Detailed Rationale

CRISIL Ratings has reaffirmed its ‘CCR AAA/Stable’ rating on NSE Clearing Limited (NSE Clearing; part of the National Stock Exchange). The rating indicates the highest degree of strength with regard to honoring debt obligation.

 

The rating continues to reflect strong operational and financial linkages with the parent, the National Stock Exchange of India Ltd (NSE), and comprehensive risk management systems. These strengths are partially offset by exposure to risks such as volatility in revenue and the predominantly fixed cost structure of operations that are inherent in a clearing business.

 

Both NSE and NSE Clearing have witnessed significant operational changes over the past two years on account of the new regulations relating to share re-pledging, peak margin reporting and upfront margin collections, T+1 rolling settlement, new framework for BCP post trading halt at NSE on Feb 24, 2021, real time monitoring of client level margin requirements against allocated and pledged/re-pledged collateral. The exchange has developed systems and processes to implement these regulations. Barring initial hiccups, both NSE and NSE Clearing have been able to run operations smoothly.

 

The group has benefited from the substantial growth in volumes in both equity and derivatives segments in fiscal 22. The overall turnover in the cash segment has increased by 8% year on year (Y-o-Y) in fiscal 2022. Similarly, within the futures and options (F&O) segment the turnover has increased by 163% Y-o-Y for this period.

 

The corporation has high technological strength and strong capitalisation on account of a large core settlement guarantee fund (SGF). As of November 2022, the core SGF stood at Rs 4,352 crore improving from Rs 3,809 crore as on December 31, 2021. The strong risk management practices and higher core SGF provide comfort to majority of the institutional clients in getting clearing and settlement done through NSE Clearing. NSE Limited also continues to command dominance as far as market share is concerned; as half year ended September 2022, the market share of transactions done on NSE stood at 93.1% in the cash segment and 98.5% in the futures and options segment.

 

NSE and NSE clearing (Combined) remains well capitalised with a net worth of  Rs 14,378 crore as on September 30, 2022, as against Rs 9,738 crore networth as on September 30, 2021. These companies do not have any external borrowings on their books. The net worth has improved significantly during the past two years on account of healthy accretion to reserves. Profit after tax (PAT; combined) stood at Rs 4,098 crore for half year ended September 30, 2022, as against Rs 2,180 crore for the corresponding period of the previous fiscal.

Analytical Approach

For arriving at the rating, CRISIL Ratings has combined the business and financial risk profiles of NSE and NSE Clearing, because of their integrated nature of operations.

 

Please refer Annexure - List of entities consolidated, which captures the list of entities considered and their analytical treatment of consolidation.

Key Rating Drivers & Detailed Description

Strengths:

• Strong operational and financial linkages with NSE

NSE Clearing, the wholly owned subsidiary of NSE, provides clearing and settlement services for trades executed in the capital market, F&O and currency derivatives segments of stock exchanges. It also provides clearing and settlement for trades executed on NSE in the new debt and commodity derivatives segments. Further, it assumes counterparty risks of members and guarantees financial settlement. This helps stock exchanges to isolate operations from risks related to settlement and clearance. The company has constantly up-graded clearing and settlement procedures, bringing India’s financial markets in line with international markets. Even in fiscal 2021, it has implemented newer systems and processes relating to share pledging, peak margin reporting and upfront margin collection. In fiscal 22, NSE undertook changes pertaining to new framework introduced by SEBI post trading halt on NSE on Feb 24, 2021. The entity has taken necessary steps to put in place proper system and procedure for smooth introduction of segregation and monitoring of collateral at client level and T+1 settlement cycle. 

 

There was rapid growth in the overall turnover in over the past few fiscals on account of higher participation and launch of newer products. NSE Clearing’s growth and turnover are related to NSE as it derives most of its earnings from the parent. NSE’s turnover in the F&O segment stood at Rs 16,957 lakh crore end fiscal 2022 almost, 163% up from Rs 6,436 lakh crore in the previous fiscal. The turnover in the cash market segment has improved by 8% in fiscal 2022 to Rs 165.66 lakh crore from 153.97 lakh crores the previous fiscal. High volatility in the cash and derivatives market resulted in huge upswing in the trading volumes.

 

Despite the likelihood of new exchanges emerging in the country, the long track record of seamless operations, robust risk management systems, and established liquidity will enable NSE to maintain its leadership position in the Indian markets.

 

• Comprehensive risk management systems

The systems are regularly upgraded to pre-empt market failures. The company has stringent norms for selection of members and maintains a robust surveillance mechanism for monitoring risk-based position limits and margins maintained by clients. Also, in line with guidelines issued by the Securities and Exchange Board of India (SEBI) on August 27, 2014, NSE Clearing has created a sizable core SGF. The objective of this is to manage a corpus of adequate fund for each segment (for instance cash, F&O) to guarantee the settlement of trades that are executed. If a clearing member fails to honour settlement commitments, the core SGF shall be used to fulfil the obligation and complete the settlement without affecting the normal process.

 

While NSE Clearing was earlier also maintaining an SGF on its own, the core SGF that is maintained as per the guidelines laid down by SEBI is even more comprehensive and rigorously enforceable.  As per SEBI, the core SGF is the corpus of the fund that should be adequate to meet all contingencies arising on account of failure of payment by any member. The risk or liability to the fund depends on various factors such as trade volume, delivery percentage, the history of defaults and the degree of safety measures employed by the clearing corporation or stock exchange. In order to ensure effective distribution of responsibilities among the exchange, clearing corporations and clearing members, SEBI has also prescribed the level of contribution by each of the counter parties.

 

The corpus of core SGF can be invested only in fixed deposits with banks (only those banks which have a networth of more than Rs 500 crore and are rated A1+ or above) or in highly liquid securities such as treasury bills, government securities and money market/liquid mutual funds. As of November 2022, the total value of core SGF of NSE Clearing stood at over Rs 4,352 crores.

 

Weakness:

• Variable revenue, linked to large fixed-cost structure

NSE Clearing derives most of its earnings from NSE and its growth and turnover are closely related to those of the exchange. Both their cost structures have a high component of fixed costs with technology infrastructure and payment to employees accounting for the bulk of these costs. On the other hand, the combined earnings of the two companies are inherently linked with the trading turnover on NSE. Since they have to incur fixed costs irrespective of their revenue, the operating leverage remains high, and this should continue over the medium term.

Liquidity: Superior

NSE Clearing is a debt free company as on date. As on September 30, 2022 the company had cash and cash equivalents of Rs 17,360 crores (includes Rs 15,075 crores were funds pertaining to settlement obligations and margin money from members). Further the company has investments of Rs 437 crores. The company has no debt repayment related obligations.

Outlook: Stable

CRISIL Ratings believes NSE Clearing will continue to have a strong market position due to its association with NSE and maintain comprehensive risk management systems and adequate core SGF commensurate with the clearing volumes, over the medium term.

Rating Sensitivity factors

Downward factors

• Substantial reduction in the stake held (falling below 51%), or revision in stance of support, by NSE
• Considerable deterioration in profitability owing to system level risk (except for exceptional items)
• Significant fall in the corpus of core SGF

About NSE Clearing

NSE Clearing (formerly, National Securities Clearing Corporation Ltd), a wholly owned subsidiary of NSE, was incorporated in 1995 to foster investor confidence in clearing and settlement of securities, promote short and consistent settlement cycles, provide counterparty risk guarantees, and operate rigorous risk containment systems. It commenced clearing operations in April 1996 and is presently engaged in the clearing and settlement of currency F&O, interest futures and corporate bonds.

 

About NSE

NSE, India's leading stock exchange, was set up by the country's prominent financial institutions to provide a modern, automated, screen-based trading system with national reach. Incorporated in 1992, NSE commenced operations in the wholesale debt market in 1994. Its operations in the equity and derivatives segments commenced in November 1994 and June 2000, respectively. NSE was the first exchange to receive approvals from SEBI and the Reserve Bank of India for trading in currency derivatives and interest rate futures; the exchange had a market share of 93.6% and 98.5% in the cash and derivatives segments, respectively, as on half year ended September 2022. It helped transform the microstructure, market practices, and trading volumes in the Indian securities market.

Key Financial Indicators - (NSE Clearing, Standalone)

As on/for the period ended March 31	Unit	Sep 21 / H1 fiscal 2023	2022	2021	2020
Total assets	Rs crore	22,718	15,492	14,046	13,675
Total income	Rs crore	469	730	544	431
Profit after tax	Rs crore	243	450	210	213.3
Gross NPA	%	NA	NA	NA	NA
Adjusted gearing	Times	Nil	Nil	Nil	Nil
Return on net worth	%	61^	64	32.1	39.0

^ annualized basis

 

Key Financial Indicators – Consolidated (NSE Clearing + NSE)

As on/for the period ended March 31	Unit	Sep 21 / H1 fiscal 2023	2022	2021	2020
Total assets	Rs crore	41,616	32,215	26,138	22,795
Total income	Rs crore	6,788	10,078	6,010	3,661
Profit after tax	Rs crore	4,098	5,071	1,997	1,774
Gross NPA	%	NA	NA	NA	NA
Adjusted gearing	Times	Nil	Nil	Nil	Nil
Return on net worth	%	53.5^	47.6	24.5	24.6

^annualised basis

Any other information:

*Trading Halt at NSE on Feb 24, 2021

On Feb 24, 2021, technical glitches had disrupted trading and as a results Cash and F&O trading on NSE had stopped for nearly three hours. Post that SEBI had asked the NSE to conduct a root – cause analysis of the trading halt and explain the reasons for trading not migrating to the disaster recovery (DR) site. On March 22, 2021, NSE has presented detailed root cause analysis report to SEBI technical advisory committee. Also, NSE attributed the trading disruption to telecom links as well as Storage Area Network system failure. Post that, after due deliberations, SEBI has come out with the new framework for all Market Infrastructure Institutions (MIIs) -- stock exchanges, clearing corporations and depositories. Various steps have already been taken by NSE on the recent guidelines issued by SEBI.

 

*Ongoing investigation in respect to NSE's colocation facility

In May 2019, SEBI passed five different orders on the co-location and dark fibre case involving NSE, the parent company of NSE Clearing. In its order on NSE’s co-location facility, SEBI had stated that while there is insufficient evidence to conclude that the exchange has committed a fraudulent and unfair trade practice, NSE had not exercised due diligence while putting in place the tick-by-tick (TBT) architecture. As per SEBI’s order, such a situation created a trading environment in which information dissemination was asymmetric.

 

In view of this, SEBI had directed NSE to disgorge a portion of profits earned from the TBT data dissemination activity between fiscals 2011 and 2014 totalling to Rs 624.89 crores. After taking into account the interest quantum (calculated at 12% per annum from April 1, 2014), the total amount to be disgorged is estimated to be in excess of Rs 1,000 crore. SEBI had also barred NSE from the securities market for six months which was completed in November 2019. In addition, the regulator had directed the exchange to carry out system audit at frequent intervals after thorough appraisal of the technological changes introduced from time to time; reconstitute its Standing Committee on Technology at regular intervals to take stock of technological issues; and frame a clear policy on administering whistle-blower complaints. In its order on dark fibre, SEBI had held that NSE had conducted its business in a manner that involved unfair trade practice. SEBI had also directed NSE to pay Rs 62.58 crores plus interest for unfair trade practice that allowed the usage of dark fibre for high-frequency trading by unauthorised vendors. Subsequently, NSE has appealed to the securities appellate tribunal against the disgorgement order of SEBI. NSE has transferred the above amount of Rs 687.5 crores to SEBI while it has maintained a separate bank account to transfer revenue earned from the colocation facility.

 

In order dated February 10, 2021, SEBI has imposed monetary penalty of Rs 1 crore on NSE and a penalty of Rs 25 lakhs each on former management personnel i.e. Ms Chitra Ramakrishnan and Mr. Ravi Narain.

 

CRISIL Ratings, nevertheless, will continue to monitor the situation with specific focus on NSE's competitive position, financial strength and liquidity.

Annexure - Details of Instrument(s)

ISIN	Name of instrument	Date of allotment	Coupon rate (%)	Maturity date	Issue size (Rs. Crore)	Complexity Level	Rating assigned with outlook
NA	NA	NA	NA	NA	NA	NA	NA

 

Annexure – List of entities consolidated

Names of Entities Consolidated	Extent of Consolidation	Rationale for Consolidation
NSE Limited	Full	Parent