After being demonised as legalised insider traders and blamed for flash crashes globally and gaming the system, high-frequency traders (HFT) and dark pool operators dodged a bullet on Monday when the corporate regulator released a report that went relatively easy on them.
The report, based on the findings of two internal taskforces set up by the Australian Securities and Investments Commission, deemed public concerns over HFT as "overstated" and rejected claims that HFT exacerbate market instability.
It did, however, concede there was some basis for claims that HFT created "excessive noise" and exhibited "predatory or gaming behaviours".
To this end, it recommended a minimum resting time of half a second for small orders of $500 or less. How it decided on the $500 benchmark is hard to fathom but as one industry expert said "traders will get around this by changing the algorithm to $501".
The report made some interesting observations, such as that the value-weighted average holding period of securities traded by high-frequency traders, during the nine-month period analysed, was 42 minutes. But it qualified it by saying the holding times for individual securities and traders varied greatly, depending on the strategies, "risk tolerances" and signals. "Our analysis indicates that, in general, high-frequency traders do not trade (that is, open and close a position) within sub-second intervals. Only 0.1% of high-frequency traders had an average holding time of one second or less."
It based this analysis on 100 millisecond - one-tenth of a second - trades, which is pretty fast in the world of HFT where some trades are done at almost the speed of light.
Nevertheless, the recommendations undoubtedly prompted HFT and Chi-X to breath a sigh of relief given the bad publicity they have received in the past couple of years. Indeed, some believed a new tax would be imposed which could result in the demise of some of the traders.
Regulators around the world have been concerned that markets are being manipulated by computer trading, and many blame the May 2010 flash crash in the US on HFT. That was when the Dow Jones fell 1000 points, or almost 10 per cent, only to recover within minutes. Automated trading has grown rapidly in recent years as equity markets have fragmented across multiple venues and proponents of HFT say that more liquidity is being pumped into these venues, benefiting all investors.
In the US more than 50 per cent of stockmarket volume is now based on high-frequency trading, which involves trading shares in small parcels at speeds that are almost at the speed of light. In Europe, it is estimated at 37 per cent and in Australia, HFT is a relatively new phenomenon but some estimate that it accounts for more than 27 per cent of volume in the S&P/ASX200.
But the most bizarre aspect of the report is that despite the various conclusions and recommendations it makes, ASIC confesses that it is still grappling with a proper definition of what constitutes high-frequency trading. "We propose to settle and make public a definition of high-frequency trading for the purposes of an industry benchmark," the report says.
"We believe that this will allow investors greater ability to conduct due diligence when making trading and execution venue decisions, particularly about trading activity in crossing systems, where there are differing views about what constitutes high-frequency trading in a crossing system."
The report's stance on dark pools is tougher, which plays into the ASX's hands, as dark pools - other than its own - take trading away from the ASX, or the lit market. The regulator concluded that the growth in dark pools had resulted in a widening of bid-offer spreads on lit exchange markets for a number of securities, which is not good.
"There is also evidence that the quality of price formation has been adversely affected in securities with high levels of dark trading below block size," the report said. To combat some of the concerns, it proposes a minimum size threshold trigger for dark orders.
It also calls for better transparency in the market to help bolster market integrity. Unfortunately it stops short of reintroducing broker IDs.
Last month, I wrote that Coca-Cola Amatil boss Terry Davis was expected to call time at the end of the year. On Monday the company confirmed Davis will leave next year, after more than 11 years in the job.
Chairman David Gonski is said to be a strong believer in chief executives moving on after 10 years.