High-frequency trading firms conduct transactions with themselves in ways that distort liquidity and prices in derivatives markets and warrant additional regulatory review, according to U.S. Commodity Futures Trading Commission member Bart Chilton.
So-called wash sales, in which a party buys a contract from itself, are occurring even though they violate regulations set by the CFTC, CME Group Inc. and Intercontinental Exchange Inc., Chilton, one of three Democrats on the five-member commission, said in a speech prepared for a National Grain & Feed Association conference today in San Francisco.
Wash trades produce artificial liquidity that can distort prices or perceptions of supply and demand in the market.
“In voluminous instances these cheetahs are engaged in this activity,” Chilton, 52, said in the remarks, likening high-frequency traders to the world’s fastest mammals. “When they do so, it might appear to be liquidity, but it is not. It isn’t really there. It’s fantasy liquidity.”
The CFTC and Securities and Exchange Commission have increased their focus on high-frequency and algorithmic trading since May 6, 2010, when about $862 billion was erased from stock values in 20 minutes before share prices recovered from the plunge. Regulators have expressed concern that some firms and electronic exchanges don’t have enough control over trades or technology glitches that could roil markets.
Regulators have been scrutinizing wash trades since the middle of last year as part of its study of automated trading, two people with knowledge of the matter said in June. High-frequency trading will represent 52 percent of U.S. stock trading this year, Tabb Group LLC estimated in a January report.
The SEC on March 7 voted unanimously to propose rules requiring exchanges and other electronic-trading venues to maintain technology systems against disruptions and report any outages. It was the first planned update of standards in 22 years.
The CFTC also has been considering whether to issue a so-called concept release, a step prior to formal rulemaking that could lead to new testing, supervision and oversight requirements for high-frequency and automated trading.
In the speech, Chilton said that wash trades require review. “We need to ensure that we have the correct policies and procedures in place.”
In high-frequency trading, computer algorithms buy and sell stocks in fractions of a second. Getco LLC and Citadel LLC, both based in Chicago, and New York-based Virtu Financial LLC are among the biggest automated-trading firms.
Exchange operators including Nasdaq OMX Group Inc. and NYSE Euronext have started services to help firms avoid accidental wash trades.