High-Frequency Probe’s First Target Is Barclays

New York Attorney General Eric Schneiderman’s 10-month investigation into high-speed trading has so far led to one big target: Barclays Plc.

Almost a year after New York’s top cop made a splash with subpoenas of six high-frequency trading operations, the names of some of these firms cropped up in documents filed this week in the state court in Manhattan. The firms aren’t defendants, though. They are listed as part of Schneiderman’s proposed updated complaint against Barclays, which ran the private trading venue, or dark pool, where these firms traded.

Schneiderman’s suit doesn’t allege any wrongdoing by the high-frequency trading firms. Its focus, instead, is whether Barclays lied to its customers about what HFT firms were doing inside Barclays’s dark pool, one of Wall Street’s largest in-house trading platforms.

“High-frequency trading and dark pools are legal businesses and can be beneficial to the market,” said Deborah Meshulam, a partner at DLA Piper who specializes in securities enforcement. “Unless there are changes in the regulations, then it is hard to say just how many high-frequency-trading related cases will come to light.”

Dark pool trading accounted for 15 percent of total U.S. volume in the third quarter, according to latest figures from research firm Tabb Group.

‘Flash Boys’

In March, Schneiderman’s office announced its probe into whether U.S. stock exchanges and alternative venues, also known as dark pools, provide high-frequency traders with an improper advantage. That same month, Michael Lewis’s “Flash Boys” spurred a national debate about whether some firms were gaining an unfair edge by using high-speed computers that run hundreds of trades in the blink of an eye, using proprietary algorithms. Regulators began looking into whether the practice could be used in ways that are illegal.

The HFT firms that Schneiderman’s office subpoenaed in April included Jump Trading LLC, Chopper Trading LLC and Tower Research Capital LLC, a person familiar with the situation said at the time. By all appearances, the attorney general was zeroing in on high-frequency trading firms.

On Wednesday, as Schneiderman, a Democrat, sought permission to file an amended suit against Barclays, he showed his office’s focus is elsewhere, at least for now. Barclays -- not the HFT firms -- was accused of wrongdoing.

“The amended complaint merely repackages the same flawed arguments that were in the original complaint,” Mark Lane, a Barclays spokesman, said in an e-mail. “While we continue to seek to cooperate with the New York attorney general in this matter, we will continue to defend vigorously against these allegations.” Barclays filed a motion to dismiss the case.

Misleading Customers

Barclays was misleading its dark pool customers that it was monitoring and suppressing “predatory” trading by such firms, while simultaneously soliciting business from those firms, according to the complaint.

“Our investigation into the unfair advantages enjoyed by high-frequency traders is broad and ongoing,” said Matt Mittenthal, a spokesman for Schneiderman.

“We will continue to root out fraud and illegality in this area, whether it’s an alternative trading venue that lies to clients to benefit high-frequency traders, or a subscription service like Thomson Reuters that gives a special advantage to elite traders over the rest of the market,” he said.

Financial information provider Thomson Reuters Corp., in a 2013 deal with Schneiderman’s office, agreed to stop feeding consumer survey data from the University of Michigan to certain high-frequency traders two seconds before other investors. Thomson Reuters competes with Bloomberg LP, the parent of Bloomberg News.

Martin Act

Schneiderman filed his suit against Barclays under the Martin Act, an almost century-old law that gives him broad powers to root out corporate fraud.

In the past year, prosecutors and regulators have scrutinized dark pools and high-frequency trading in an attempt to level the playing field in the $23 trillion U.S. stock market. Market regulators and enforcement agencies including FINRA, the Securities and Exchange Commission and the Justice Department, as well as members of Congress, have all said they are looking into aspects of high-frequency trading. And while many of them see the practices as unfair, the investigations haven’t unearthed significant illegal activity.

Since “Flash Boys,” the SEC has faced claims the agency failed to police exchanges and allowed speed traders to put other investors at a disadvantage. Many of the rules that were put in place in the past decade by the securities regulator are blamed for allowing the HFT industry not only to survive, but to thrive. This has made it harder for the agency to defend itself in the debate and attempt to reform the structure of the market.

SEC’s Challenge

“Policing HFT firms can be more of a challenge for the SEC because many of them are not registered as broker-dealers, which would allow the SEC to examine them,” said Lee Schneider, an attorney at Debevoise & Plimpton LLP in New York.

SEC Chair Mary Jo White, who said in June that the growth of “dark trading” is harmful to markets, has pledged to tackle the issue. The agency has said that a panel will advise on dark pools, high-frequency trading and conflicts of interest in the routing and execution of stock orders.

The SEC announced its first market manipulation case against a high-frequency trading firm in October after Athena Capital Research LLC agreed to pay $1 million to settle allegations it tried to influence closing share prices in the market.

The case is New York v. Barclays Capital Inc., 451391/2014, Supreme Court of the State of New York, County of New York (Manhattan).