India tightens its reins on algorithmic trading after spurt in usage of computer trading.
India Times: Tightening the norms for algorithmic trading, market regulator Sebi today made it mandatory for the users to have their systems audited every six months and increased penalties on errant stock brokers.
Sebi first issued guidelines on algo trades in March 2012, after it witnessed a growing trend of usage of advanced technology for trading in financial instruments.
It’s Man vs Machine in the new era of high frequency and algorithmic trading.
Mark Hulbert from WSJ observes that it has always been difficult for investors to consistently beat index funds. It has been nearly impossible lately.
And there’s a double whammy: The small number of advisers who outperform the market rarely can keep doing so.
One big culprit, experts say: the rise of sophisticated computer-trading programs.
Eurex Exchange releases proprietary research results on high frequency trading
AutomatedTrader Magazine reports that Eurex Exchange is the first exchange in Europe to share part of its proprietary quantitative research on high- frequency trading (HFT) with the public. Key findings of this research include: (a) HFT participants played an important and beneficial role during one of the most extreme market situations Eurex Exchange has seen in recent years, (b) HFT participants play a unique and indispensable role in the recovery of market quality right after large trades, and (c) Eurex Exchange did not find evidence of abusive HFT activity.
High speed traders have increased their political donations and lobbying efforts against possible HFT regulations
Sarah Lynch from Reuters reports that high-frequency trading firms have increased their campaign contributions to federal lawmakers by 673 percent from the 2008 to the 2012 election cycle, according to a report that sheds light on their political connections in Washington and efforts to impact policymaking.
The report by the Washington-based nonprofit watchdog Citizens for Responsibility and Ethics in Washington (CREW) comes as U.S. financial market regulators mull whether new rules should be adopted to rein in high-speed traders, whom some critics accuse of harming smaller investors.
MiFID new regulation
In finalizing the Mifid II directive and Mifir regulation, EU law makers have heeded the calls of some market participants not to impose speed limits, or resting periods, designed to slow down automated trades and prevent large-scale errors.
Provisions that would have required a minimum 500 millisecond pause on incoming trades have been dropped, alleviating some of the concerns about the potential impact on liquidity, and trading shifting to other jurisdictions.
However, participants engaged in high-frequency algorithmic trading will need to be licensed, and trading facilities must limit the ratio of unexecuted orders to transactions in their systems.
High-Speed Traders Exploit Loophole
High-speed traders are using a hidden facet of the Chicago Mercantile Exchange’s CME -1.13% computer system to trade on the direction of the futures market before other investors get the same information.
Using powerful computers, high-speed traders are trying to profit from their ability to detect when their own orders for certain commodities are executed a fraction of a second before the rest of the market sees that data, traders say.
The advantage often is just one to 10 milliseconds, according to people familiar with the matter and trading records reviewed by The Wall Street Journal. But that is plenty of time for computer-driven traders, who say they can structure their orders so that the confirmations tip which direction prices for crude oil, corn and other commodities are moving. A millisecond is one-thousandth of a second.
ASIC ditch tougher high frequency trading rules
The corporate watchdog is under pressure to ditch proposals to crackdown on high frequency trading (HFT) activity on the stock market, with the Australian Securities Exchange saying the measures would not boost market confidence.
In a submission to the corporate watchdog, the ASX said the proposal to target ‘small and flickering’ orders to restore market confidence was, based on ASIC’s own analysis, not “a problem that needs a policy response at this time”.
“Having established a regulatory framework that does not incentivise the activities of short-term traders, ASIC should be cautious about making any changes (eg narrowing ticksizes) that may shift that balance,” the ASX said.
High speed trading a stiff challenge for U.S. regulators
Christine Stebbins from Reuters reports that financial trading in world markets has grown so lightning-fast that effective regulation is growing tougher by the second, increasing the threat of crashes sparked by hoaxes, electronic glitches or yet-unknown causes.
The latest alarm was triggered by a fake tweet saying that the White House was bombed, prompting a U.S. market nosedive that ended minutes later when the Associated Press said its Twitter account had been hacked. In 2010 U.S. stocks plunged in a “flash crash” following aggressive sales of stock-index futures by a mutual fund.
“As technology changes, our financial system and the rules in place need to be resilient,” Commodity Futures Trading Commission Chairman Gary Gensler said after the hacked AP Twitter message in late April.
Edgar Perez, author, The Speed Traders: An Insider’s Look at the New High-Frequency Trading Phenomenon That is Transforming the Investing World
The Securities and Exchange Commission (SEC) has recently proposed Regulation Systems Compliance and Integrity (Reg SCI), which would apply to certain self-regulatory organizations (including registered clearing agencies), alternative trading systems (ATSs), plan processors, and exempt clearing agencies subject to the commission’s Automation Review Policy (collectively, SCI entities), and would require these entities to comply with requirements regarding their automated systems that support the performance of their regulated activities.
In their proposal released on March 7, 2013, the SEC preliminarily estimated that the total one-time initial burden for all SCI entities to comply with Regulation SCI would be 133,482 hours and the total one-time initial cost would be $ 2.6 million. The SEC preliminarily estimates that the total annual ongoing burden for all SCI entities to comply with Regulation SCI would be 117,258 hours and the total annual ongoing cost would be $ 738,400.
As explained by Commissioner Luis A. Aguilar, the proposed rule would move beyond the current voluntary program and require entities to establish, maintain, and enforce written policies and procedures reasonably designed to ensure that its systems have adequate levels of capacity, integrity, resiliency, availability, and security to maintain the entity’s operational capability and promote the maintenance of fair and orderly markets, mandate participation in scheduled testing of the operation of the entity’s business continuity and disaster recovery plans, including backup systems, and coordinate such testing on an industry- or sector-wide basis with other entities, and finally make, keep, and preserve records relating to the matters covered by Regulation SCI, and provide them to SEC representatives upon request.
Recent events prompted the SEC into action. On May 6, 2010, the price s of many U.S.-based equity products experienced an extraordinarily rapid decline and recovery, with major equity indices in both the futures and securities markets, each already down over four percent from their prior day close, suddenly plummeting a further five to six percent in a matter of minutes before rebounding almost as quickly. According to the May 6 Staff Report (published on September 30, almost five months after the incident), many individual equity securities and exchange traded funds suffered similar price declines and reversals within a short period of time, falling 5%, 10%, or even 15% before recovering most, if not all, of their losses. The May 6 Staff Report stated that some equities experienced even more severe price moves, both up and down, with over 20,000 trades in more than 300 securities executed at prices more than 60 percent away from their values just moments before.
Both before and after the May 6, 2010 incident, individual markets also experienced other systems-related issues. In February 2011, NASDAQ revealed that hackers had penetrated certain of its computer networks, though NASDAQ reported that at no point did this intrusion compromise its trading systems.
In October 2011, the SEC sanctioned EDGX and EDGA, two national securities exchanges run by Direct Edge for violations of federal securities laws arising from systems incidents. In the Direct Edge order, the SEC noted that the “violations occurred against the backdrop of weaknesses in respondents’ systems, processes, and controls.”
More recently, in 2012, systems issues hampered the initial public offerings of BATS Global Markets and Facebook. On March 23, 2012, BATS announced that a “software bug” caused BATS to shut down the IPO of its own stock, BATS Global Markets. On May 18, 2012, issues with NASDAQ’s trading systems delayed the start of trading in the high-profile IPO of Facebook and some market participants experienced delays in notifications over whether orders had been filled.
While these are illustrative high-profile examples, they are not the only instances of disruptions and other systems problems experienced by SROs and ATSs. Moreover, as pointed out by John J. Rapa, Tellefsen and Company’s Chief Executive Officer, market impacting events such as those above cannot be easily foreseen nor adequately tested for; the next major headline event will not necessarily the same as these. That’s why Commissioner Aguilar’s observation regarding the need to request senior officers to certify, in writing, that entities have processes in place to establish, document, maintain, review, test, and modify controls reasonably designed to achieve compliance, and that the annual budget and staffing levels are adequate for the entity to comply with its obligations, is appropriate at this time when the SEC is eager to restore trust in the markets.
The Sarbanes-Oxley Act of 2002, section 302, “Corporate Responsibility for Financial Reports,” requires the CEO and CFO of publicly traded companies to certify the appropriateness of their financial statements and disclosures and to certify that they fairly present, in all material respects, the operations and financial condition of the company. That was not the first time, and won’t be the last time either, that executive management had been asked to provide some form of assurance on the overall financial statements or the details and assertions that underlie the statements.
While it remains to be seen whether this type of certification statements, signed, notarized, and available for public view, would be the final and necessary measure to ensure the public that management would take full responsibility, and be held legally accountable, its mere existence would put the onus on CTOs and CIOs to go beyond rubber stamping their staff’s decisions and declarations. It is not about having the most sophisticated kill switch in trading entities’ infrastructure; it is about management defining and constantly monitoring the appropriate criteria by which these switches will be activated. Indeed, conventional wisdom suggests that when people know they can and will be held accountable for their actions, their behaviors change. Furthermore, these new rules should make it easier for government officials to make fraud cases against executives found to have intentionally filed false certifications under perjury charges.
As Professors Ronald E. Marden, Randal K. Edwards, and William D. Stout, admit in the CPA Journal, some might question the additional value of these certifications in the same way they questioned the Sarbanes-Oxley Act. Enforcement of the laws is what is important, not the public relations value of a few more signatures on a certificate of integrity. Indeed, enforcement of these laws is what will bring out the added value of any statement. Enforcement actions against those who perpetrated fraud in these cases will go a long way toward restoring investor confidence.
Edgar Perez is author of The Speed Traders: An Insider’s Look at the New High-Frequency Trading Phenomenon That is Transforming the Investing World (McGraw-Hill Inc., 2011), 交易快手： 透视正在改变投资世界的新兴高频交易 (China Financial Publishing House, 2012), Investasi Super Kilat: Pandangan Orang dalam tentang Fenomena Baru Frekuensi Tinggi yang Mentransformasi Dunia Investasi (Kompas Gramedia 2012), and the forthcoming Knightmare on Wall Street, The Knight Capital Story. Mr. Perez is on Facebook (https://www.facebook.com/AmericasUltimateNetworker), Twitter (http://twitter.com/mredgarperez) and Weibo (http://www.weibo.com/edgarperez).
Charlie Munger, Berkshire Hathaway vice chairman
Events in Europe are a great example of bankers gone wild and you simply can’t trust them, said Warren Buffett’s right-hand man Charlie Munger. Munger was also extremely critical of high-frequency trading.
“I think the long term investor is not too much affected by things like the flash crash. That said, I think it is very stupid to allow a system to evolve where half of the trading is a bunch of short term people trying to get information one millionth of a nanosecond ahead of somebody else,” Munger said.
“It’s legalized front-running. I think it is basically evil and I don’t think it should have ever been allowed to reach the size that it did,” he said. “Why should all of us pay a little group of people to engage in legalized front-running of our orders?”
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