Risks around the use of automated trading were addressed and some of them were set aside, as the discussion become more focussed, including a contribution from a star of ‘Flash Boys’.
Following the questions raised on Day One about the risks that high-frequency trading posed to investment managers, Day Two promised some answers of a kind. Francois Bonin, CEO of John Locke Investments put the case for ‘ethical’ trading forward, in the presentation ‘Ethical trading for end investors: How to stop the latency race’.
He began by qualifying the title; “Not all high-frequency trading is bad,” he said, “and one should start a discussion from a neutral position before exploring the issues. So HFT is not necessarily bad but it is coming to the point where it is becoming ridiculous.”
HFT is a natural evolution of the trading world he said. Trading faster on the information available has always been an aim of the trader. What has changed, is how that speed is being used.
“One can arbitrage the Mini S&P futures against its exchange-traded fund, the SPDR,” Bonin said. “These two instruments represent the same underlying and so if there is any parting in price, there is an arbitrage opportunity and in today's world the fastest to observe it and to capture it will make the money. That is leading to a problem, it leads to thinner liquidity in the market.”
His solution was for exchanges to stop offering continuous trading and instead to offer frequent auctions, every minute, which would close their doors and then trade based upon price rather than arrival time, removing the advantage that speed otherwise confers.
Tools that the sell-side can offer to the buy-side to support execution were then discussed on the panel debate ‘How should the broker service model change to integrate high and low touch tools and to meet traders’ needs?’
Vincent Mooijer, senior equity trader, at asset manager PGGM, said, "There have been a lot of changes in the buy-side; we now have all of the power on our desktop to make the trades ourselves; then we have more cost awareness and at the same time everybody has to do more with less. As a result the buy-side and sell-side have to examine the way that their partnership functions and asset managers must be clear about what they need [from brokers].”
Gianluca Minieri, global head of trading at Pioneer Investments Management, concurred, saying; “The buy-side is taking more control. We expect more transparency from our broker on where they execute orders. At the same time the sell-side have budget constraints, they are reorganising their team, so there is a rethinking of our relationship.”
Mooijer added that the frustration he faced was to avoid any information leakage at a broker, he would split orders across high-touch voice trading and low-touch electronic trading but then he did not get access to all of the liquidity or knowledge in a firm.
“I am looking for mid-touch where I get knowledge of a high touch guy but with access to electronic trading,” he said. “One broker offered a ‘high-touch button’ on their desktop but if you used it you had to call the high-touch desk so it was not properly integrated. I don’t want to shop around in a single broker for the best price, I want that integration.”
Brian Pomraning, EMEA Head of Electronic Client Solutions and Liquid Markets Products, JP Morgan, said “In many cases amongst sell-side firms fiefdoms have developed; we’ve made some major strides in that respect so it doesn’t matter how you pay the firm, you still get access to many of those execution channels.”
Alex Foster, Global Head of Strategy & Business Development at BT Financial Technology Services, BT said, “We have looked at how it is possible to integrate high-touch and low-touch services and we are launching the BT Netrix HiTouch product which is that wonderful trinity of human interaction, with all of the applications and feeding back into the cloud environment to negotiate with other parts of the desk, so you get that richness of interacting with the local guy and with a local feel.”
The chair, Richard Balarkas of Quendom Consulting, noted that one ought to get more liquidity by accessing both high and low touch channels, unless there is a conflict of interest at the broker, and therefore it ought to be the normal model for broker interaction, and yet it was not.
“Why not?” he asked.
Minieri replied that to interact with natural order flow his firm had to use dark pools or find natural blocks as brokers were using a technology to create a “shell of volume” that could not actually be traded. The primary offense was issuance of false ‘indications of interest’ (IOIs) that did not represent real order flow.
“The number of fake IOIs is phenomenal,” he said.
“IOIs are the junk mail of the industry,” agreed Pomraning. “It’s very difficult to identify which are good and which are not. In fact the Bloomberg terminals now have a feature to filter out which are actionable and which are not.”
The next presentation was from Michael Aitken, chair of Capital Market Technologies (CMT), University of New South Wales, Australia, who demonstrated a system that CMT had developed for regulators, to categorise the impact of market changes.
"It identifies all market design changes over a ten-year period, it then sources tick data, intraday trade price and information announcements for these markets over that period,” he explained. “This data is then used to build metadata in the form of metrics that represent fairness and efficiency. Finally all of these elements combined to create a software as a service module accessible via the internet.”
He was followed, appropriately, by a fractious debate amongst representatives of the European Commission, the European Securities and Markets Authority, the Autorité des Marchés Financiers, Deutsche Börse, and the Investment Management Association, which chair Richard Balarakas used to establish that there was no effective definition of dark trading, therefore no measure of it and therefore no clear impact of rules attempting to limit it.
An unexpected highlight of the event was provided by Ronan Ryan, chief strategy officer at IEX, the subject of Michael Lewis’ book ‘Flash Boys’ who was interviewed via Skype in a last minute addition to the programme.
He noted that regulators had a hard time when designing market rules; they could not have predicted that the regulation intended to offer the best price to investors, with a 2-3000 millisecond data feed, would result in firms co-locating their trading systems next to the sources of data so they can know the market “in sub-200 microseconds.”
IEX’s technology set-up would prevent that from happening, which Lewis notes in his book prevents the front-running of trades that are sent to multiple trading venues at different speeds, allowing HFT firms to learn about an order when it arrives at one market, and then to front run the order at all of the other markets.
“We don’t allow anyone to co-locate next to us,” says Ryan. “You can have a latency race to get to our front door but then we carry the order for 350 microseconds into our matching engine, and then there is a 350 microsecond delay for you to receive the acknowledgement. That allows us to price the market fairly. We are always going to be faster than anybody who is trading on our market.”