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NSEL: A Case of Fraud in Indian Financial Market*

CASELET, FINANCIAL MANAGEMENT
ET Cases - GSMC, 9 Pages
AUTHOR(S) : Dr. Abhay Kumar, Assistant Professor, NMIMS University

Case Preview

NSEL: A Case of Fraud in Indian Financial Market

Indian capital markets have come a long way since financial reforms of early nineties. The much-needed reforms of 1990s came as a big boost to the economy and in turn furthered investor’s confidence. Establishment of Securities and Exchange Board of India (SEBI) with full statutory powers was another revolution in financial reforms. SEBI helped in removing direct government control, brought transparency, and ensured free access to capital markets to the investors. It has been governing the behaviour of major market participants such as stock exchanges, brokers, merchant bankers, mutual funds quite efficiently. It was also regulating activities such as takeovers and insider trading in an attempt to enhance investor protection. Opening of the capital markets to Foreign Institutional Investors (FIIs) and allowing Indian companies to raise capital abroad by issuing Global Depository Receipts (GDRs) was another step in the right direction. Reforms followed by setting up of National Stock Exchange (NSE) and National Securities Depository Ltd............

The Company

NSEL was one of the four spot exchanges operating in India. The others being NCDEXSPOT, R-NEXT (by Reliance Capital) and National APMC. NSEL was incorporated as a company limited by shares under the Companies Act, 1956 in May 2005. It commenced live trading on October 15th 2008 and slowly extended its operation in 52 different agricultural and non-agricultural based commodities across 16 states in India. The Exchange had organized, structured and state-of-the-art, delivery based market. It aimed to transform the commodity market by way of reducing cost of intermediation and improving marketing efficiency...........

NSEL’s Business Model

In a traditional commodity spot market, both commodities and money gets transferred immediately. NSEL got special notification from Department of Consumer Affairs (DCA), on June 5th 2007 to trade in “One day duration forwards contract”. This notification exempted one day forward contracts of NSEL from the provision of Forward Contract Regulation Act. This exemption on forward trades came with the condition that the respective exchanges should not allow short selling. As per the notification, trading in NSEL can be completed in 2 days (T+2)...........

Starting of the Problem

Everything was running very smoothly till December 2012 when DCA received complaint against NSEL for its involvement in illegal financing. On the basis of the complaint, on July 16th 2013, DCA initiated an investigation and instructed NSEL not to offer any contract of more than T+10 settlement cycles contracts above T+10 are forward contracts and are no longer considered as spot contracts...........

Illegal Financing

Planters knew that the goods that they were selling spot and buying forward on T+30 Settlement would remain at the warehouse only. They were well aware of the fact that the investors would not take possession of the goods and contract would be rolled over...............

Settlement Commitment

After mass default, NSEL announced the detailed settlement plan on August 14th 2013. NSEL stated that it would clear all the dues in the coming 30 weeks. It had notified that the amount received from defaulters would be credited in a separate Escrow Account. And it would be proportionately disbursed to all the pending clients having receivables against their unsettled obligations...............

Manipulations

NSEL officials including Shah were aware that borrowers have stopped making payments. However, they kept the information suppressed. MD and CEO of NSEL, Anjani Sinha (Anjani) in affidavit to the court has quoted “By 2011-12 the scenario was such that if we do not allow rollover, buyer would have defaulted with huge amount.................

Regulatory Action

After massive protest by the investors, NSEL filed case against defaulters. “We have filed a case with the Economic Offences Wing of Maharashtra police against the defaulters, despite repeated pleas, they have not paid their dues,” said an NSEL official. Under pressure from electronic and print Media, authorities came into action. A series of raids and arrests were made by Economic Offence Wing.............

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Consultancy Services

Geogit Comtrades has appointed E&Y to do the “Risk based review for commodity financing business” of NSEL trading. E&Y in its report on September 12th 2013 said that warehouses linked to NSEL are WDRA-accredited and there is limited counter party risk on account of robust risk management system of NSEL...............

Assignment Questions

I. Do you think exchanges like NSEL be allowed to operate in India?
II. What was the modus operandi of NSEL?
III. How could the paired contracts be sold as risk-free contracts?
IV. Who is responsible for the fiasco?
V. Has Government failed in its responsibility? How could it be dealt with?
VI. ....................

Teaching Note Preview

NSEL: A Case of Fraud in Indian Financial Market

 

Synopsis

The caselet “NSEL: A Case of Fraud in Indian Financial Market” describes the financial fraud that erupted in commodity spot market in the year 2013. Regulatory authorities acted as a mute spectator and failed to take action in time. They could not protect the interest of the investors. The case focuses on how the new financial instrument can act as a weapon of mass destruction in absence of proper regulation.

Pedagogical Objectives

  • • To understand the role of financial regulators in the new arena of financial engineering
  • • To address the risk of new complex financial instruments and markets
  • • To understand how financial intermediaries manipulate financial markets

 

Case Setting and Positing

The case can be used for second year MBA program for the elective courses like Financial Risk Management and Financial Institutions & Markets to elaborate the following themes

  • • Risk of investing in new financial instruments
  • • Risk caused by financial derivatives
  • • Regulatory role in the handling of financial crisis

 

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Product code: FIN-2-0027, FIN-2-0027A

Abstract

Indian financial markets have grown many folds after much sought after financial reforms in nineties. This growth has brought prosperity to the Indian economy. However, it has also exposed the economy to increased financial risks with the outbreak of various financial frauds. This caselet is aimed to provide a detailed view of a financial fraud that erupted in the commodity spot market during 2013. National Spot Exchange Limited (NSEL) scam which broke out in July 2013 was one of the largest in India's financial market history. The scam was a result of regulatory failure and lack of corporate governance. The caselet underlines the role of various stakeholders of financial markets in the fraud. It is intended to introduce the riskiness of new financial instruments and greed of investors in the discussion.



Pedagogical objectives

  • To understand the role of financial regulators in the new arena of financial engineering
  • To address the risk of new complex financial instruments and markets
  • To understand how financial intermediaries manipulate financial markets

Case Positioning and Setting

The caselet can be used for second year MBA or Executive MBA programs for the elective courses like Financial Risk Management and Financial Institutions & Markets to elaborate the following concepts.

  • Risk of investing in new financial instruments
  • Risk caused by financial derivatives
  • Regulatory role in the handling of financial crises


* GSMC 2016, IIM Raipur

This Case Pack Includes:
- Abstract
- Caselet
- Teaching Note (**ONLY for Academicians)
$3.66
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