In India’s stock market, the tail wags the dog. Derivatives trading doesn’t just rival cash equities, it dwarfs it. Derivatives turnover is more than 300 times higher than cash equities turnover. This inversion, driven by an army of options-hungry retail traders, is unmatched anywhere else in the world.

This imbalance created a market where expiry-day price movements could be dramatically influenced by a handful of well-timed trades, and where retail investors—often trading with 100 times leverage—make wild bets. In a market like this, speed, scale, and precision are highly rewarded, so for sophisticated trading firms like Jane Street, Indian options trading has been a goldmine, netting the firm more than four billion dollars in profits over the last two years.

Until it wasn’t.

Last week, India’s financial regulator - The Securities and Exchange Board of India (known as SEBI) - accused Jane Street - a global quant trading firm that uses technology and quantitative analysis to trade - of exploiting this structural quirk to orchestrate – what they describe as a “sinister scheme” of index manipulation. India's securities regulator banned the firm from the country’s markets and ordered it to return more than $550 million dollars in alleged illegal gains. Jane Street denies these charges - and insists that it was merely engaging in standard arbitrage trades.

The case has not just exposed Jane Streets trading strategy - it has laid bare the fragility of a market where derivatives dominate, retail investors gamble wildly, and the line between arbitrage and manipulation is dangerously thin.

It was not always this way in India. For much of the 2000s and early 2010s, India’s stock markets were considered unattractive by fast paced traders. The combination of high transaction costs, regulatory restrictions, and infrastructure limitations kept many global quant firms at bay.

The most significant deterrent was the Securities Transaction Tax (STT), a levy on every trade, regardless of profit or loss. While small in percentage terms this tax added up quickly for strategies that relied on thousands of intraday trades. Foreign portfolio investors also faced restrictions on intraday short selling, limiting their ability to run long/short or market-neutral strategies. Meanwhile, access to leverage was tightly controlled, and co-location services lagged behind global standards.

Because of this, India’s markets were dominated by traditional brokers, long-only funds, and retail investors.

This all began to change in the late 2010s when the National Stock Exchange began upgrading its infrastructure, offering better APIs and co-location services. Regulatory reforms allowed more flexibility in derivatives trading, especially for foreign portfolio investors operating through locally incorporated entities. And most importantly, the explosion of retail participation—fueled by mobile trading apps, zero-commission brokers, and pandemic-era boredom—transformed India’s derivatives market into a high-volume, high-volatility playground.

India's stock market went from being a sleepy backwater to the epicenter of a global derivatives frenzy. While Wall Street still dominates in equities and bonds - Mumbai’s National Stock Exchange leads the world in options trading volumes. In 2024, India accounted for a staggering 89% of global equity options volume, according to the Futures Industry Association—surpassing even the S&P 500 in daily notional turnover.

This explosion has been fueled by - a surging retail investor base - the rise of discount brokerages in India, and the introduction of zero-day to expiration options. These are options contracts that expire the same day they are created and have quickly become the hottest ticket in Indian finance, offering the promise of quick profits with minimal capital. For many young Indians, trading options has become a form of financial entertainment. Unfortunately, it’s not going that well for them… India’s securities regulator reported earlier this year that nine out of ten Indian retail traders are losing money in the market – as it unveiled plans to raise barriers to trading and temporarily ban some prominent “finfluencers” that young people looked up to for financial advice.

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Over the last 5 to 10 years, the Indian stock market has shown strong and consistent growth, outperforming many global and emerging markets. Not even America’s S&P 500, - home to seven of the world’s eight trillion-dollar companies, has managed to keep pace.

That outperformance has turned the country’s stocks into a favorite with global investors, who have been shunning Chinese equities amid a domestic slowdown and geopolitical tensions with the US. Despite this massive performance, Individual investors in India have managed to suffer significant losses through their trading. According to a SEBI study released this Monday, mom-and-pop traders lost a combined thirty three billion dollars over the last four years—despite the huge uptrend and repeated warnings from regulators about the high risks of competing with better-funded and more experienced market players.

The Economist points out that the sudden explosion in derivatives trading in India has many parallels with America’s meme-stock craze – which still hasn’t ended. The Covid lockdowns five years ago – according to the Economist - spawned a generation in India who turned to day-trading to escape boredom.

The numbers are dizzying. The notional value of index options traded on the NSE more than doubled in the last year alone to $907 trillion dollars. The number of investor accounts has tripled over the last five years to over 160 million. Mutual fund assets under management have doubled to $706 billion.

It’s not just money that has been lost either, two years ago a 26-year-old software analyst jumped from his office building in Chennai after taking out a twelve-thousand-dollar bank loan and losing the money trading.

This stock market environment—liquid, volatile, and increasingly retail-driven—has been a magnet for global proprietary trading firms. Jane Street was amongst the most aggressive. By 2024, it was reportedly making over a billion dollars a year trading options in India. The firm’s strategies, honed in the world’s most sophisticated markets, found fertile ground in India’s fast-moving, lightly regulated derivatives ecosystem.

As profits soared, so did regulatory anxiety. India's regulators had already started tightening rules late last year, raising minimum contract sizes and warning brokers to disclose the risks of options trading. According to the regulator, their concern was not just about volatility—it was about fairness. And when Jane Street’s trades began to dominate expiry-day volumes in key indices like BANKNIFTY, they claim that their concerns deepened.

Jane Street’s Indian operations kicked off in 2020, when it established a local entity in Mumbai. By 2023, it had become one of the largest foreign participants in India’s derivatives markets. According to the securities regulator, the firm made approximately $4.3 billion dollars in profits between January 2023 and March 2025—most of it from trading index options.

Very little attention was paid to the goings on in India until April 2024 when Jane Street drew attention to themselves by filing a lawsuit in Manhattan against a rival hedge fund Millennium Management who hired two former Jane Street traders.

The lawsuit alleged that the traders had stolen a “highly valuable, unique, and proprietary” trading strategy, which was later revealed by Millennium to relate to India’s booming options market. Jane Street and Millennium settled the lawsuit in December, but - the Indian securities regulator appears to have taken notice that two of the biggest trading firms in the world were fighting over a trading strategy focused on their securities market.

By this time last year, India’s national stock exchange had been asked to examine Jane Street’s trades. In February 2025, SEBI issued a formal caution letter, warning the firm to refrain from large, expiry-day positions and manipulative trading patterns. Jane Street responded, promising to adjust its strategies. But according to SEBI, the firm resumed similar trades by May—prompting the regulator’s most aggressive enforcement action in years.

At the heart of SEBI’s case is a strategy it calls “Intra-Day Index Manipulation.” The regulator’s analysis focuses on expiry days— the days when options contracts settle based on the closing value of an index like BANKNIFTY - a stock market index that tracks the performance of the banking sector in India.

The alleged scheme according to SEBI – had two phases which they refer to as patch 1 and patch 2. In Patch I – which occurs in the morning – they allege that Jane Street aggressively bought large volumes of BANKNIFTY constituent stocks and futures, pushing the index higher. Simultaneously, they allegedly built massive short positions in the much more liquid options— by buying cheap Put options and selling expensive Call options —at prices which the regulators allege were distorted by their buying activity in the less liquid stocks.

In Patch Two – which occurs in the Afternoon - once the options positions were in place - Jane Street is accused of reversing course, by dumping their long positions in the less liquid stocks and futures - driving the index down, inflating the value of the puts and deflating the value of the calls (which they were short)—generating enormous profits.

SEBI focuses in on Jane Street’s trades on January 17, 2024 when Jane Street allegedly made about $86 million dollars in a single session, with trades accounting for up to 25% of market volume in some BANKNIFTY constituents

Their detailed analysis of that day includes minute-by-minute breakdowns of Jane Street’s trades, their market impact, and the resulting profits from options positions, making it the centerpiece of the regulator’s case.

Their data shows that Jane Street lost money in the cash and futures markets—but more than made up for those losses in options.

SEBI estimates that Jane Street’s net trading value that day - came in at about $511 million dollars – which was more than three times the size of the market’s second largest player and about fifteen to twenty five percent of the entire market’s traded value. Over the course of eight minutes – they say - Jane Street had built a long position of $67 million dollars.

This almost single-handedly helped lift the BANKNIFTY index by over 1 per cent over the course of the buying spree, according to the Indian financial watchdog:

They argue that these losses were not incidental but deliberate: a cost incurred to manipulate the index and profit from options. Their report says that “There is no economic rationale possible to justify such trading activity on a standalone basis,” going on to say - “By preponderance of probability, these trades were undertaken only to distort BANKNIFTY index option prices.”

SEBI claim to have identified a second trading pattern: which it calls “Extended Marking the Close.” In this variant, Jane Street is alleged to have built large options positions during the day, then executed aggressive trades in the final hour to influence the index’s closing value.

On July 10, 2024, the regulator highlights that the firm allegedly sold large amounts of BANKNIFTY constituent stocks and futures in the final hour of trading—just as its options positions would benefit from a lower index close. A similar pattern – they claim - was observed on May 15, 2025, this time with bullish trades designed to push the index price higher.

In both cases, SEBI alleges that Jane Street’s trades were not about hedging or liquidity—they were about engineering a favorable expiry price. Jane Street has strongly denied the allegations. In an internal memo to staff, the firm says that it was “beyond disappointed” by SEBI’s “inflammatory” language and would contest the findings.

The firm argues that its trades were standard index arbitrage—designed to profit from misaligned prices between options and their underlying stocks. “This activity is unambiguously good for the health of financial markets,” the memo said. “In the absence of participants like Jane Street, there would be no economic link between the Indian derivatives market and the underlying economy.”

Jane Street also disputes SEBI’s methodology, particularly its use of “market impact” metrics to infer intent.

Matt Levine wrote an excellent piece on this earlier this week where he explained why there is so much derivatives trading in India – and then made the case that SEBI’s case is not as strong as it may first appear to be.

As to why Indians trade so many options – Levine explains that when you compare the Indian market to other big markets, it is much harder to get leverage on cash stock positions in India, or to sell stocks short. Because of this, lots of leveraged and long/short trading strategies are harder to do in India, but options — which do offer a lot of leverage — are a decent substitute – and allow traders to do the sort of trades that would be implemented using stocks in other markets. Additionally, some trading strategies that have to be implemented using stocks — like arbitraging options versus the underlying stocks — are harder to do in India, so some arbitrages won’t close and some spreads will be wider.

There is something completely bizarre about the fact that on some days the Indian options market is 350 times bigger than the Indian stock market - and it’s easy to see how you could get in trouble trading Indian options – as while they are more liquid than Indian stocks - they are priced and settle based on the prices of Indian stocks. If you can move the stock prices – you will move the option prices - and the options are easier to trade, while the stock prices are easier to move. There is no way around it – it is a very strange market dynamic – and a market like this almost has to be inefficient.

Levine concludes that “legitimately doing an arbitrage trade” and “trading in one market to manipulate prices in another market” look pretty similar – and he jokes that “The difference between legitimate arbitrage and manipulation often comes down to whether you sent an email saying ‘lol I just manipulated the market – or not…

SEBI’s case rests on India’s Prohibition of Fraudulent and Unfair Trade Practices regulations, as well as Section 12A of the SEBI Act. These provisions prohibit any action that creates a false or misleading appearance of trading, or manipulates the price of a security or index.

The regulator also cites the Supreme Court’s 2018 ruling in SEBI v. Rakhi Trading, which held that intentional loss-making trades can be evidence of manipulation. “Nobody intentionally trades for loss,” the court wrote. “An intentional trading for loss per se is not a genuine dealing in securities.”

SEBI’s interim order is not a final judgment. Jane Street has 21 days to respond and request a hearing. But the regulator has already frozen the firm’s accounts and ordered it to deposit $566 million dollars in an escrow account.

The Indian ban is a blow to Jane Street’s global operations, as not only did India account for around 14% of the firm’s trading revenues in 2023, it was also one of its fastest-growing and most profitable markets. The firm’s $4.3 billion dollars in Indian profits over two years came at a time when global investors were pulling back from China and looking to India as the next big frontier.

The Jane Street saga is more than a story about one firm’s alleged misconduct. It is a test case for how regulators in fast-growing markets respond to the rise of algorithmic trading, high-frequency strategies, and the increasing complexity of global capital flows.

For India, the case is a chance to reassert regulatory authority after years of criticism—most notably for its muted response to the Adani-Hindenburg affair.

For Wall Street’s quant trading firms, it is a warning. The strategies that work in New York or London may not translate cleanly to Mumbai. And in markets where unsophisticated investors dominate and regulators are under pressure to protect them, the line between arbitrage and manipulation may be thinner—and more dangerous—than it appears.

As Jane Street prepares its legal defense and SEBI continues its investigation, one thing is clear: the era of quiet profits being earned by professional traders in India’s derivatives market may be over.

While SEBI’s 105-page interim order paints a picture of deliberate and sinister manipulation, not everyone is convinced. As Robin Wigglesworth wrote in the FT “What might look like market manipulation could in fact just be arbitrage, and what might look like arbitrage can in fact be market manipulation”.

As Matt Levine pointed out –– on January 17, 2024 – the date highlighted in SEBI’s interim order, the options market was trading at a 1.6% premium to the underlying index that morning—a mispricing that an arbitrageur would naturally exploit by selling the overpriced options and buying the cheaper underlying stocks. This is - textbook arbitrage: If two identical assets—here, the cash index and the options-derived index—trade at different prices, you buy the cheap one and sell the expensive one, and that is what Jane Street did.

Levine also points out a critical flaw in SEBI’s narrative: the options prices didn’t rise during Jane Street’s alleged manipulation, they fell … While Jane Street was buying the underlying stocks, the prices of options on that index were going down – and that’s not what you’d expect if they were pumping the index to inflate options premiums.

The lack of clarity as to the intent of a trader can be particularly difficult to discern with high-frequency index-arbitrage strategies, where trades in one market are being done to hedge or exploit pricing in another. “Legitimately doing an arbitrage trade and trading in one market to manipulate prices in another market look pretty similar,” Levine writes.

Ultimately, a good argument can be made that Jane Street’s trades may have made markets more efficient, not less. “Instead of paying a 1.6% premium to take a position in the options market - retail investors could pay next to no premium if Jane Street pushed the options prices down and closed the arbitrage.

it’s worth stepping back to consider the sobering statistic that Indian retail investors managed to lose an estimated $33 billion dollars trading options over the past four years—despite the fact that the broader market that they are investing in has gone straight up.

These staggering losses, confirmed by SEBI and cited in the Financial Times, is not the result of a single firm’s strategy or a regulatory blind spot. It is the product of a system that encouraged millions of individuals to gamble on highly leveraged, short-term trades in one of the world’s most volatile markets.

As Ananth Narayan, a SEBI board member, noted in a public lecture in January, “a bulk of small investor losses were specifically in trading—indeed, overtrading in index options on expiry day, when premiums are very small.” In other words, the problem wasn’t just the market structure—it was investor behavior.

The lesson here is not just for regulators or trading firms. It’s for the millions of retail investors who were drawn into the options frenzy by the promise of quick profits and the allure of financial influencers. In a rising market, the simplest strategy—buying and holding quality stocks—would have outperformed the vast majority of leveraged bets.

Jane Street may have exploited inefficiencies in India’s derivatives market. But the far greater tragedy is that so many individual investors, armed with smartphones and leverage, chose to bet against the odds. And lost.