Before you wonder how spot fixing can be clueless, let me clarify that this piece is not about the (in)famous spot-fixing scandal in cricket where some players earned money and lost careers. This article is about the confounding and entangling scam around the recent National Spot Exchange Limited (NSEL) scandal which brought down not only FT (Financial Technologies, NSEL’s parent company) shares but also the Sensex and the stock market. I am since then trying to delve and disclose the relationship between scams and the Sensex. Trust me, as one digs deeper, the clumsier the issue becomes.

For those who are unaware of what exactly went wrong in the NSEL, it can simply be put like this — being a spot exchange, the NSEL is allowed to sell short-term forward contracts of underlying commodities. When MCX (Multi-Commodity Exchange) was founded by FT promoter Jignesh Shah, his entrepreneurship was lauded and it worked at that time since commodities remained truly undervalued till the MCX was launched. Thereafter, to increase liquidity and volatility in commodity market, FT established NSEL to sell spot futures with the maximum contract period of 11 days.

However, the NSEL unduly exploited the leverage and went on selling dual forward contracts, one short-term and one long-term, on the same commodity, for instance, one with T+2 maturity and the other with T+28. Now, an investor could take a long position on T+2 contract and simultaneously enter into T+28 contract with short position, pledging the underlying commodity which never came into his/her custody. The difference between these two contracts stood around 15-18 per cent. This means the investor would have typically 18 per cent rate of interest in a month’s time, that too in a highly liquid market.

The basic purpose of a spot commodity exchange was to promote commodity pricing to bring the markets to a supply demand- speculation equilibrium. But with above mentioned practices in trading, this basic purpose was defeated as these instruments were used as short-term money making mechanisms. The fact that one could enter into long-term forward contract without actually possessing the underlying commodity enabled money laundering sharks to circulate the capital again and again through the process by rolling it over. Typically, the borrowers (purchasers of forward contracts) would be the businessmen (mostly real estate) who were in need of money for a short period but got it in the above way for a scanty 15-18 per cent cost of capital. On the other hand, the investors were happy too since no other product in the market would give guaranteed 18 per cent returns in a month’s time.

Does the process ring any bell? Yes, the scam has uncanny resemblance with the scam five years ago where the Lehman Brothers went bankrupt over sub-prime lending crisis. The situation had a domino effect of pushing the whole world into a deep financial crisis. Prices soared even when the underlying asset (house price in 2008 crisis) had no material appreciation; it was only due to unethical speculators and shameless rating agencies vindicating such illogical products as “highly recommended”.

I am reminded of my grandfather who used to say, “Promise something to someone only if you have it”. It seemed like an average-intelligence common sense at that time, as any sane person it was presumed to know the same. But I guess limits of sanity vanish into thin air as one grows stronger in the financial market.

In fact, we need not cross seven oceans to look for a reference to the scam. Closer home, before the scam in the Bombay Stock Exchange was exposed by Sucheta Dalal in 1992, Harshad Mehta and Ketan Parekh did similar things. Mehta brokered for the “ready forward” deals between two banks or two parties, wherein instead of earning commissions of mere thousands of rupees, Mehta embezzled crores into the market and artificially blew the stock prices out of proportions. All it took him was to get hands on the counterfeit bank receipts (BRs) which he would exchange with the lending banks while purporting to be brokering for an invisible borrower. He made millions in return.

The ‘hows’, ‘whys’, ‘when’ are questions only innocent investors like us indulge in at the time when we invest in market believing its potential to reflect the true economy. For financial institutes who are the trustees of our money, it is all about getting maximum leverage and pouring in the excess leverage again into the market so as to burgeon their balance sheets and turnover figures. In the 1992 scam, none cared to carefully verify the authenticity of the BRs being traded. Finally, Mehta and Parekh did go to jail and the then chairman of Vijaya Bank did commit suicide fearing ignominy, but those who actually suffered were the investors who, despite dealing in good faith, are making rounds of courts even after 20 years to claim their money back.

Let me come directly to the point before the readers conclude that this piece is an outcry of someone who has lost money in the market thanks to the NSEL/FT/MCX crash. As a matter of fact, I am not much leveraged into stock markets and have hardly tried luck in F&O, the only reason being the lack of risk appetite. My aim here is only to emphasize that investors must know the risk involved before such a scam is exposed and chaos spreads. I am reminded here of the joker in the film ‘The Dark Knight’ who said, “I am an agent of chaos”. I presume some of us are indeed the agents of chaos for we keep indulging in things we know are going to go kaput some day. The country has a number of regulatory bodies to oversee the operations of the market. dThough the SEBI and the CCI seem to have been on the right track but when it comes to derivatives markets, the FMC still appears like either a toothless tiger or a headless elephant. Regulatory authorities should really be conservative, however unfair it seems to market prosperity. What we need is a sustained and pragmatic growth, not a frenzied and ephemeral one. Western models of promoting market prosperity have been proven wrong time and again; the think-tank in these countries is now contemplating the austerity measures. Some of them are believed to be in touch with the Reserve Bank of India to teach them ‘control’. I wonder if they will change their minds after seeing how RBI “controlled” the rupee downfall recently.

The government is still at a loss when enquired about the FMC sitting over the decision of the NSEL procedural shortcomings which were spotted at least a year ago. Are these decisions also “timed” perfectly? Did someone influential decided at the high-level FMC meeting to wait for the downward spiral of the Sensex before asking the NSEL to stop spot trading and settle the outstanding contracts first? Meanwhile, the clueless investors continued putting their money to risk and those supposed to protect it remained mute.

I am certain that every citizen has once in a while asked himself/herself if the Sensex is the true reflection of the market potential or the economy. The reality is not many of us got a convincing answer to this one. Amid the current chaos, the Finance Minister said: “People buy unnecessary gold, which widens CAD and rupee so depreciates.” The irresponsible statement reflected the government was washing hands off its own duties and putting the blame on the investors. Perhaps the government was indicating at us to really stop buying gold, and invest as well as reserve cash for onions.