Jane Street on Fire

A primitive trading scandal, implications for Jane Street and the NSE

A primitive trading scandal, implications for Jane Street and the NSE

Jane Street’s Indian adventure has all the ingredients of a future big budget joint Bollywood Hollywood movie - a cultural reference point like 1980s classics Trading Places or Wall Street……

…. Somewhere in a small city in India, a bunch of poor young kids drop out of engineering college to trade 100x leveraged equity options in a trading arcade…trading by day and listening to sermons from a pint-sized local Tony Robbins on options strategy by night. At the other end of the world in New York, a bunch of twentysomething quant nerds are looking for new markets. Indian stock markets are booming. The brokerages in Mumbai are making big money. The exchanges love the volumes. But the kids trading options start to lose money. Media stories start circulating about billions of dollars being made from trading Indian equity options by a big international vulture. Retail investors and local algorithmic trading firms are up in arms. Time for the Indian Regulator SEBI to step in and step in hard. In the background, the co-founder of this large Wall Street vulture fund is in the news for mistakenly sending millions of dollars to fund AK-47s for a coup plot in Africa.

I still haven’t worked out all the cast members, but the father of Bollywood Amitabh Bachchan would probably fit well in the role of SEBI Chairman standing up for the little guy in India like a modern day Robinhood, Chamath Palihapitiya would be good for the role of fin influencer guru (perhaps even looking to SPAC his business), Ben Affleck as the slightly shady line manager at Jane Street approving the Indian options expansion. Matt Damon as Affleck’s more honest Good Will Hunting type quant genius colleague, and a cameo appearance from Sam Bankman-Fried.

Alas, I digress - let me get back to real life. In this piece, I want to briefly discuss why Jane Street has been banned from trading Indian markets, what it means for Jane Street more broadly, but also what it means for the National Stock Exchange (NSE) of India.

Some Things Change; Some Things Don’t.

Aggressive, concentrated bouts of buying and selling shares to manipulate index levels (that are made up of these stocks) on options expiration day are primitive market abuse. In a past life, I spent 18 months working for a central bank/securities regulator-backed industry consortium on data and execution quality in financial markets, and the details of Jane Street’s alleged “sinister scheme” are a timeless type of market abuse. Not what one would expect from the masters of the quantitative proprietary trading world, who like to talk about their use of machine learning and the number of Nvidia chips they own!

The media covered the highlights of the Indian regulator SEBI’s announcement on Friday, but it is well worth a quick read of the early pages of the document just to get a flavour of the mood music around what happened. You don’t need to read the whole 105 pages, as it starts to get repetitive, and if you follow the first alleged crime, then the others are just different shades of it. https://www.sebi.gov.in/enforcement/orders/jul-2025/interim-order-in-the-matter-of-index-manipulation-by-jane-street-group_95040.html

Ever since the S&P 500 equity index future was launched in 1982 by the CME, traders have tried to arbitrage the underlying vs the index. The SEC Chairman gave the following speech back in 1987, discussing the emerging index arbitrage industry and how it brought efficiencies to financial markets. Index trading speech 1987

But, there were trading desks that would try and manipulate the markets and the basis through aggressive trading. The first major firm to do this was Salomon Brothers. It would aggressively drive up share prices of large index-weighted stocks near the market close on expiration days, while having long positions in S&P 500 futures. Over time, US regulators started to investigate these sorts of practices, and exchanges in many jurisdictions have been cognizant of their surveillance role.

Regulators globally have followed with most outlawing it as market abuse. A high-profile example in 2010 was when Deutsche Bank traders were “banging the close” by aggressively selling Korean shares to profit from large put options and short futures positions in the KOSPI index. Bank illegally profited from triggering 2010 stock market tumble - FT

There are also many similarities between the alleged Jane Street India trading behaviour to the litany of market manipulation cases that were brought against banks in FX and interest rate derivatives markets in the years following the GFC, albeit some of those involved collusion across multiple parties or submission-based fixes rather than market indexes.

The Indian securities regulator SEBI alleges that through market manipulation, Jane Street made profits of more than $500m in 18 days. On most of those days, it wasn’t about ramping up individual share prices into the market close on index expiration day, but what SEBI called “intraday index market manipulation”. This involved buying shares and futures in all of the publicly listed Indian banks in the morning to ramp up the level of the Nifty banks sector index, then taking much larger positions in the options market (buying puts, selling calls) and then dumping all the underlying shares in the afternoon to drive down the index level.

The 105 document provides all the receipts. It goes through the series of transactions that occurred in short sharp bursts with Jane Street often around 25% of all trading volumes in cash and futures of the largest publicly traded Indian bank stocks – both when buying in the morning (See Page 15 and 16) and selling in the afternoon (See Page 33 and 34). Jane Street would often buy above the market price in the morning when trying to move prices up, and the opposite in the afternoon.

The key to the strategy was liquidity arbitrage. As the Indian equity options market ballooned in size, driven by a retail craze, index options like the Nifty banks index became so much more liquid than the underlying component shares or even the single stock futures, which had lower leverage opportunities.

Work out how costly it would be to manipulate the underlying reference market (as a loss leader) and then place outsized leveraged bets in the more liquid options markets so that the gains in the latter exceeded the cost of moving the reference market around. SEBI said that the index options trades by Jane Street were 7.3x larger than the earlier cash and futures long positions.

On Pages 6-8 of this SEBI report, there are some numbers on the industry:

“8. It is pertinent to note the difference in the level of liquidity and participation across cash markets and F&O. On weekly index options expiry day, the comparable cash equivalent traded volumes in index options markets is several times the combined cash equivalent volumes traded in the associated futures and cash markets. For example, on 17 Jan 2024, an expiry day in BANKNIFTY index options where prima facie manipulative activity of Jane Street Group was observed, the following is noted:

9. As a corollary to the above, on weekly index option expiry day, many more entities and individuals trade in index options than do entities and individuals in the associated cash and futures markets. In other words, given the interrelationship between prices of derivative instruments and the prices of their underlying stocks or indices, many that trade in index options look for signals in the underlying index (determined by the smaller volumes and less number of participants in the underlying cash and futures markets), without themselves participating in these markets. For example, on 17 Jan 2024, the following was observed.

Jane Street down

It is hard to understand Jane Street’s response over the last year. No highly regulated institution like an investment bank would have acted like this in the clean-up phase. Even if, for some reason, they thought that this behaviour was legal, surely their advisors would have told them to reflect on the mood music of a local regulator under pressure from local retail investors.

Does this mean that Jane Street is broken?

All trading franchises, especially in the HFT world, tend to be opaque about how they make money and where. Over the last few years, and also in my Substack piece Jane Street is different I have written quite extensively about its many strengths. The core of Jane Street is an amazing market-leading ETF franchise.

But when I analysed their ETF trading volumes relative to an ETF competitor like Flow Traders, they were 5x larger, and 5x Flow Traders’ revenues only got to $2.5bn of revenues last year, a fraction of the $20bn which Jane Street made in aggregate. Of course, Flow Traders is a weak player, but it illustrated how profitable Jane Street was in its trading strategies.

IFR wrote about how Jane Street was heavily focused on proprietary trading earlier this year Jane Street prop trading. In my Substack piece on Jane Street, I had written that I thought it was half customer business and half hedge fund like in my opinion.

Nevertheless, as I have highlighted before, Jane Street’s trading volumes are not just huge in ETFs but other very large and liquid markets like US cash equities, US corporate bonds, and US equity options. These market shares have also grown rapidly in recent years: they have built a retail equity wholesaling franchise, and in areas like corporate bonds, the banks see and fear Jane Street like no other nonbank market maker. It has also become a big player in crypto trading, where the sort of alleged scheme in Indian equity options is probably par for the course.

Time will tell what the ramifications of this scandal will be for Jane Street, but my first thought is that it is not an existential threat to the firm.

SEBI has promised to extend its investigation beyond its narrow focus on the Nifty banks equity index trades that made $500m of revenues over 18 days. The overall revenue that Jane Street generated from Indian equity derivatives last year was more than $2bn. But Jane Street makes a minimal amount of revenue from other Asian markets.

In the US, where Jane Street generates the vast bulk of its revenues, regulators have a long history of surveillance of the sort of market abuse outlined in the SEBI case. It is hard to imagine that the sharks on the trading desks on Wall Street or the Chicago high-frequency trading world would be outcompeted in this manner. Nor is it likely that in the land of the CFTC whistleblower that such aggressive trading strategies would go unnoticed by the authorities.

Jane Street is a lightly regulated nonbank that has grown immensely in recent years, and to date not faced the wrath of the regulator. The more likely scenario is that it had not bothered either out of cultural willingness or business imperative to build an adequate compliance framework.

If there is anything we have learned from the post-GFC experience, it is that regulators, in terms of investigations and enforcement action’s tend to act in the rear-view window, and Jane Street will be on the radar of regulators across most jurisdictions.

How plausible is it that the trading strategies behind such a large new revenue source were unknown to members of Jane Street’s senior management team? Who knew, and how much did they know? The trading strategy doesn’t seem particularly complex to follow. To be fair to Jane Street, we haven’t heard their side of the story in the same detail as SEBI’s.

As well as potential headwinds from lower revenues in more risqué trading strategies, as Jane Street pulls back risk appetite, it is likely that the firm’s cost base will grow as it is forced to invest in its infrastructure. Jane Street’s revenue per head of $7m, and its EBTIDA margins of 70% are industry-leading. The latter may be artificially inflated by senior management taking compensation through dividends rather than in the expense line, but some of the gap in headcount and costs between Jane Street and its more heavily regulated Wall Street banking peers will likely close. For instance, Goldman Sachs increased its revenues by more than 250% in the 25 years since its IPO, but its revenue per employee has barely increased as headcount has increased rapidly, largely in infrastructure and control functions.

Combine the recent scandal with Jane Street’s much greater size - revenues exceeded $7bn, and its capital base was $30-40bn (equity plus debt) in the first quarter - and it is hard to see how the firm is not increasingly systemically important. Add to this its ties to investment bank prime brokerage departments that provide it with a vast amount of financing and access for leveraged trades.

The Jane Street experience should be a warning not just to other high-frequency and proprietary trading firms but the fast-expanding multi-strategy hedge funds. After all this news story all started when two young traders from Jane Street moved to Millennium with the threat that they could be taking the “magic sauce” of the Indian equity options strategy with them. Millennium - with its 6,200 employees and 320 investment “pods” that do around 13 million trades per day - and other big hedge funds like Citadel are increasingly as big as investment banks’ trading franchises.

National Stock Exchange (NSE)

The immediate attention may be on Jane Street, but this makes me wonder what this means for the IPO prospects of the NSE? The smaller publicly listed Bombay Stock Exchange (BSE) saw its share price fall 6.5% on Friday.

The much larger and dominant NSE is one of the few major exchange groups globally not to be publicly listed. Given the boom in Indian stock markets and increased trading participation, the NSE IPO has been highly anticipated, with the private market valuation of the exchange group trebling over the last year to almost $60 billion. This would be a huge IPO. One of the items that had slowed down an NSE IPO was its relationship with SEBI. It is expected to pay a fine of $160m to settle legacy issues, including those around co-location practices.

In the year ending March 2025, NSE’s revenues increased 17% to $2.3bn, its operating profit rose by 17% to $1.7bn, and its net income was $1.43bn. But underlying revenues started to show a double-digit year-on-year decline in the last quarter, driven by a 22% decline in transaction fees.

In the last year, SEBI and the Indian government have started to crack down on the equity options and day-trading boom with increased taxes, margin requirements, and are reducing the number of weekly index options expirations allowed. Consequently, trading volumes that had surged in prior years started to fall, as illustrated by the following chart.

If Jane Street exits the Indian market for good, what will that mean for NSE’s future trading volumes?

Will competitors pick up the slack as their trading models start to show improved Sharpe ratios, and will they outweigh other prop firms backing away from similar trading strategies that have so far gone under SEBI’s radar?