A gag order on price discovery

Three Indian stock exchanges have come together to announce they would stop feeding price data to foreign stock exchanges

It is an extraordinary and unprecedented measure. All the players in a market got together to execute an agreement. They issued a joint press release. A press release that read more like legislation than like a piece of commercial communication being sent to the market. The only three relevant Indian stock exchanges came together to announce that they would stop feeding price data to foreign stock exchanges.

“It is observed that for various reasons the volumes in derivative trading based on Indian securities including indices have reached large proportions in some of the foreign jurisdictions, resulting in migration of liquidity from India,” the release said, adding for good measure, “which is not in the best interest of Indian markets.” With words straight out of the SEBI Act, this was an unprecedented press release that sounded like an order usually passed by SEBI citing Sections 11 and 11B of the SEBI Act, which empowers the market regulator to issue directions “in the best interests of the securities market”.

The content of the press release has to be read to know the unprecedented nature of what is being done. In a nutshell, the self-styled “Indian exchanges” announced the following:

Indian exchanges and their affiliates will not directly or indirectly provide data on data discovered on their platforms to any foreign stock exchange or platform that trades or settles derivatives in any form outside India;

Indian exchanges, their affiliates and also their third-party vendors will blank out any price data to index providers who construct or compute indices outside India;

Global securities indices that have an element of Indian securities too would be starved of price data if 25 per cent or more of the weightage involves Indian securities, and derivatives are written on the back of such indices;

Those who get price data from Indian exchanges would “not be permitted to use” it for any structured product or participatory notes traded abroad;

All existing agreements to provide such data will be terminated immediately with notice period commencing forthwith, and within a month, all arrangements would be terminated or modified to “comply with the contents of” the press release; and

The final closing prices of securities would be displayed on the stock exchange website and forwarded to media organisations, two hours after the close of the market.

Essentially, a gag order on price discovery. An agreement of this sort is what is typically called a “horizontal agreement” under competition law -- one in which competitors enter into an agreement. The effects of this agreement can impair competition in the global market for price discovery. The phone lines between the Competition Commission of India and the Securities and Exchange Board of India could be burning with activity (they are statutorily obliged to talk to each other). Overseas competition regulators and overseas securities regulators could demand explanations from their Indian counterparts. The seeds of a cross-border trade diplomacy spat seem to have been sown.

Soon, state agencies may need to take a call on whether to wash their hands off, terming this a private agreement from private market players to combat overseas competition, or whether to take ownership of the measure, or, at the least acknowledge having blessed it if not having authored it. If this measure had the blessings of the regulators, it would have had the blessings of the government. Both competition law and securities law have provisions enabling the government to issue directions on matters of policy. There could emerge international pressure for government to use this power and direct the regulators to get involved — similar to the pressure to intervene in the spat that occurred years ago between the securities market regulator and the insurance market regulator over unitlinked insurance plans.

Putting aside the tone and tenor of the press release, the content does read like the proclamation of an emergency measure. The philosophy of such policy measures is precisely the philosophy underlying prohibitions, censorship and bans — cases in example are moratoriums on remittances abroad, prohibition on import of gold, and at an extreme, overnight prohibition on usage of certain denominations of currency. Such measures typically push economic activity underground -- the expansive and unofficial flow of alcohol in states that have imposed prohibition are a great example.

As Indian companies go global, interest in how their securities are priced in India can only grow across the globe. The demand for live price data of Indian securities would necessarily expand. A great policy response to overseas competition could be to permit Indian platforms to enable trading derivatives on foreign securities within India. These could be denominated in Indian rupee and have foreign securities and foreign indices as their underlying. The Sahoo Committee recommendation to allow such activity through a concept called “Bharat Depository Receipts” has met with stiff resistance from the regulators and is gathering dust. ( Disclosure: the author was part of the committee that has made this rejected recommendation.)

Instead, the argument that “we should prevent export of the Indian market” seems to have taken firmer root. This philosophy was used to effectively stop overseas listing by Indian companies. However, a well-known but littleacknowledged fact is that any initial public offering of securities in India is as much a securities offering made outside India as it is a domestic fund-raising exercise.

The approach of starving global markets of Indian price data, risks the Indian market itself. It is like a throwback to the pre-1990s era, where imports and exports needed licensing with a view to protect the interests of the Indian market and instead distorted the domestic market.