About a year ago, we wrote an article titled "How HFT Quote Stuffing Caused The Market Crash Of May 6, And Threatens To Destroy The Entire Market At Any Moment" in which we advanced the proposal, first suggested by Nanex, that while High Frequency Trading was the primary reason for the May 6 flash crash, it was a specific aspect of HFT that permitted the Dow to drop 1,000 points in the span of minutes, namely "quote stuffing", or the process of blasting millions of bids and offers without and interest in executing a transaction, merely as a fishing expedition to isolate any "whale" orders and to front run them, making a few guaranteed cents in the process even as this materially distorts true market depth, liquidity and overall stability. And while we were not surprised that the toothless, incompetent and corrupt US securities regulator did take a passing interest in the issue, the topic of "quote stuffing" has finally attracted the interest of US prosecutors. From Bloomberg: "U.S. prosecutors have joined regulators’ investigation into whether some high-speed traders are manipulating markets by posting and immediately canceling waves of rapid-fire orders, two officials said...Justice Department investigators are “working closely” with the Securities and Exchange Commission to review practices “that are potentially manipulative, like quote-stuffing,” Marc Berger, chief of the Securities and Commodities Task Force at the U.S. Attorney’s Office for the Southern District of New York, said today at an event in New York." But, the traditional red herring justification for this criminal behavior goes, they provide so much liquidity which would forever be gone if it weren't for the high freaks.
While regulators previously said they were probing possibly abusive algorithmic trading practices, the attention of criminal authorities ramps up the stakes.
The SEC and Commodity Futures Trading Commission sharpened their focus on technology-driven trading after the so-called flash crash on May 6, which temporarily erased about $862 billion from the value of U.S. equities in less than 20 minutes. Regulators have placed limits on price moves and proposed rules limiting other practices, and lawmakers banned “spoofing,” in which market participants try to trick other computers into making decisions that can be exploited for profit.
A joint SEC-CFTC report released in October found no evidence that the May 6 sell-off was triggered by manipulation.
The SEC last year established a market-abuse unit to investigate cases of manipulation. At the securities law conference in New York today, SEC Enforcement Director Robert Khuzami said investigators need better technology to adequately police markets and detect possible misconduct coming from high- speed and algorithmic trading.
“The question is, do we have enough transparency to detect wrongdoing if it was going on,” Khuzami said, adding that SEC investigators are probing other matters arising from the May 6 market crash.
This is all wonderful, although please wake us up when the SEC and/or regional DAs have actually put in one of the bigger hedge fund fish, instead of the 25 year old traders who only follow orders, and immitate what their bosses do. Until then we are a little skeptical anything will change.
Yet if it does, naturally, the elimination of HFT would remove opportunities for those who keep track of the weakest links in the market which provide easy ways to take advantage of algos gone wild. However since the trade off is a far more stable market structure, and one which may finally have a chance to revert to equilibrium pricing, the trade off of some return to fundamental analysis is more than worth it.