). Normally, when there is a depreciation in the value of the Rupee, the Reserve Bank of India (RBI) would start buying up dollars from its Foreign reserves to shore up the Rupee. But nothing happened. Senior BJP leader Subramanian Swamy alleged that the then Finance Minister P Chidambaram was covertly aiding his son Karti Chidambaram to make a killing in the Forex market by allowing him to do forward trading in the Rupee.

**Fig 2.** The Rupee lost 10% of its value in just one month

Forward trading can be defined as an agreement to trade financial instruments at some time in the future. For foreign exchange, a forward trade creates a forward exchange rate, which is the price that someone is willing to pay in the future to purchase a currency. Let us say the seller knew for sure that the Rupee would gradually depreciate and not appreciate, then that seller could sell Rupee futures all day long. If the seller was Karti Chidambaram, he could do so since he knew that his father, come what may, would not allow the Rupee to appreciate!

To be continued…

Author
Recent Posts

Follow me

Sree Iyer

An inventor and out-of-the-box thinker, Sree Iyer has 37 patents in the areas of Hardware, Software, Encryption and Systems.

His first book NDTV Frauds has been published and is an Amazon Bestseller.It ranked second among all eBooks that were self-published in 2017.

His second book, The Gist of GSTN which too is available on Amazon as an e-Book and as a paperback.

His third book, The Rise and Fall of AAP is also available in print version or as an e-Book on Amazon.

His fourth book, C-Company just released to rave reviews and can be bought as a print version or as an e-Book on Amazon.

Follow me