SEC Exposes HFT Churning, Or How 27,000 Trades Result In 200 Buys

The SEC's entire worthless report, which is nothing but a failed attempt to distract the general public from the fact that the primary reason for the collapse on May 6 is HFT... and the SEC itself, of course, for having allowed HFT's encroachment to the current levels of market dominance, does probably the best job we have seen of exposing High Frequency Trading for the hollow stock churning operation it is. From the report: "Still lacking sufficient demand from fundamental buyers or cross-market arbitrageurs, HFTs began to quickly buy and then resell contracts to each other – generating a “hot-potato” volume effect as the same positions were rapidly passed back and forth. Between 2:45:13 and 2:45:27, HFTs traded over 27,000 contracts, which accounted for about 49 percent of the total trading volume, while buying only about 200 additional contracts net." In other words, the ratio of "volume" to actual liquidity was about 135 to 1. In other words, all HFT does, is provide volume, and actually take away liquidity as HFT's illegal sub-pennying practices pull limit bids and offers that otherwise would exist. It is time to pull the bloody plug on all the computers already.

For all those who look at the market volume each and every day and believe that high volume is equivalent to liquidity, and thus stability, you are all in for a rude surprise then next time some fund decides to trade on an algorithm that is actually perfectly normal, but suckers in the HFT piranhas to jump in a frenzy of forward feedback loops and bring true liquidity to a halt. 

And here is Themis Trading's Initial response to the Flash Crash:


Today the staffs of the CFTC and SEC issued their report, “Findings Regarding the Market Events of May 6, 2010,” [1] to the Joint Advisory Committee on Emerging Regulatory Issues.  We want to commend the CFTC and SEC staffs for their work in dissecting the events of that day.

Our initial takeaways:

  1. While we believed the report would include a beefy section outlining how regulators will fix market structure weaknesses, the report appears to be a first step, and as such, is only an analysis of the events of May 6th.
  2. There were two crises in liquidity on May 6th.  The first started in the E-Mini futures, and the second was the spillover into the equity markets.
  3. The crisis in the futures markets started with a large sell order that was executed by an algorithm, which accelerated selling by design as liquidity and bids diminished. It continued and accelerated to the downside as HFT firms, who originally supplied liquidity by buying, turned around and became net sellers in a game of “hot potato.”
  4. The crisis spilled over into equities, as HFT intra-market arbitrageurs laid off risks in ETFs and the equity markets.
  5. In the equity markets, HFT market makers, who typically internalize order flow, reversed that pattern and instead routed nearly all, if not all, equity orders to the public system, rather than take the risk internalizing.
  6. Differences in data feed speeds between the public tape and the co-located tapes exacerbated the issues and created a cycle of selling downwards.
  7. Differences in halt/slow-down practices between exchanges also exacerbated the decline, as many market makers shut down due to the uncertainties surrounding:
  • The tape speed delays.
  • The lack of clarity on whether trades would be broken, and which ones.

8. The SEC is intent on the first line of defense being the circuit breaker program, perhaps modified with limit up/limit down collars.

9. The staffs also go out of their way to state that “fair and orderly markets” require a standard for robust, accessible, and timely market data. Going forward an area of focus will likely be market centers’ data processes, especially those involving publishing trades and quotes to the public consolidated feeds.

10. We had anticipated in our most recent white paper released last week that the core of any fixes would be coordinated circuit breakers with a limit up/limit down feature, and that is in fact where the staffs are leaning in this report. 

11. We see no mention at all of order cancellation fees, or addressing the validity of rebate maker/taker model, or fiduciary language, and that indeed leaves us all something to strive for in making our markets the fairest, most robust, and the envy of the world again.

We believe that with their actions, the SEC and CFTC has signaled a realization that certain regulations enacted over the past decade may have had some serious unintended consequences.

We encourage the SEC to go further with their reforms in order to restore our equity markets to their principal purpose of helping companies raise capital.  These will also protect investors and the public interest in connection with market trading activity.

Maintaining the integrity of this market is of the utmost importance to Themis Trading.  Our current market structure has unnerved traditional long term institutional and retail investors who are at the core of a fair and balanced market.

As the SEC stated goal says, “Where the interests of long-term investors and short-term professional traders diverge, the Commission repeatedly has emphasized that its duty is to uphold the interests of long-term investors.”