The equities markets, in the wake of May 6, seem ripe for change.
But the industry better consider carefully any tweaks or alterations it plans to make, said two electronic trading executives at UBS. Such changes could have a dramatic effect on how the industry trades.
At a press briefing in UBS’s office in Midtown Manhattan, Owain Self, who runs global algorithmic trading, and Charles Susi, who runs electronic trading in the Americas, outlined the pros and cons of some of the more prominent issues occupying regulators, market centers and broker-dealers. Among the issues they discussed were whether the maker-taker model at exchanges has been good for the markets and how to address the rising level of quote traffic away from the bid and offer.
Accusations, speculation and relatively esoteric concepts–such as "stub quotes" and "quote stuffing"–have surfaced as regulators and others have pored over market data to find causes for the turbulence on May 6. Self and Susi said the market structure’s increased complexity would likely complicate any solutions.
For instance, the maker-taker model of fees and rebates at the exchanges has given budding market centers the ability to attract liquidity, innovate and grow, Self said. Without any pricing power, new market centers would be unable to compete with their larger or more established brethren, he added.
At the same time, the maker-taker model–and the significant spread between make rebates and take fees–has also led to the rise of dark liquidity and flash orders. Traders explored different ways to avoid paying take fees, Susi said.
They cautioned against regulators forcing exchanges to eliminate maker-taker or requiring them to have "make" rebates and "take" fees to be the same. Either would likely widen spreads and shrink trading volume, Susi said.
"Competition and innovation have a positive net benefit for the markets," Self added. "But you need to have the right constructs around it that make sure it can work."
Maker-taker, though, was only part of what they addressed. Self and Susi also discussed the Securities and Exchange Commission’s review of the enormous amount of quote traffic away from the inside market to determine if the practice is harming the markets.
SEC Chairman Mary Schapiro has raised the subject of requiring a minimum "time-in-force" for quotations to ensure that large amounts of orders are no longer sent and then immediately canceled. The practice may affect price discovery, Schapiro said in a speech earlier this month at the Economic Club of New York.
Self and Susi agreed with her analysis. Something needs to be done to lessen the excess noise that so much message traffic generates, Self said. But, the two emphasized, the excessive traffic was not affecting UBS’s systems significantly.
"At the end of the day, it’s CPU [central processing unit] power," Self said. "And the more it’s used, the more it affects every other user, like any utility."
The question of a time-in-force solution, though, presents issues, Self said. Time in force refers to requiring quotes to be posted for a minimum amount of time. That minimum time cannot be too stringent so that it thoroughly hamstrings traders, he added.
Instituting a time-in-force for quotes that lasts through the trading day–as in some emerging markets–would be too limiting. Traders who wanted to change their minds throughout the day could not cancel an order. They’d be reduced to either improving their limit or increasing the size, Self said. At the other extreme, putting an order on the exchange for only 10 microseconds is ridiculous, he added.
"No one can react to that quote and respond to it in that timeframe," Self said, "so they obviously had no intention of actually trading. Their intention was something else."
Having an order on an exchange for, say, 50 milliseconds is not a huge amount of time, Self said, as it can be canceled 20 times in a second. That time-in-force minimum would affect a segment of the high-frequency traders at the extreme end, and not the entire industry, he added.
