US Markets

Beyond Wall St., Curbs on High-Speed Trades Proceed

Nathaniel Popper|The New York Times

After years of emulating the flashy United States stock markets, countries around the globe are now using America as a model for what they don’t want to look like.

NYSE trader
Getty Images

Industry leaders and regulators in several countries including Canada, Australia and Germany have adopted or proposed limits on high-speed trading and other technological developments that have come to define United States markets.

The flurry of international activity is particularly striking because regulators have been slow to act in the United States, where trading firms and investors have been hardest hit by a series of market disruptions, including the flash crash of 2010and the runaway trading in August by Knight Capital that cost it $440 million in just hours. While the Securities and Exchange Commission is hosting a round table on the topic on Tuesday, the agency has not proposed any major new rules this year.

In contrast, the German government on Wednesday advanced legislation that would, among other things, force high-speed trading firms to register with the government and limit their ability to rapidly place and cancel orders, one of the central strategies used by the firms to take advantage of small changes in the price of stocks. A few hours later, a committee at the European Parliament agreed on similar but broader rules that would apply to all 27 member states of the European Union if governments also give their approval.

In Australia, the top securities regulator recently stated its intention of bringing computer-driven trading firms under stricter supervision and forcing them to conduct stress testing, to protect “against the type of disruption we have seen recently in other markets.”

The broadest and fastest changes have come out of Canada, where this spring regulators began increasing the fees charged to firms that flood the market with orders. The research and trading firm ITG found that the change had already made trading more efficient by reducing the crush of data burdening the market’s computer systems.

“Our marketplace has been evolving very quickly and it is not clear that our rules have kept up.”
U.S. Senator (D), Rhode Island 
Jack Reed

Now Canadian trading desks are preparing for rules that will come into effect on Oct. 15 and curtail the growth of the sophisticated trading venues known as dark pools that have proliferated in the United States. While the regulation has been hotly debated, many Canadian bankers and investors have said they don’t want to go any further down the road that has taken the United States from having one major exchange a decade ago to having 13 official exchanges and dozens of dark pools today.

“We don’t want to look like the U.S., but we have to do it better than we are now,” said Greg Mills, the head of stock trading at the nation’s largest bank, Royal Bank of Canada.

Canadian executives traveled to Washington last week to speak about what the United States may soon be able to learn from Canada about how to rein in the new high-speed markets.

SEC Targets High-Speed Trading

“Because the U.S. had moved ahead so fast, we had the opportunity to watch and decide in some cases that there were extremes we didn’t want to go to,” Kevan Cowan, the president of the Toronto Stock Exchange, said at last week’s conference.

American regulators have faced a growing demand at home for some sort of market reform from traders and exchange executives. At a Senate hearing on computerized trading last Thursday, one market analyst called for a moratorium on the new trading venues that have popped up in recent years, while traders on the panel recommended mandatory kill switches that could be flipped in case of technology malfunctions. The senator who called the hearing, Jack Reed, Democrat from Rhode Island, said “our marketplace has been evolving very quickly and it is not clear that our rules have kept up.”

There are many explanations for the slower pace of reform in the United States, including the crush of work the S.E.C. has had to deal with in completing regulations under the Dodd-Frank financial overhaul law. In addition, many of the largest American market participants, including the big banks, have built high-speed trading desks and dark pools and as a result have a vested interest in protecting them against new regulations.

The soft-touch approach of American regulators has won praise from many industry participants around the world who say that the rush elsewhere to impose new rules could jeopardize the lower trading costs that have come with the automation of the American markets. Michael Aitken, the chief scientist at the Capital Markets Cooperative Research Center in Australia, said the push for regulation in Australia and much of the rest of the world has been driven by “hysteria” rather than “evidence based policy.”

Abroad, new efforts to rein in high-speed trading.

Last year an international operator of exchanges, Chi-X, opened the first competitor to the Australian Securities Exchange. Australia’s two exchanges are still a long way from the 13 public exchanges in the United States, but Chi-X has attracted over 7 percent of all Australian trading, largely by catering to high-speed firms. High-speed trading now accounts for 30 percent of all trading in Australia stocks, compared with 65 percent in the United States, according to the consulting firm Celent.

A coalition of Australian pension funds and investment firms, the Industry Super Network, wrote to the country’s top securities regulator last week supporting recent reform efforts and calling for a wholesale moratorium on new high-speed trading.

“Structural advantages (largely derived through technology) can unfairly redistribute profits from traditional long-term investors to” high-speed trading firms, the group wrote.

The European Parliament has been drafting new trading regulations for nearly a year, but the committee doing the work has significantly broadened the proposals since the Knight Capital fiasco. One new rule would require high-speed firms to honor the quotes they submit for at least 500 thousandths of a second, an eternity for firms that are used to submitting and withdrawing quotes in millionths of a second.

Kay Swinburne, one of six members of the committee that drew up the rules, said that there was “a general feeling that the U.S. markets are still learning from their mistakes.” The committee’s draft was approved Wednesday, but it still faces a long process before coming into law. But Ms. Swinburne, a former banker, said she worries that her fellow committee members may go too far and end up choking off trading, making buying and selling stocks more expensive for more traditional investors.

In Canada, because of rules that were already in place, the flash crash of 2010 was less severe, taking broad stock indexes down only 4 percent, while they fell over 9 percent in the United States. Canadian regulators recently finished the first stage of a study of the behavior of high-speed trading firms. Earlier this year, they instituted the charges-based data traffic, with firms charged for all the orders they cancel, not just the trades they execute. About a quarter of all stock trading in Canada is done by high-speed firms.

Additional rules coming into force in Canada are expected to cut the amount of trades going to dark pools, which do not publicly release information about the trading they host. Dark pools began in the United States as places where large investors could go to execute trades without revealing their positions. Today any order can go to one as long as the price is better than on the public exchange, even if by only a thousandth of a penny. Close to 15 percent of all American stock trading now occurs in dark pools.

Dark pools have been growing quickly in Canada, but starting on Oct. 15 the pools will be allowed to take orders only if they offer a significantly better price.

Susan Wolburgh Jenah, the chief executive of the Investment Industry Regulatory Organization of Canada, said that her agency was increasingly going its own way.