Ted Kaufman - United States Senator for Delaware

High-Frequency Order Cancellations Had No Role In May Crash, Exchanges Say

Source: Bloomberg

By Nina Mehta

October 13, 2010

Deliberate attempts by traders to overwhelm exchanges with orders played no role in the May 6 crash, operators of the biggest U.S. stock markets said.

“We have zero evidence of any quote stuffing,” Brian Hyndman, senior vice president for transaction services at Nasdaq OMX Group Inc., said today at a panel in New York arranged by the Capital Markets Consortium. “The majority of activity that occurred on May 6 wasn’t quote stuffing, it was quote withdrawals.”

The executives disputed speculation by Winnetka, Illinois- based market-data provider Nanex LLC, which said high-frequency traders who submitted and then canceled thousands of rapid-fire quotations on the New York Stock Exchange destabilized trading. A report by federal regulators said the plunge was triggered by the sale of futures contracts on the Chicago Mercantile Exchange that set off a chain of selling that bled into stocks and exchange-traded funds.

Some critics of U.S. market regulation weren’t satisfied by the Oct. 1 report by the Securities and Exchange Commission and Commodity Futures Trading Commission, arguing that predatory strategies by professional investors played a bigger role in the rout. While the study said selling was worsened by automated firms trading with one another, it placed no emphasis on the practice that has come to be known as quote stuffing, in which investors allegedly seek an advantage by delaying data feeds.

More Scrutiny

Democratic Senators Ted KAUFMAN from Delaware and Charles Schumer from New York have called for more scrutiny of the high rate of canceled orders since Nanex began publishing reports in June about spikes in quotation data within fractions of a second. Data technology companies that identify trading-message delays on exchanges have tracked sudden spikes, or micro bursts, of quote volume for several years.

“I’m less interested in whether someone is doing it intentionally or not,” Nanex founder Eric Hunsader said in an interview today. Rather, Nanex is trying to highlight the danger posed by rapidly canceled orders on exchanges’ ability to produce timely data. “The system can’t handle the growth we’re seeing,” he said.

The NYSE experienced record quotation traffic and “significant delays” in the dissemination of data on May 6, according to the SEC and CFTC report. No evidence was found that delays led to price declines since most high-frequency firms -- the providers of the bulk of liquidity in the market -- use private data feeds from exchanges instead of publicly available information. Regulators said the delays may have exacerbated concern about the accuracy of prices, encouraging liquidity providers to reduce their trading.

No Evidence

The evidence doesn’t support claims that delays “triggered or otherwise caused the extreme volatility in security prices observed that day,” regulators wrote. “Our investigation to date reveals that the largest and most erratic price moves observed on May 6 were caused by withdrawals of liquidity.”

NYSE was in the process of upgrading data systems on May 6, the report said. For more than five minutes starting at 2:44 p.m. in New York, its quotes in 1,665 securities were delayed by 5 to 20 seconds or more. Quotations in the same securities disseminated through its private feeds had an average delay of .008 second, the report said. Nanex compiled information about specific delays on NYSE before the SEC-CFTC report.

‘Level of Accuracy’

“There’s a level of accuracy in the Nanex report in that there were quote delays on May 6 through the consolidated feeds,” said Joseph Mecane, co-head of U.S. listings and cash execution at NYSE Euronext, which owns the New York Stock Exchange. “NYSE had some quote delays on that day because of the spike in message traffic.”

Less convincing are “allegations about people intentionally trying to gum up the works without any evidence,” Mecane said. Executives at Bats Global Markets and Direct Edge Holdings LLC, the third- and fourth-biggest American equity exchanges, said their venues saw no sign of abusive quoting activity on May 6.

“We look at things like quote-to-trade ratios, we look at message traffic,” said Joe Bracco, vice president at Bats in Kansas City, Missouri. “We haven’t seen any impact on our system as a result of these high message rates that Nanex is claiming.”

Direct Edge didn’t observe “any obvious signs of bad behavior or so-called quote stuffing,” according to Bryan Harkins, head of sales and strategy at the Jersey City, New Jersey-based company.

Big Problem

“If it’s not intentional, it sure is one heck of an accidental problem that no one seems to be learning from or doing anything about,” Hunsader said today. He added that the quoting behavior he identified has stopped and started again on different exchanges since May 6 and also occurred before then. “It looks like somebody is aware of it,” he said.

Hunsader added that the reports his company produces are neutral and based on facts. “No one has said, ‘Your data is wrong,’” he said.

Hunsader and other critics of U.S. market structure have urged exchanges to adopt a fee for quote cancellations that exceed a certain rate and said bids and offers should remain available to investors for a minimum amount of time. Such initiatives may curtail the ability of firms to submit and cancel orders rapidly, Hunsader said.

Regulators and exchanges should be “careful about the problem we’re trying to solve with any of those initiatives,” said Mecane of NYSE. “They lend themselves to pendulum-type consequences” that could push liquidity out of the market as firms opt to avoid risks they can’t manage.

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