Automated Trading Spurs Innovation

Terry Flanagan

Market structure changes and algorithmic trading have created challenges for regulators and market participants alike.

Since the flash crash that occurred three years ago, Finra, the SEC and the exchanges have implemented a variety of initiatives to minimize the impact of technological malfunctions.

These initiatives have created a multi-faceted safety net for the markets and promote investor confidence.

“We’ve had a number of technological failures—due to program glitches and human error—that raise concerns regarding the vulnerability of our complex financial services architecture to disruption,” said Finra CEO Richard Ketchum in a speech. “It should come as no surprise that investors are wary about the reliability of our increasingly electronic marketplace.”

Richard Ketchum, Finra

Richard Ketchum, Finra

Keeping up with computerized trading and market structure changes is a never-ending challenge for Finra and other regulators. “While we may not be able to prevent a technology failure from occurring, our job as a regulator is to implement programs to minimize the impact of a failure and head off widespread market disruption,” Ketchum said.

For the sell side, the challenge is to balance the requirements for high-speed trading with the legitimate concerns of institutional investors about the impact of high-frequency trading.

Citi, for example, has collaborated with buy-side traders and external technology provides to improve execution quality, liquidity discovery tactics and trader workflow options available to its institutional clients.

In partnership with OMS and EMS vendors, Citi has redesigned its Order Entry ticket, which adds a range of new parameters including improved controls for dark liquidity access and the ability to Opt In to display individual orders to high-touch sales trading coverage.

“We remain fully committed to our core principles of order protection, intelligent liquidity discovery, client service and anonymity,” said Tim Reilly, head of global electronic execution sales, Americas, at Citi. “Institutions have appropriate concerns about order protection and venue toxicity across markets, and Citi has worked hard to build tactics and strategies to control the influence of these market forces.”

Infrastructure, order types and liquidity access tactics are constantly changing. “More targeted access to non-displayed liquidity, enhancements to order queue management, and increased fill rates are delivering measurable improvements to execution quality,” said Reilly.

The enhancements include a new “Open” and “Close” algorithmic trading strategy. Utilizing premarket exchange feeds, individual stock profiles and a disciplined post-open execution model, the Open algorithm strategically trades on the primary open and in the immediate aftermarket.

U.S equity markets have also established a durable pattern of increased volume over the final thirty minutes of the trading day. Citi has re-engineered its Close algorithm to trade large orders more intelligently “into the close,” or the final minutes before closing.

Finra’s Ketchum took note of the SEC’s proposed plan to better insulate the markets from vulnerabilities posed by systems technology issues.

Regulation Systems Compliance and Integrity, or Reg SCI—which the SEC proposed in March—would require SROs, certain alternative trading systems, plan processors and certain exempt clearing agencies to design, develop, test, maintain and surveil systems that are integral to their operations. The proposed rules would also require them to ensure their core technology meets certain standards, conduct business continuity testing and provide certain notifications if a system disruption and other event occurs.

The SEC has also asked for comment on applying the proposed rule to broker-dealers.

“Finra supports the SEC’s proposal and its broad outlines,” Ketchum said. “We have been operating for years under these general requirements. We will be commenting on parts of the proposal that we think are overbroad.”

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