SEBI Circular on Negative Pricing in Commodity Derivatives Valid | Due Date Rate (DDR) Not Governed by Sale of Goods Act : Bombay HC

The Bombay High Court recently dismissed a batch of writ petitions challenging a circular issued by the Multi Commodity Exchange of India Limited (MCX) and its clearing corporation, which fixed the settlement price of crude oil futures contracts at a negative rate. The court held that the Due Date Rate (DDR), as defined in the contract specifications, is distinct from the price paid during trading sessions and is not subject to the limitations of the Sale of Goods Act, 1930. The judgment underscores the finality of settlements in commodity derivatives and the limited scope of judicial intervention in contractual disputes arising from market volatility.

Background & Facts

The Dispute

The lead petitioner, Dhanera Diamonds, a registered partnership firm trading in commodities, entered into crude oil futures contracts on the MCX platform. The contracts were settled based on the Due Date Rate (DDR), which was linked to the settlement price of the New York Mercantile Exchange’s (NYMEX) crude oil front-month contract. On 20 April 2020, the NYMEX crude oil price turned negative, leading MCX to issue a circular fixing the DDR at Rs. (-) 2,884 per barrel. The petitioners challenged this circular, contending that negative pricing was impermissible under Indian law and that the DDR should have been annulled or adjusted to a positive rate.

Key Facts

• Contract Specifications: The petitioners entered into crude oil futures contracts on MCX, with the DDR defined as the settlement price of NYMEX’s crude oil front-month contract, converted into Indian rupees.
• Trading Timeline:
  • 19 July 2019: MCX issued Circular No. 377 commencing futures trading in crude oil, with trading hours from 9 am to 11.30/11.55 pm and a DDR based on NYMEX prices.
  • 26 March 2020: MCX restricted trading hours to 9 am - 5 pm due to the COVID-19 lockdown, after consulting SEBI.
  • 14 April 2020: MCX continued restricted trading hours until further notice.
  • 20 April 2020: NYMEX crude oil prices turned negative, and MCX issued Circular No. 280 fixing a provisional settlement price of Rs. 1 per barrel.
  • 21 April 2020: MCX issued the impugned Circular No. 281, fixing the DDR at Rs. (-) 2,884 per barrel.
• Petitioners’ Positions: The petitioners held long positions in crude oil futures, anticipating price increases. When prices turned negative, they were required to pay the counterparties to settle their contracts.
• Regulatory Framework: The contracts were governed by the Securities Contracts (Regulation) Act, 1956 (SCRA), SEBI Regulations, and MCX Bye-laws, which provide for irrevocability of settlements and limited grounds for annulment.

Procedural History

• 22 April 2020: The petitioners’ broker filed a writ petition challenging the impugned circular, which was later withdrawn.
• 6 May 2020: The petitioners filed a commercial suit seeking similar reliefs.
• 12 June 2021: An arbitral award was passed against the petitioners, upholding the negative settlement price.
• 16 February 2024: The present writ petitions were filed, challenging the impugned circular and seeking annulment of the negative DDR.
• 6 May 2026: The matter was reserved for judgment.
• 24 June 2026: The Bombay High Court dismissed the petitions.

Relief Sought

The petitioners sought:

1. Quashing of the impugned circular dated 21 April 2020.
2. Annulment of the trades settled at the negative DDR.
3. Direction to MCX and SEBI to recalculate the settlement price at Rs. 1 per barrel or a fair positive rate.
4. Disclosure of counterparty names and recovery of losses from the SEBI Investor Protection Fund.

The Legal Issue

The central legal question was whether the Due Date Rate (DDR) in commodity derivatives contracts could legally be negative, and if so, whether SEBI and MCX were obligated to annul or adjust the settlement price to protect traders from unprecedented market volatility.

Arguments Presented

For the Petitioners

1. Negative Pricing Impermissible: The petitioners argued that the term price in the contract specifications implied a positive monetary consideration, as defined under the Sale of Goods Act, 1930. They contended that a negative DDR, where sellers must pay buyers, was legally untenable and violated Section 25 of the Indian Contract Act, 1872, which renders agreements without consideration void.
2. Ultra Vires Circular: The impugned circular was issued without prior approval from SEBI, violating Regulation 43(1) of the SEBI (Stock Exchanges and Clearing Corporations) Regulations, 2018 and Clause 4.1 of MCX Bye-laws.
3. Failure to Exercise Discretion: SEBI and MCX failed to exercise their emergency powers under Bye-law 5.25.1 and Bye-law 16.1 of MCX Bye-laws to annul the trades or adjust the DDR, despite unprecedented market conditions.
4. Trading Hours Curtailment: The reduction in trading hours from 11.30 pm to 5 pm deprived traders of the opportunity to square off positions during the price crash, exacerbating their losses.
5. Locus Standi: The petitioners argued that they were directly aggrieved by the impugned circular and had locus standi to challenge it, even if their brokers had accepted the negative DDR.

For the Respondents

1. DDR Distinct from Price: The respondents contended that the DDR is a reference rate for settlement, distinct from the price paid during trading. The contract specifications explicitly linked the DDR to NYMEX prices, which could legally turn negative.
2. Irrevocability of Settlement: Regulation 43(2) of the SEBI Regulations and Bye-law 9.17.2 of MCX Bye-laws provide that settlements are final and irrevocable, precluding judicial interference.
3. No Obligation to Annul: The respondents argued that annulment of trades requires proof of fraud, material mistake, or market manipulation under Bye-law 5.25 of MCX Bye-laws and SEBI Circular dated 16 July 2015. Unprecedented price fluctuations do not qualify as grounds for annulment.
4. Sophisticated Traders: The petitioners were seasoned investors who understood the risks of trading in volatile derivatives. They continued trading even after warnings from CME-NYMEX about potential negative pricing.
5. No Locus Standi: The petitioners lacked privity with MCX, as trades were executed through brokers. The brokers had accepted the negative DDR and initiated arbitration to recover dues from the petitioners.
6. Judicial Restraint: Courts should not interfere in commercial contracts or direct regulatory authorities to exercise discretion in a particular manner, as held in Jai Prakash Industries Ltd. v. State of Maharashtra and Mansukhlal Vithaldas Chauhan v. State of Gujarat.

The Court's Analysis

1. Contractual Interpretation:

   • The court held that the DDR is distinct from the price paid during trading sessions. The contract specifications explicitly defined the DDR as the NYMEX settlement price, which could legally turn negative.
   • The petitioners’ reliance on the Sale of Goods Act, 1930 was misplaced, as crude oil futures contracts are cash-settled derivatives governed by the SCRA, which prevails over general contract laws under Section 18A of the SCRA.

2. Irrevocability of Settlement:

   • The court emphasized that Regulation 43(2) of the SEBI Regulations and Bye-law 9.17.2 of MCX Bye-laws mandate the finality and irrevocability of settlements. The petitioners could not challenge the settlement after their brokers had accepted the negative DDR and initiated arbitration.

3. No Grounds for Annulment:

   • The court noted that Bye-law 5.25 of MCX Bye-laws and SEBI Circular dated 16 July 2015 permit annulment only in cases of fraud, material mistake, or market manipulation. Unprecedented price fluctuations do not qualify as grounds for annulment.
   • The principle of noscitur a sociis was applied to interpret Bye-law 5.25.1, holding that the phrase "and the like" must be read in the context of the preceding grounds (fraud, mistake, etc.), not mere financial losses.

4. Judicial Restraint:

   • The court reiterated that writ jurisdiction under Article 226 is discretionary and should not be used to interfere in commercial contracts or direct regulatory authorities to exercise discretion in a particular manner. The petitioners’ losses were a result of their speculative bets, not regulatory failure.
   • The court observed that granting relief to the petitioners would unjustly affect counterparties who had lawfully profited from the negative DDR and were not before the court.

5. Trading Hours and Market Volatility:

   • The court held that the curtailment of trading hours was a market-wide measure taken in consultation with SEBI and was not unique to MCX. The petitioners continued trading under the revised hours and raised grievances only after incurring losses.
   • The court noted that the NYMEX price turned negative after MCX trading hours, and even if trading had continued until 11.30 pm, it would not have altered the outcome.

6. Risk Disclosure:

   • The petitioners had signed Risk Disclosure Documents, acknowledging the risks of trading in volatile derivatives. They were aware of advisories from CME-NYMEX about potential negative pricing but chose to continue trading.

"The settlement of the contract was carried out exactly in terms of the contract specifications. The Petitioners being traders always were at the liberty to exit the Crude Oil Futures contracts prior to the expiry by squaring off or rolling over their positions."

The Verdict

The Bombay High Court dismissed the writ petitions, holding that:

1. The Due Date Rate (DDR) is distinct from the price paid during trading and is governed by the contract specifications, which explicitly linked it to NYMEX prices.
2. The negative DDR was legally permissible under the contract and did not violate the Sale of Goods Act, 1930 or the Indian Contract Act, 1872, as crude oil futures are cash-settled derivatives governed by the SCRA.
3. The settlement was final and irrevocable under Regulation 43(2) of the SEBI Regulations and Bye-law 9.17.2 of MCX Bye-laws, precluding judicial interference.
4. The petitioners, being sophisticated traders, assumed the risks of trading in volatile derivatives and could not seek regulatory intervention to annul trades or adjust the DDR.
5. The court declined to grant relief, as it would unjustly affect counterparties who were not before the court and had lawfully profited from the negative DDR.

What This Means For Similar Cases

Finality of Settlements in Commodity Derivatives

• Binding Nature of Contract Specifications: Traders must carefully review contract specifications, particularly clauses defining the DDR or settlement mechanisms. Courts will uphold settlements based on contractual terms, even if they result in negative pricing.
• Limited Scope for Annulment: Annulment of trades is permissible only in cases of fraud, material mistake, or market manipulation, as prescribed under Bye-law 5.25 of MCX Bye-laws and SEBI Circular dated 16 July 2015. Unprecedented market volatility does not qualify as a ground for annulment.

Regulatory Discretion and Judicial Restraint

• Courts Will Not Direct Regulatory Action: Courts will not issue mandamus directing regulatory authorities like SEBI or MCX to exercise discretion in a particular manner, especially in commercial matters involving speculative risks.
• Sophisticated Traders Bear Risks: Sophisticated traders cannot seek regulatory intervention to mitigate losses arising from market volatility. Risk Disclosure Documents signed by traders acknowledge these risks, and courts will not intervene to protect traders from their own speculative bets.

Practical Implications for Market Participants

• Trading Hours and Settlement Risks: Traders must be aware of trading hour restrictions and their impact on settlement mechanisms, particularly when settlements are linked to international benchmarks like NYMEX.
• Counterparty Risks: Courts will not entertain petitions that seek to reverse settlements at the expense of counterparties who are not party to the proceedings. Traders must carefully assess their positions and exit strategies before contract expiry.
• Documentation and Compliance: Brokers and traders must ensure compliance with SEBI Regulations and MCX Bye-laws, particularly regarding settlement finality and grounds for annulment. Failure to challenge regulatory actions in a timely manner may preclude subsequent legal remedies.