All of Rs.5,600 crore, 15,000 investors, alleged involvement of high-profile individuals, collapse of an entire trading exchange, and total regulatory failure. As scams go, the one that has overtaken the National Spot Exchange Ltd. (NSEL) is a major one indeed. Yet, it has failed to grab the attention that it deserves, overshadowed by other events such as the depreciating rupee and the coal-mining scam.

It is almost three months to the date since the scam first surfaced but yet, except for the arrest of a couple of senior executives of NSEL and its erstwhile CEO Anjani Sinha last week, there has not been much forward movement in getting to the bottom of the scam. Worse, investors, especially the retail ones who invested in the much popular e-series contracts on the exchange, are nowhere near to getting back their hard-earned money invested in good faith.

Of course, there are those who argue that investors were aware of what was happening and yet chose to put their money in the exchange drawn by returns of 15-18 per cent and hence they should not be complaining now.

Perverse as this seems, it is still partly understandable in the case of the large investors, including market intermediaries who were ‘trading’ on the NSEL.

The same cannot be said though about the common investor, who bought and sold commodities such as gold through the e-series contracts completely unaware of the fraudulent goings-on at the exchange.

What started off as a simple problem of liquidity in late July has now metamorphosed into a major scam with possible dimensions of fraud, forgery, diversion of funds and even tax evasion.

‘Paired-contracts’

The ‘paired-contracts’, at the crux of the crisis, allowed financiers to ‘buy’ commodity contracts on spot basis and sell in the futures market at an agreed date for a fixed price that included the return for the financier.

The sellers of these contracts, who were members of NSEL, gained access to funds which they deployed for purposes unknown.

When the exchange stopped these contracts abruptly in late-July, those who bought the contracts were left with useless paper as the members of the exchange were unable to repay the money borrowed from them.

The problem could still have been solved if the underlying asset in these contracts — the commodity — had been actually deposited in the warehouses of the exchange. Shockingly, the commodities were either not deposited as the warehouse receipts claimed or they were of sub-standard quality that could not be sold in the market. This is where the element of fraud and forgery comes in.

Thus, the exchange platform, meant to create a spot market for commodities, was used as an unlicensed financing platform where lenders and borrowers swapped money in the name of fictitious commodity contracts.

Into this milieu were drawn innocent common investors who bought and sold commodities such as gold and silver through the exchange.

As the enormity of the fraud becomes apparent, the questions that it raises are also getting more serious.

How can the promoters of the exchange, Financial Technologies (FT), which owns 99 per cent of NSEL, the members of the Board of Directors of both NSEL and FT, and Jignesh Shah, main promoter of FT, claim ignorance of the fraud? It is difficult to believe that the executives of NSEL alone knew about the activities of the exchange.

Sensing what is likely to come, Mr. Shah has already resigned from the board of MCX-SX, the stock exchange company. His position on the board of directors of MCX, the commodity exchange, is under threat as the Forward Markets Commission (FMC), which regulates commodities trading, has questioned his “fit-and-proper” status to be a director. .

The FMC has not exactly covered itself with glory, and its show-cause notice to Mr. Shah and others now is akin to a classic Bollywood formula where the police lands on the scene of the crime well after the villain has been caught and thrashed by the hero.

The FMC has to answer how it failed to prevent the fraud, especially considering that NSEL was asked to file periodic reports with the regulator since February 2012. Responsibility has to be fixed, not just with the main players in the scam but also with the regulator, if such frauds are not to recur in future.

raghuvir.s@thehindu.co.in