Hong Kong Wants Stock Trading Limits to Combat Fat Fingers, Rogue Algorithms

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Ashley Alder
Securities and Futures Commission CEO Ashley Alder. Photographer: Jerome Favre/Bloomberg

Hong Kong’s markets regulator will back a plan to stop fat fingers and rogue algorithms from causing erroneous swings in the city’s biggest stocks.

The Securities and Futures Commission will support Hong Kong Exchanges & Clearing Ltd.’s proposal to prevent individual equities from moving more than 10 percent within a five-minute period. Under the planned change to HKEx’s rules, any order that causes a stock to climb or drop more than 10 percent will be rejected, and a cooling-off period will begin.

The exchange operator outlined its idea, which it calls a volatility-control mechanism, in a January consultation paper and plans to publish responses to that document before the end of June. Swings in Hong Kong shares have come under greater scrutiny in the past month amid rapid tumbles in Hanergy Thin Film Power Group Ltd. and Goldin Financial Holdings Ltd.

“Broadly we are supportive” of HKEx’s proposal, Ashley Alder, the Securities and Futures Commission’s chief executive officer, said in an interview in Hong Kong. “The volatility-control mechanism is more about fat-finger issues, algos going wrong and other types of mistakes.”

When a stock suddenly spikes or slides, errors are sometimes to blame. These could be typographical mistakes known as fat-finger trades, or computer algorithms that make poor choices when executing a transaction. Many blame a stream of orders at the wrong price for causing the precipitous May 2010 plunge in U.S. shares that came to be known as the flash crash.

Cooling Off

If multiple stocks or futures contracts become extremely volatile at the same time, the whole market can convulse. The absence of a second flash crash in the U.S. is attributed by some to the introduction of curbs similar to those proposed for Hong Kong.

HKEx, which has distinct morning and afternoon sessions, proposes to monitor every stock in the Hang Seng Index and Hang Seng China Enterprises Index, along with futures contracts based on the two benchmarks. The rule changes propose a maximum of two cooling-off periods per session with no trading breaks in the final 15 minutes of each session.

“The objective is to prevent major trading incidents such as the flash-crash incident in the U.S. market, and preserve market integrity,” Lorraine Chan, a spokeswoman at the bourse, wrote in an e-mail. “The volatility-control mechanism is not designed to control the ups and downs of individual stocks.”

Clear Positions

Having a couple of minutes of cooling off wouldn’t “really impact the overall working of the market,” said Herald van der Linde, the Hong-Kong based head of Asia-Pacific equity strategy at HSBC Holdings Plc. “I don’t think you would impact people being able to clear positions.”

HKEx has also called for daily closing auctions to be reintroduced for equities as early as next year.

Hong Kong Securities Association Ltd., which represents most of the city’s retail brokers, generally supports HKEx’s proposals, according to Chairman Jeffrey Chan. He voiced concern, however, that the cooling-off mechanism doesn’t impose the same limits on trading individual stock futures. That could lead to a divergence in the value of derivatives and their underlying assets, he said.

Market makers can ask HKEx to relax their obligations if this happens once the mechanism comes into force, the bourse said.

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