Something is brewing in the virtual world of high frequency trading (HFT). It refers to a form of algorithm-driven (algo) trades, where computers process market data, place orders and put through trades worth hundreds of crores.
When Flash Boys, Michael Lewis’ bestseller, was making waves on Wall Street in early 2014, this column had suggested the regulators use the events described in the book as an excuse to regulate the segment more closely. See: https://www.business-standard.com/article/markets/flash-boys-penny-stocks-and-alice-in-wonderland-114040701236_1.html
More than a year later, the Securities and Exchange Board of India finally seems to be moving. According to a Business Standard report on Monday, steps under consideration include “means to slow down the pace of trading through introduction of measures, including a minimum resting time for orders before execution, and randomising the time priority of orders an exchange receives.”
These are steps in the right direction, especially when all stakeholders in the market are still in a learning mode. Opening up prematurely would allow a handful of players who have equipped themselves better, through means scrupulous or otherwise, to run away with the market.
It is not very clear if our exchanges and regulators have the sufficient expertise and bandwidth to adjudicate if the means utilised are scrupulous or not. Gradualism is the best answer in these cases.
It makes even more sense to be gradual when the banking regulator has expressed concern about the speed at and ways in which things are moving in the high frequency segment. Last week, the Reserve Bank of India (RBI) in its Financial Stability report identified algo trading as a risk area. It has said the volumes related to algo orders give rise to systemic risk concerns.
“The increased complexities of algorithm coding and reduction in latency due to faster communication platforms needs focused monitoring, as they might pose risks in the form of increased possibilities of error trades and market manipulations,” the report said.
The share of algo orders in total orders and the share of cancelled algo orders in the total number of cancelled orders is around 90 per cent, it noted. RBI also observed that volumes in algo and HFT had increased substantially in the cash segment of the equity market to about 40 per cent of total trades in both the exchanges by March 2015, from 17 per cent (NSE) and 11 per cent (BSE) of trades, respectively, in 2011.
“There have been certain instances of abnormal market movements in India stocks, which have been attributed, by market experts to algo trading/HFT,” the report said.
The RBI report itself was preceded by a supposed whistleblower account put out in the public domain by senior financial journalist Sucheta Dalal. On June 19, she posted a so-called whistleblower account addressed to her on her website, MoneyLife.in. The eight-page letter has details of alleged manipulation and names two exchanges, a securities firm and several staff members, and is marked “confidential copy for Sucheta Dalal”.
“The document below came by snail mail from Singapore and addressed to Mr B K Gupta, DGM, Sebi. It is dated January 14, 2015, with a copy to Sucheta Dalal. It is not clear what Sebi has done with it in all these months,” Dalal’s post said.
Compare the three developments in the past ten days (since Dalal's post) and what happened in the earlier five months. That’s what you call high frequency action.
