SEC probing high-frequency strategies, co-location

By Reuters Staff
December 8, 2009

HIGHFREQUENCY/  By Jonathan Spicer

NEW YORK, Dec 7 (Reuters) – The U.S. Securities and Exchange Commission will likely seek public input on so-called high-frequency trading strategies, and whether traders using them gain any special advantages by placing fast computers next to exchanges.

 

High-frequency trading, which accounts for some 60 percent of U.S. stock trades, involves using algorithms to buy and sell shares and earn tiny spreads on market inefficiencies. It has come under fire this year by those who claim it leads to manipulation and unstable markets, and the SEC is investigating.

According to a Dec. 3 letter from SEC Chairman Mary Schapiro to U.S. Senator Ted Kaufman, the regulator is also developing new initiatives in its ongoing review of stock markets, and hopes to seek public comment next month on high-frequency trading when it issues a paper on the issue.

The SEC “has been actively engaged in a vigorous and robust review of market structure,” Schapiro said in the letter obtained by Reuters. “We will continue to use all tools at our disposal to aggressively pursue illegal market manipulation by high-frequency traders and others.”

The regulator “will likely seek input on the various strategies used by high-frequency traders and any special trading advantages they may enjoy, including through co-location,” Schapiro wrote.

In co-location, brokers and trading firms rent space next to exchanges’ trading engines, allowing them to put their computers under the same roof and shave valuable microseconds from the time it takes to make a trade.

Kaufman is among the most vocal of critics of the lightening-fast trading strategies which markets heavily rely on for liquidity.

Schapiro’s letter “takes everything (Schapiro) has said … to the next level,” Kaufman, a Democrat, said in an interview. “It’s the sense of urgency.”

The SEC, a big part of the Obama administration’s financial reform plan, is trying to figure out what effect high-frequency trading has on long-term investors, and whether it makes markets more or less efficient, officials said last month.

The regulator also will include proposals to deal with so-called naked sponsored access, where brokers allow trading firms to use their license, giving them unfettered access to markets.

Proprietary firms, banks and hedge funds employ high-frequency strategies, which include statistical arbitrage.

The rush of criticism has frustrated such firms, whose high-frequency activity has made it cheaper and easier to trade in U.S. equities markets than in any other. Some investors have complained about manipulation of orders, but there is very little evidence of this.

There are some 50 U.S. stock trading venues, making oversight difficult for regulators.

Kaufman said the United States needs a surveillance system in order to gather trading data and ultimately decide whether manipulation is taking place. Only then can decisions on high-frequency trading be made, he told Reuters.

In the letter, which was a response to a Nov. 20 letter from Kaufman, Schapiro said she is “committed to pursuing the goal of improved intermarket surveillance as a means to strengthen our markets, deter and ferret out wrongdoing, and augment public confidence.”

(Reporting by Jonathan Spicer; Editing by Leslie Gevirtz, Richard Chang and Carol Bishopric) ((jonathan.spicer@thomsonreuters.com; +1-646-223-6253; Reuters Messaging: jonathan.spicer.reuters.com@reuters.net))

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