Back in October 2011, Zero Hedge was first to point out something previously unknown: a small, then-unheard of firm, managed to upstage none other than Goldman Sachs when it comes to total weekly program trading volume on the NYSE.
Since then Latour, an affiliate of Tower Trading, has emerged as one of the pre-eminent HFT powerhouses in NYC. As we subsequently learned, Tower Research - which is run by Mark Gorton of LimeWire fame - is a member of the upstart Modern Markets Initiative, a lobby firm whose stated purpose is focused on "demonstrating the benefits of algorithmic or quantitative trading, often referred to as high-frequency trading, in today’s modern markets."
It has failed to do that.
Instead, it has demonstrated, twice in the span of one year, that HFTs are nothing but two-bit, small-time criminals, intent on breaking all the rules, frontrunning clients, and otherwise abusing market ethics and norms.
In short: HFTs rig markets constantly, and what's worse: they are now getting so behind the curve, the SEC is catching them in the act on an almost daily basis.
Which brings us back to Latour and September 2014, when one year ago the SEC - in its first enforcement action against a high-frequency trading firm - charged Latour Trading for using faulty calculations in complex trading strategies that let it buy and sell stocks without holding enough capital. The firm at times accounted for 9% of all U.S. stock trading, according to the SEC's order.
As the WSJ reminds us, Latour, which didn't admit or deny wrongdoing, agreed to pay $16 million to settle the case, the largest penalty for a violation of the so-called net capital rule, the SEC said.
The net capital rule provides various methodologies that broker-dealers need to follow to make sure they are adequately taking account of the risk they are exposed to from their market activities. Latour routinely violated those requirements from 2010 through 2011, the SEC said.
Latour said it had "fully remediated the problems described in the Commission order, and we are pleased to put them behind us."
It was so pleased in fact, that it couldn't wait to get busted for more manipulation.
Fast forward to yesterday when the same Latour was found to have violated even more SEC rules – in this case the Market Access Rule and Regulation National Market System – over a nearly four-year period in which Latour sent millions of non-compliant orders to U.S. exchanges. According to the order:
- Latour shared portions of its electronic trading infrastructure with its parent company, Tower Research. Some Tower Research employees could change the computer code without Latour’s knowledge or approval. Latour’s procedures to prevent such changes from having unintended effects on Latour’s trading proved inadequate.
- In June 2011, Tower Research made a coding change that introduced an error into the shared infrastructure and, as a result, Latour sent millions of orders to exchanges that did not comply with the requirements of Regulation NMS. Some of these orders were executed, which led to Latour receiving gross trading profits and also rebates paid by stock exchanges.
- Latour lacked “direct and exclusive control” over its financial and regulatory risk management controls as required by the SEC’s Market Access Rule and did not have adequate post-trade surveillance tools to detect its non-compliant trades.
- After learning of the error, Latour corrected many of the issues by October 2012 and addressed the rest by August 2014.
Some more details:
According to the SEC’s order, from October 2010 through August 2014, Latour sent approximately 12.6 million orders for more than 4.6 billion shares that did not comply with the requirements of Regulation NMS. The orders at issue were intermarket sweep orders (ISOs), which trading centers may immediately execute at prices that might otherwise appear to violate Rule 611 of Regulation NMS. Rule 611 generally requires trades to be executed at the best available displayed price, but trading centers may execute ISOs immediately based on the ISO router’s obligation to send additional orders to execute against any better-priced displayed quotations. Chiefly because of the coding problem, Latour’s ISOs did not meet the requirements and caused more than 1.1 million trade-throughs (trades executed at a price worse than the best available price) and more 1.7 million locked or crossed markets (when the national best bid equals or exceeds the national best offer). Latour also sent non-compliant ISOs as a result of incorrectly relying on information about orders that Latour had previously sent. In addition to violations of the Market Access Rule, the SEC’s order also finds that Latour violated Rule 611(c) of Regulation NMS because it did not take reasonable steps to establish that its ISOs complied with Reg NMS.
How much money did Latour make?
"Latour sent nearly 12.6 million non-compliant ISOs between October 2010 and August 2014. These non-compliant ISOs caused approximately 1.1 million trade-throughs and 1.7 million locked or crossed protected quotations. Latour received $2,784,875 in gross trading profits and exchange rebates from its non-compliant ISOs."
So the "error" resulted in a magical $2.8 million in profits. Of course, this is only on the rigging that the SEC did catch. One can imagine how many millions in other profits Latour extracted by rigging the market and flaunting regulations, using illegal strategies that the SEC has no clue about. We doubt we will find out.
To summarize: mysteriously and "erroneously" a change in the company's code was made, which the firm lacked "direct and exclusive control" over, and which was non-compliant with Reg NMS requirements, yet which mysteriously ended up generating "gross trading profits and rebates by stock exchanges" amounting to $2.8 million.
Where have we seen this?
And that's what the secret sauce behind the HFT "wizards" that dominate the market has devolved to: a B-grade movie about two-bit crooks.
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Oh, what was Latour's penalty for getting caught rigging markets twice in one year? The answer: $8 million (following another $14 million settlement a year ago).
Not a single algorithm, or 21-year-old math PhD, was perp walked.