U.S. News

Brokers Face Fines Over Role in 'Flash Crash'

By Jean Eaglesham, Financial Times

Brokers who allowed high-frequency traders to have access to the markets without undertaking proper checks on them face potential fines as part of a clampdown following the “flash crash”, the head of a US watchdog said on Sunday.

NYSE Traders
Oliver Quilla for CNBC.com

The Financial Industry Regulatory Association is undertaking a “sweep” of broker-dealers that offer market access to high-frequency traders to find out if they allowed these firms to run computerised trading programs – algorithms – without undertaking proper risk-management controls.

Regulators have yet to pinpoint the causes of the May 6 turmoil, when the US stock market plunged almost 1,000 points in minutes. A report due out next month by the Securities and Exchange Commission and the Commodity Futures Trading Commission might offer no definitive answers.

But the incident has intensified the spotlight on high-frequency traders, who account for about 60 per cent of US trading volumes, and their use of programs to execute hundreds of thousands of trades each day.

“We’re looking to find out if the brokers understood what was being done with the algorithm and whether the high-frequency trader had thought through how it would work under big market changes,” Richard Ketchum, chairman and chief executive of Finra, told the Financial Times.

Brokers also face scrutiny of their checks on the ownership of the firms they allow – directly or through sponsorship arrangements – to access the markets.

“The brokers should be satisfied they know who’s really operating these systems,” Richard Ketchum, chairman and chief executive of Finra, told the Financial Times. “The sub-custodian chain can bury the identity of high-frequency traders in Eastern Europe and elsewhere who raise serious regulatory concerns.”

The probe will at the very least lead to tougher guidelines. “You can expect something to come out of it,” Mr Ketchum said. “Certainly, there may be enforcement actions if we find serious cases where brokers have failed to even try to exercise their obligations to run checks on the firms before allowing them access.”