Rules for algo trade in commodities soon

The move aims to make high-speed technological trade transparent and exchanges accountable

Following in the footsteps of the equity markets regulator, the Securities and Exchange Board of India (Sebi), the commodity derivatives market watchdog the Forward Markets Commission (FMC) is planning to put in place guidelines to avoid any adverse effect of high frequency trading or algorithm (algo) trading in commodity exchanges. The draft guidelines in this regard are set to be released later this week. The move will see algo trading being given official status.

Until now, the FMC had neither permitted nor restricted the use of technology for fast execution of trading orders, which currently consists of 20 per cent and nine per cent of periodic volumes on the Multi Commodity Exchange (MCX) and the National Commodity & Derivatives Exchange (NCDEX), respectively.

Since the Sebi introduced guidelines in March this year, the FMC started studying methods of handling algo trading. Surprisingly, it discovered a number of ongoing loopholes currently being ignored on the domestic exchanges. These are set to be corrected to ensure smooth trading in commodities and avoid any possible mishap created by technology, going forward.

RADICAL MEASURES ON CARDS

• Effective economic disincentives for high daily order-to-trade ratio of orders
• A restriction on number of orders that can be placed per broker/second
• Immediate cancellation of orders if traders chose so
• Clarity - whether algo means for liquidity providing or sucking
• Regular monitoring— whether logic fulfils the objective or not
• Separate systems audit for algo programmes
• Member-wise limits
• Allow market orders, now allowing co-location of servers

“The use of technology cannot be restricted in the 21st century. Hence, we want to have some restrictions in place to monitor algo trading in commodity exchanges,” said Ramesh Abhishek, chairman, FMC.

Any order generated using automated execution logic is known as algorithmic trading. Being a frontline regulator, commodity exchanges would take the onus of such trades, as is the case with stock exchanges.

On restrictions, Abhishek said, “In order to ensure maintenance of orderly trading in the market, commodity exchanges shall put in place effective economic disincentives with regard to high daily order-to-trade ratio of algo orders of brokers. Further, the concerned exchange shall put in place monitoring systems to identify and initiate measures to impede any possible instances of order flooding by algos.”

Meanwhile, unlike Sebi which possesses a centrally-located server for close monitoring and surveillance, the FMC plans to rely on data provided by respective exchanges as the commodity markets regulator does not have any plan to install such servers in its office.

“Effective monitoring is otherwise also happening based on data provided by commodity exchanges. We will follow the same model in algo trading also,” Abhishek said.

He denied any possibility of data manipulation by exchanges.

Under the Forward Contract (Regulation) Act, all exchanges are bound to comply with FMC’s directives and hence, regulating the exchanges based on data provided by them is not a problem.

In line with the Sebi, the FMC is also planning to empower exchanges to seek details of trading strategies used by algo for inquiry, surveillance, investigation, etc.

Under the new guidelines, it would be detrimental for exchanges to have a minimum order level risk controls, including price and quantity limit checks. While the FMC is considering empowering exchanges to grant the facility of algo trade to clients, a monthly report would be mandatorily submitted to the regulator.