ESMA consults on HFT

Colm FurlongESMA has recently published a consultation paper on its proposed guidelines for “highly automated trading” – HFT, in other words.

The guidelines follow recent studies into HFT by the global regulator IOSCO (the International Organization of Securities Commissions) and the UK Treasury.

ESMA’s previously stated goal for dealing with the latest ‘bogeyman’ HFT-type activities was to provide specific guidelines on a raft of practices. Reading the paper, it appears that the goal posts have moved somewhat and that the focus is now on what is described as detailed guidelines.

ESMA refers to “issues related to organisational requirements in a highly automated trading environment, including DMA/SA services” (SA being Sponsored Access) which, as we all know, can mean anything that is systematic and trading our markets. It seems to me that this is based to some extent on the accurate identification of the continuing blurring of the lines between HFT practise and other high-performance DMA activities. Could it be that these folks are starting to understand things in a more sensible light?

They make a valiant attempt at clearing the fog with this neat definition of HFT (which only goes to prove that it is well-nigh impossible to define the three letter acronym’s meaning in one sentence): “Trading activities that employ sophisticated, algorithmic technologies to interpret signals from the market and, in response, implement trading strategies that generally involve the high frequency generation of orders and a low latency transmission of these orders to the market. Related trading strategies mostly consist of either quasi market making or arbitraging within very short time horizons. They usually involve the execution of trades on own account (rather than for a client) and positions usually being closed out at the end of the day.”

Now breathe! Actually, I think it’s a pretty good definition. Notably absent, I would suggest, is the identification of time and latency as critical factors in the trading strategy. In my view, while latency is always important (all the more so for DMA flows) it is not always part of the strategy.

When it comes to the use of algos, the guidelines outline a good approach to best practice in their deployment, providing a good primer for anyone thinking of putting an algo live. Detailed guidelines which are squarely directed at HFT provide a standout point about “arrangements to prevent the excessive flooding of the order book at any one moment in time, notably through limits per participant on order entry capacity”. This sounds sensible enough in a normal or even a volatile market but what happens when markets go down and everyone rushes for the exit at the same time? Many commentators believe it is only a matter of time before that scenario is played out so I guess they will all form an orderly queue for the fire exit while the building burns around them!

Another notable omission from ESMA’s paper is the lack of any prescribed conditions for the co-ordination of circuit breakers across markets in highly volatile conditions.

ESMA is inviting comments on the proposals by 3rd October. It will be interesting to see how things play out between now and the end of October when final guidelines are due to be published.

Read the paper here and related comments on efinancialnews.

2 Responses to “ESMA consults on HFT”
  1. Anne says:

    Points I took away from our review of this paper below:

    There is no legal requirement to adopt these guidelines.
    Guidelines may/may not conflict with MiFID II changes when they come. Participants are unlikely to make changes now and then again after MiFID II is implemented.

    Fidessa may be called upon to evidence our development practices/processes so our customers can evidence their adoption of the guidelines to the regulator – should be covered in existing SLAs, standards, contracts.
    Agreed we should review Fidessa out of the box algos in light of these guidelines. POV, TWAP and VWAP.
    Fidessa may need to provide test harnesses and test our shipped algos under ‘stress conditions’ if asked to do so by customers.

    The agreed approach is:
    Wait for customers to say if anything is required and build to customer requirements
    Wait for MiFID II
    If any customer asks; Fidessa is aware of these new guidelines.

    If anyone has other comments please let me know.

  2. Anne says:

    In an article in today’s The new European markets regulator is looking to introduce a three-month time frame early next year for brokers and trading firms to meet toughened guidelines on computer-based trading.

    The European Securities Markets Authority wants to publish recommendations that cover all aspects of automated trading, which accounts for an increasingly significant portion of average daily volumes on European markets, in the first weeks of January.

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