Exchanges around the world should discourage market participants from “creating excessive low-quality” messages that can clog trading networks, two trade groups representing automated trading firms said this week.
Excessive messages, such as a flood of buy or sell orders and then cancellations, “can negatively impact both exchange and customer bandwidth and systems,’’ the Principal Traders Group and the European Principal Traders Association said in response to a Consultation Report from the International Organization of Securities Commissions on the impact of technology on market integrity and efficiency.
The comment comes as the Securities and Exchange Commission, a member of IOSCO, considers placing fees on traders who place and cancel thousands of orders in a second.
The practice of sending and cancelling thousands of orders per second is known as “quote stuffing’’ and is purportedly practiced by some high-frequency firms.
The Principal Traders Group and its European cousin – both affiliated with the Futures Industry Association -- represent firms that trade on their own capital.
The firms engage in automated, manual and hybrid methods of trading, including high-frequency trading tactics. They include the Global Electronic Trading Company better known as GETCO and Quantlab Financial, but not all members are high-frequency traders.
The two traders groups said, in their response to the IOSCO report that a good example of “a creative,non]prescriptive, and effective approach to curtailing superfluous bandwidth usage” is IntercontinentalExchange’s “Weighted Volume Ratio” (“WVR”) messaging rule.
ICE’s WVR accomplishes all of this by defining a ratio between the number of messages (new orders, cancels, modifies, etc.) an electronic trading system (“ETS”) sends and the total volume of orders the ETS executes. If an ETS exceeds the posted WVR limits, the ETS’ owner is fined. If this behavior continues, the ETS’ owner faces possible suspension of direct market access privileges.
The truly creative part of this solution is that ICE assigns a weighting scale based on the message’s price level relative to the current best bid and offer. If the order in question has a price equal to the best bid or offer, the message does not count towards the WVR.
If it is one tick away from the best bid or offer, the message has a weighting multiplier of 0.5 for orders on outright futures and 0.25 for spreads. This multiplier continues to increase until the order in question is more than five ticks away from the best bid or offer. At that point, the message has a weighting multiplier of 3.0 for outright futures and 2.0 for spreads.
By imposing the WVR, ICE has simultaneously incentivized firms to submit orders that are likely to be filled while penalizing firms that submit orders that are unlikely to be filled.’’
Enforceing such “order-to-trade ratios,’’ though, should be left to venues and trading firms, the groups said.
Some alternative venues in Europe, known as multilateral trading facilities, for instance, the groups said, could be harmed.
Many exchanges already have order-to-trade ratios in place, the groups said. But “many of the MTFs in Europe attempting to compete with the incumbent exchanges tend to have no order-]to-trade ratios in place as their technology tends to be more advanced.”
In such cases, the principal traders argued, “enforcing an order]to-trade ratio would therefore be distinctly anti]competitive as it would virtually kill any new initiative to start a new exchange.’’
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