Divisions emerge over HFT
Published: November 3 2009
By David Oakley
The debate over high-frequency trading intensified on Tuesday as a UK policymaker became the first to voice concerns in Europe over the use of powerful computer algorithms to buy and sell shares.
Lord Myners, the UK’s financial services minister, warned that the new nano-second trader, who often switches millions of dollars in and out of stocks quicker than the time it takes to blink an eye, could damage companies.
The issue of so-called HFT has already sparked concerns in the US, where the Securities and Exchange Commission, the regulator, has launched an inquiry into this ultra-fast form of trading.
US lawmakers also said last week that the SEC should be empowered to shed more light on HFT.
The European Commission and the UK’s Financial Services Authority are monitoring this form of trading but have not launched fully fledged inquiries.
Lord Myners said on BBC Radio 4: “The fact that people can own shares for nano-seconds seems completely divorced from the concept of a joint stock company and distributed share ownership.
“The danger is that nobody really seems to think of themselves as owners. It has gone too far. It has now lost its supporting function for the provision of capital to business and has become a game to be played.”
His comments exposed the broad divisions over HFT between market participants, such as banks and investment funds, and the corporate world.
On one hand, the banks and investment funds say computer-driven trading makes the markets more liquid and efficient. It also helps them earn profits from market imbalances and tiny arbitrage spreads.
On the other hand, corporate executives warn that these short-term investors do not care about a company’s long-term future.
The increased liquidity can lead to more volatility and uncertainty, which is destabilising for a company.
The rise of HFT reflects the big changes that have swept through the equity markets during the past decade.
Before the changes, market-makers shouted orders across the trading floor and quoted prices.
Today, technology is increasingly taking over, with HFT accounting for 70 per cent of US equity market volumes.
It is also rising fast in Europe, where volumes have jumped to 35 per cent, according to a report by Rosenblatt Securities.
Dorien Fransens, secretary-general of European-Issuers, a trade body that represents companies across Europe, says: “The problem is that most capital market players have an eye only for the functioning of markets, hence liquidity is like the holy grail for them.
“But we need limits when liquidity becomes so extreme that it stops to have beneficial effects and becomes detrimental.
“Companies and long-term investors suffer from it as it creates uncertainty and a group of investors that are not interested in the company, only quick profits.”
However, Giles Nelson, director of strategy at Progress Software, which produces software for computer algorithms, counters: “More liquidity has to be a good thing. It means the market is more efficient, it creates price transparency.
“The markets have also become more electronically driven over the past 10 years. That is evolution.
“If a company does not like the idea of a large pool of investors using algorithms, then they don’t have to list. They can stay private.”
Beyond corporate governance and worries over volatility and uncertainty, there has been criticism that HFT creates more opportunity for market abuse, where dealers build up big positions to influence the price, then sell for vast profits.
There is also a concern that computer-driven trading is harming the smaller investors, typically retail funds, which lack the fire-power to compete with the big institutional buyers.
However, Dr Nelson says: “It is true to say that traders with the software for high-frequency trading have a bigger gun, as it were, to build up positions.
“But you have to remember that the regulators, such as the FSA, use the same technology for surveillance to stop market abuse. That evens things up.”
Gary Jenkins, head of research at Evolution, adds: “It is now much easier for the smaller retail investor to buy and sell shares than it ever was. There is more liquidity and more transparency, which is a plus for the small investor.
“But, the big point to make, is that the clock cannot be turned back. Electronic and high-frequency trading is here to stay and it was certainly not the cause of the financial crisis.”
Additional reporting by Nikki Tait and Jeremy Grant in Brussels
Copyright The Financial Times Limited 2009.
