By Denny Gulino
WASHINGTON (MNI) – As the SEC prepares to hear 14 market technology
experts Tuesday answer questions about how to prevent “flash” crashes
and high frequency trading abuse Europe, with unusual speed, has jumped
ahead in the debate by proposing both a stunning half-second holding
period for trades and by threatening buy-side dark pools.
The SEC’s day-long Roundtable will hear from the technology chiefs
at the New York Stock Exchange, the BATS Exchange, GETCO, Citadel, UBS,
NASDAQ OMX, Direct Edge and several other firms, representing a broad
cross section of the most advanced in U.S. trading venues. The session
begins at 10:00 Tuesday and will be Webcast live at http://sec.gov.
In the City of London and European trading centers, the wait is on
for the publication this week of the regulatory proposals previewed last
week by the European Parliament’s Economic and Monetary Affairs
Committee, which sent shockwaves through the worldwide HFT community.
The Committee proposed a mandated half-second freeze for all
trading orders, not only in equities, but every market, including fixed
income and other asset classes.
While the requirement to keep all trades alive for at least 500
milliseconds went far beyond what was expected in terms of orders,
markets analyst Rebecca Healey told MNI there is believed to be an even
more game-changing proposal in the document itself, one that could
threaten the use of so-called dark pools by investors.
The proposed rules could apply to any entity dealing on their own
account and have a proportion of orders cancelled exceeding 20%, a
common characteristic of high frequency trading.
If HFT trading firms did not meet the 20% cancellation threshhold
the rule would be drawn to capture them anyway, by adding to the
criteria the co-location of its servers at exchanges, or having a daily
portfolio turnover of at least 50% or having the majority of its
positions unwound within the same day.
Speaking from London Monday, where she tracks markets regulation
and technology for the Tabb Group, Healey said the single most
contentious proposal may be a requirement for “algorithmic market making
strategies” to no longer have to quote under any market conditions,
binding themselves by written agreement to provide liquidity regardless
of prevailing market conditions unless — the key words — the written
agreement provides otherwise.
The main question in the U.S., so far, has been whether the drastic
European proposals will come to influence the American rules still in an
early stage of fact gathering and not formulation. “It’s the first shot,
if you like,” she said. “There will be a lot of negotiations that have
to happen.”
“This seems like a fairly arbitrary 500 millisecond rule,” she
continued. “There’s no scientific evidence it will achieve anything”
according to an already UK completed study. Besides, a half second
freeze on order status may actually work more to the benefit of the most
adept HFT firms “because they have the tools and technology and once
more, those that do not will be left behind.”
In a separate Tabb Group analysis, the possible result of the
proposed European regime could be that, “Market makers may leave but
high-speed traders probably won’t, they will just change their stripes.
Liquidity providers will flip to liquidity takers.” With a half-second
pause, “HFTs will be the first to pick off every stale quote.”
The regulators have a tough job not inadvertently encouraging a
situation that, “Instead of creating the free and fair market for all,
we’re just creating a club with limited access,” Healy said, a concern
on both sides of the Atlantic.
The massive universal clock issues and other considerations “will
drive up the cost and complexity again.”
“What’s more of a concern is the loss of the broker-crossing
networks,” she said. Order volume has diminished so much that high
frequency trading is welcomed by exchanges, yet the need remains to weed
out the predatory variety.
“Trading with HFT per se is not deemed necessarily a bad thing” but
investors want to preserve the choice whether to use it, and which kind
to use and which to avoid. “It’s that element of choice that the
regulators seemed to have taken away without anything being available in
its place.” That, in turn, would threaten to cut into volume even more
and as order volume shrinks volatility increases.
Now that the European proposals have been made, their fate becomes
a political matter, with their development dependent on the arguments
that can be made against them by leading HFT practitioners, she said.
“Unfortunately they are seen as nobody’s best friend at the moment.”
“It’s hard to gauge,” she said. “I think all market participants
have been surprised it’s gone through. People were expecting more of a
conciliatory tone and that hasn’t happened.”
HFT firms in Europe have done a better job lately of explaining
themselves and in allying themselves against predatory strategies, she
said, but on a limited scale.
While it’s true a lot of negotiation about the rules lies ahead, in
the European Council and within the separate Parliaments, it’s also true
that the entire discussion is accelerating in Europe, she said. It may
eventually come down to the European Securities and Markets Authority,
known as ESMA.
“How strictly do they want to enforce it, how strictly can they
enforce it?” and important will be the level of enforcement fines, and
whether HFT firms will choose to just pay the fines and continue what
they’re doing.
The next level concern, she said, is transAtlantic, with the degree
of influence on the U.S. “depending on the results” of the European
process “and I don’t think there is any guarantee that the (European)
regulators are going to get the results they are looking for.”
“There’s general momentum building up,” she said. “There’s appetite
to get to grips with it and given the general lack of confidence in the
market, and with how much is accomplished off-exchange, this is only
going to increase. It’s not going away.”
Just alienating one sector, the high frequency trading community,
“is not going to help market stability and liquidity going forward.”
What “we have to get to is a result that is beneficial for all market
participants,” Healy said.
** MNI Washington Bureau: 202-371-2121 **
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