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| SEC backs ban on flash trading |
| Bloomberg / New York Sep 19, 2009, 00:44 IST |
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The worst criticism against flash orders is that they give some investors an unfair edge
Nasdaq OMX Group Inc and Bats Global Markets’ decision to prohibit flash stock orders was affirmed by the Securities and Exchange Commission, which proposed banning the practice yesterday.
SEC commissioners unanimously voted to seek public comment on a rule barring exchanges and trading platforms from giving clients access to information about share orders a fraction of a second before the market. The decision may force Direct Edge Holdings LLC, the only equity network still allowing the practice, to stop offering the service to clients.
“Nasdaq and Bats correctly assumed that the regulatory decision was going to go against flash,” said Sang Lee, a market analyst at financial-services consultant Aite Group LLC in Boston. “At this point, certainly all of the pressure is on Direct Edge because they haven’t abandoned their effort.”
Flash orders are a subset of so-called high-frequency trading in which hedge funds and other Wall Street firms use advanced computers to buy and sell thousands of shares a second. While they make up a small fraction of high-speed strategies, they have drawn the most criticism from investors, traders and politicians, who say they give some investors an unfair edge.
The orders grew to 2.8 per cent of stock traded in the US in July, three years after Direct Edge began the practice as a way of increasing the odds an order would be filled, according to data compiled by New York brokerage Rosenblatt Securities Inc that’s an 18 per cent increase from the previous month. Rosenblatt said the percentage should fall this month after Nasdaq and Bats shut down their systems on September 1.
Nasdaq, the second-largest US stock market, and Bats, the fourth-biggest, stopped offering flash orders after Democratic Senator Charles Schumer of New York urged the SEC to halt the practice. Schumer said yesterday the practice “could seriously undermine the fairness and transparency of our markets.”
After Schumer’s initial call for a review of flash orders in July, SEC Chairman Mary Schapiro asked her staff to draft rules to “eliminate the inequity” that flash orders cause. The review was part of a larger examination of dark pools, which are broker-owned markets that don’t display quotes to the public.
The SEC under Chairman William Donaldson first approved a flash-trading system in 2004 for the Boston Options Exchange. Since then, New York-based Nasdaq, Kansas City-based Bats and the CBOE Stock Exchange in Chicago had introduced programmes that hold orders before publishing them on rival platforms. NYSE Euronext, which operates the New York Stock Exchange, is the only one of the top four US exchanges that didn’t use flash orders.
Direct Edge, the third-largest US equity market, pioneered flash trading and its three-year-old Enhanced Liquidity Provider programme handles the most orders, helping the Jersey City, New Jersey-based exchange gain business from rivals. The company’s matched market share has more than doubled since November to 12.9 per cent in August, making it the fastest growing equity market in the US
“We agree with the measured, holistic approach that SEC has taken and look forward to participating in the industry dialogue on how market structure regulation should evolve,” Chief Executive Officer William O’Brien said in a statement yesterday after the SEC announcement.
O’Brien said earlier this month that he expects Direct Edge to continue to grow, regardless of the regulation debate.
While Direct Edge still offers flash trades, citing an aim “to preserve current customer choice and flexibility,” it said last month it will stop seeking approval to enhance its flash- trading system to mimic features Nasdaq and Bats had offered.
High-frequency trading may account for 70 per cent of share volume in the US, according to Patrick O’Shaughnessy, an analyst at Raymond James & Associates.
James Brigagliano, acting co-head of the SEC division that oversees stock exchanges, said the agency is examining other topics related to “market structure,” including high-frequency trading, and may propose additional rules.
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