Fast traders push alternative risk oversight plan
A handful of companies, including high-frequency traders, have asked the U.S. stock clearinghouse to act as a market-wide monitor, to guard against the risk of a malfunctioning computer program spreading chaos.
The Depository Trust & Clearing Corp, which clears virtually all U.S. stock trading, said it has been approached in recent months to consider enforcing position limits on all market participants.
Both authorities and traders are concerned that a computer algorithm used to rapidly trade stocks could go haywire and spark chaos by building a massive position — setting off an adverse chain reaction in the blink of an eye.
The idea of involving DTCC has been presented as an alternative to proposals to crack down on direct market access, sometimes called DMA or “naked access.”
DMA is a controversial practice where high-frequency trading firms and others use a brokerage’s identification to submit orders directly to capital markets.
The monitor idea is still in a very early stage of thinking but is consistent with DTCC’s mission, Susan Cosgrove, the head of DTCC equities clearance and settlement, told Reuters.
“We’ve been hearing from a handful of firms. It certainly seems to be bubbling up,” Cosgrove said, adding that no plan has yet been defined or analyzed by the member-owned DTCC. The plan would aggregate transactions from the more than 40 market centers, and make it instantly available to brokerages.
The DTCC, seen as a secure but bureaucratic entity, may have to convince regulators and the market it could effectively contain a major trading malfunction.
The U.S. Securities and Exchange Commission is looking into DMA and wants broad standards for the way brokers monitor the firms they sponsor no faxing pay day loans. It has yet to formally propose rules.
Trading protections and position limits are already in place, but they vary among the brokers and between the venues.
Talks have so far centered on a proposal by Nasdaq OMX to adopt pre-trade surveillance rules for brokerages, which could slow DMA firms’ path to the markets. The DTCC would serve as backstop protection after the trade is executed, under the new plan.
“There’s increasing pressure (for) real time review of the trade before it gets sent in,” said Robert Colby, former deputy director of the SEC’s trading and markets division, who is now Washington-based counsel at law firm Davis Polk & Wardwell. “Some brokers don’t want to do it because it might slow the trade down and they’re afraid they’ll lose customers.”
Jeff Bell, executive vice president at broker-dealer Wedbush Securities, which clears trades for big high-frequency firms, this summer proposed the idea to install DTCC as monitor of the highly fragmented stock markets.
“One of the key elements to our thinking is that the risk controls should be placed throughout the whole ecosystem,” said Bell, who heads clearing and technology at Wedbush, a DMA provider and Nasdaq’s top liquidity provider since 2006.
“There is some concern about new entrants (trading firms) and the pressures that creates from a risk management standpoint,” added Bell, who also sits on a DTCC operations committee, but does not speak for the clearinghouse.
Filed under: economics by Specialist