U.S. regulators and exchanges are looking at sweeping circuit breakers and other speed bumps for the high-speed world of electronic trading in case glitches occur, industry executives, but also noted they are being overwhelmed by the pace of regulatory reforms.
High-profile electronic snafus like the Aug. 1 glitch at Knight Capital Group that unleashed errant orders and cost the executor of U.S. equity trades $440 million, are prompting a wide review of financial market structures.
Currently, exchanges have "circuit breakers," which halt single stocks if their prices swing too fast in one direction or another, so market participants can pause to figure out if the moves were intentional.
Kevin Murphy, head of U.S. option electronic execution at Citigroup Global Markets, said exchanges and market makers were now looking at creating "speed bumps" that would stop all orders from one market maker at an exchange if the situation called for it, and also possibly across multiple exchanges.
"The market makers are pushing out hundreds of thousands of quotes at a time and they want to make sure that if something goes wrong — an algo gone wild, or whatever it is ... that there are some kind of mechanisms," Murphy said at the FIA/OIC Equity Options Conference in New York.
The conference comes ahead of an Oct. 2 round table discussion on preventing and handling such problems that has been called by the U.S. Securities and Exchange Commission.
Murphy also said regulators were likely to look at strengthening the testing environment for firms before new systems and order types are put in place.
There has also been talk of exchanges having a "kill switch" to shut down order flow, and circuit breakers that are tripped by unusual volume.
Market makers, like Knight, and Citadel Securities, act as middlemen in trades, buying and selling stocks with their own capital, and thus providing liquidity to the markets. Citigroup has its own market making unit, called Automated Trading Group.
Murphy made his comments while chairing a panel of 10 executives in the options industry.
Nearly all of them expressed concern at the growing regulatory complexity in the U.S. equities markets in the wake of rules from the 2010 Dodd-Frank financial reform law, the Volcker rule, and other moves by the SEC to strengthen market structure.
"Some of the rules are complex on their own, but when you take them all together it's creating this increasingly complex system of regulations," said Chuck Mack, managing director of U.S. options at Nasdaq OMX. "It makes it more and more difficult for ... any participant in the market to do what they are good at because they are spending more and more time and money on ensuring their compliance."
He said Nasdaq OMX, which had its own costly, high-profile technology problem during Facebook's market debut, has been collaborating with other exchanges more often on market structure issues, and spending more time talking to its customers about upcoming regulations.
Dealing with the minutia of Dodd-Frank had caused CBOE Holdings, which runs the oldest and largest U.S. stock-options exchange, to put some other important market structure issues — like fee structures and exchange structures — on hold, said David Gray, a vice president at the firm.
However, there are also some advantages for the industry as a result of the new regulations, such as the push to boost oversight in the over-the-counter market, which is bringing more business to exchanges and clearing operations, he said.
The amount of new regulation should not come as a surprise, as there is simply more to regulate, said Jack Boyle, a representative for the Securities Industry and Financial Markets Association's options committee. He reminded the panel that 40 years ago, there was only one exchange, while soon the number is likely to hit 14.
It is also an environment in which regulators are struggling to keep up with the technological advancement of trading firms.
"We wouldn't have talked about 10 years ago somebody sending 65,000 orders a second. This is new stuff. This is a new world, and regulators have a lot coming at them," Boyle said.
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