Mitigating HFT Risk

Terry Flanagan

Market risks associated with high-frequency trading can be mitigated by mandating additional real-time trade submission and more closely monitoring trade limits.

That’s the view of Depository Trust & Clearing Corp., which provides post-trade services including clearing and settlement. In a whitepaper released this week, DTCC said it is in a unique position to offer perspective given its role as the cross-market clearing agency for U.S. cash markets, and given that DTCC subsidiary National Securities Clearing Corp. is the sole aggregation point and subsequent clearer of all trades, and therefore a landing spot for market risk.

The proposed trade-submission mandate pertains to pre-netting, in which some market participants compress trades in a specific security received throughout the trading day, delaying until the end of the day submission of such trades to DTCC.

“Generally speaking, the faster trades are received by DTCC, the quicker such trades can be incorporated into DTCC’s exposure profile of each member, and (it) allows those trades to become subject to applicable margin requirements,” said Michael Leibrock, vice president of systemic risk for New York-based DTCC.

Real-time trade submission “also allows DTCC to provide its members output on an intra-day basis, which lets them reconcile their positions and perform any necessary operational actions and make risk management decisions more quickly,” Leibrock told Markets Media.

DTCC’s proposal would be a step in the right direction, according to Eric Hunsader, chief executive of trading-software developer Nanex.

Pre-netting “allows some firms to not tell anybody what the trade is for a while,” Hunsader told Markets Media. “In doing that, they can be going over their limits or something else outside of the monitoring.”

With real-time trade submission, “more people will get information earlier,” Hunsader said. “Anytime more information is transparent and published at the same time for everyone, the marketplace improves.”

Regarding DTCC’s limit-monitoring proposal, Leibrock said “the risk-management tool provides the industry with an early-warning system that alerts clearing firms to trading activity that is nearing the credit limits that they have set for their own and their correspondents’ accounts, enabling them to step in and effectively and manage potential risk.”

DTCC’s high-frequency trading proposals were included in a broader report on market risks. Other risks highlighted were cyber security, the impact of new regulations, counterparty risk, collateral, market quality, and liquidity risk.


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