Asic calm over HFT impact but Australian buy-side lobby groups disagree

Securities regulator says it's taken an active approach to managing HFT risks but industry groups argue more needs to be done

Australian market participants are split on the impact of high-frequency trading (HFT) as the Australian Securities and Investments Commission (Asic) has rejected any suggestions that HFT is a problem within the local market.

In the past two months, HFT has generated concern among investors and gained significant media attention following the release of Michael Lewis's book Flash Boys. However, Asic argues that while the US and Australian markets do share similarities, they are regulated differently. Unlike in the US, the Australian regulator has actively discouraged maker-taker pricing – a structure that rewards market-makers with a rebate for providing liquidity and charges the 'takers' of liquidity in the form of a trading fee.

"Asic's lack of hysteria regarding high-frequency trading should not be mistaken for complacency. Asic has actively engaged with the evolution in the electronic marketplace including high-frequency trading, algorithms and automated order processing," the regulator said in its latest market supervisory update.

"We have taken a proactive approach to ensure we have a regulatory framework that can deal with the technological advancements that exist in our market. It is an approach that consults with industry, considers longer-term trends, conducts in-depth analysis, and provides for a bigger picture solution to changing market issues – rather than merely imposing more regulation," the regulator added.

Vanguard's Melbourne-based head of investments for Asia-Pacific, Rodney Comegys, agrees with this assessment and says that Australia's market structure is different from that of US markets and not as susceptible to disruptive high-frequency trading behaviour.

"HFT plays a role in modern Australian equity markets and as a result, interacting with it cannot be avoided entirely. It is important to recognise that not all HFT activity has a negative impact on long-term investors," he says.

Asic established a task force to look at investor concerns in 2012, with a report released in March 2013 finding that there were no major concerns regarding HFT within the Australian market.

However, according to Zachary May, director of policy at Industry Super Australia, a trade body, the study was focused more on risks posed by HFT to the market such as a flash crash rather than taking into account the cost and fairness to an investor.

"Market fairness is our greatest concern – are the financial markets and equity markets a level playing field? Sadly the answer is no and I don't think any long-term investor would have said to the ASX or Chi-X we want you to build a market infrastructure that responds to orders in 300ms or less," he says.

Our understanding is that a trader co-located with the ASX can respond to orders within 300 microseconds while it takes about 27,000 microseconds just for information to travel from Sydney to Perth, May points out.

"There is no way an investor or broker-dealer in Perth can see what is happening in the market because the orders are coming in and being responded to faster than it would reach someone on the other side of the country," he says. "You cannot engage in selective disclosure if you are a listed company. You make your disclosures to the market as a whole rather than telling some investors the results ahead of others. In the world of market structure however, that is the norm and some people receive data faster than others and can act upon this quicker."

In order to level the playing field, Industry Super has suggested that call auctions be implemented where orders to buy and sell are aggregated over a period of time and executed at once using an algorithm to find the price at which the maximum volume of orders is executed.

"This ensures everyone gets the same price and in this way you have incorporated all the information available during the call period. It makes the market less susceptible to systemic risk," he says.

Market participants also agree that more study and information is needed on the impact of HFT on markets. The first step in this process is the introduction of client identified orders as part of the market integrity framework to be introduced by Asic in October this year, says Michael Aitken, chief executive of the Capital Markets Cooperative Research Centre (CMCRC) in Sydney.

"Most HFT is good for the marketplace – however there are a few bad apples. How you take out the bad apples is to implement client identified orders so we know who the trader is. The problem with HFT is it doesn't answer the question of who is trading and how," he says.

Aitken says there is a need to identify every trader so that the regulator can start to find out whether traders are making money by illegal or inappropriate means.

"Until we have client identified orders we will never truly be able to understand how HFT is affecting the marketplace," he says.

May at Industry Super also believes that more study into the impact of HFT on the Australian market is needed.

"The issues of cost and fairness need to be looked at further. However it is impossible to assess this with certainty without audit trail data and that is not public. The regulators are the only ones with access to this data," he says.