Prof. Jayanth R. Varma's Financial Markets Blog

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Stock Exchange Outages

A month ago, the National Stock Exchange (NSE), India’s largest stock exchange, suffered a software glitch and suspended trading about four hours prior to the scheduled end of the trading session. As the clock ticked close to the scheduled end of the trading day, there was no news about resumption of trading, and stock brokers decided to close out the outstanding positions of their clients on the other exchange (BSE) to avoid exposure to overnight price risk. About 13 minutes before scheduled close of the trading session, the NSE announced that normal market trading would resume 15 minutes after the scheduled close and would continue for 75 minutes thereafter. Yesterday, the NSE put out a self congratulatory press release providing some details of what happened on February 24, 2021. This is a vast improvement on the very limited information that they released a month ago (24th morning, 24th afternoon and 25th).

It appears that the regulators are also investigating the matter and, perhaps, much effort will be expended on apportioning blame between NSE and its various technology vendors. I wish to take a different approach here and argue that the regulators should simply lay down an downtime target. The computing industry works with Four Nines (99.99%) availability (less than an hour of downtime a year) and Five Nines (99.999%) availability (about five minutes of downtime a year). Let us assume that Five Nines is out of reach for stock exchanges and settle for Four Nines. There would then be no penalty for the first hour of downtime permitted under Four Nines and the penalty per hour thereafter would be calibrated so that the entire profits of the stock exchange are wiped out if the availability drops below Three Nines (99.9%) corresponding to a downtime of about nine hours per year.

Based on the most recent financial statements of the NSE, the penalty for that exchange would be about Rs 2.2 billion (around $30 million) per hour beyond the first hour. The penalty is designed to be large enough to ensure that the shareholders of the exchange weep when the exchange suffers an outage. They would then force the management to invest in technology, and also design management bonuses in such a way that they all get zeroed out when there is a large outage. The exchange would then negotiate large penalty clauses with their vendors so that if a telecom link fails, the telecom company pays a large penalty to the exchange. That provides the incentives to the telecom company to build redundancies. The regulators do not have to do any root cause analysis or apportion blame; they just have to collect the penalty, and use that to compensate the investors.

The other thing that the regulators need to do is to provide greater predictability about resumption of trading after a glitch. I would propose a simple set of rules here:

Stock exchange software glitches have been a favourite topic on this blog as long back as fifteen years ago and I suspect that they will continue to provide material for this blog for many, many years to come.

Posted at 5:07 pm IST on Tue, 23 Mar 2021         permanent link