Stock Market `Tornado' Pressures SEC to Regulate Electronic Trading
U.S. regulators face pressure to show they have a grip on stock markets that are increasingly fragmented and dominated by computers after last week’s plunge fueled lawmaker concerns about electronic trading.
The Securities and Exchange Commission is already contemplating rules to address disparities between competing exchanges, even though it hasn’t said what caused the Dow Jones Industrial Average to fall more than 9 percent in minutes on May 6. SEC officials are discussing whether uniform curbs should be imposed across markets to slow trading during periods of cascading prices, two people familiar with the matter said.
“The SEC is under tremendous pressure,” said James Angel, a finance professor at Georgetown University in Washington. “It’s the duty of the SEC to guarantee fair and orderly markets, and I don’t think anybody would say last week’s tornado was fair and orderly.”
U.S. Senators Ted Kaufman and Richard Shelby are among lawmakers who have questioned whether regulators have a firm enough grasp on how an increase in electronic trading is affecting stock swings. Kaufman, a Delaware Democrat, asked in a May 6 speech on the Senate floor whether the SEC knows enough about “what is happening” in the market.
NYSE Euronext and Nasdaq OMX Group Inc. have seen their share of total U.S. stock trading volume plunge to less than 30 percent from as much as 80 percent a decade ago because of competition from mostly electronic venues.
Alabama’s Shelby, the top Republican on the Senate Banking Committee, reiterated Kaufman’s concerns yesterday.
“The technology has gotten ahead of the regulators and the regulators need to get ahead of the technology,” Shelby said on CBS’s “Face the Nation” program. “That is going to be a big challenge down the road. Otherwise, we could have more of this.”
The House Financial Services capital markets subcommittee will hold a hearing tomorrow to examine last week’s stocks plunge. SEC Chairman Mary Schapiro, Commodity Futures Trading Commission Chairman Gary Gensler, NYSE Chief Operating Officer Lawrence Leibowitz, Nasdaq Executive Vice President Eric Noll and CME Group Inc. Executive Chairman Terrence Duffy will testify, according to a statement released by the panel.
Schapiro is meeting today in Washington with exchange officials including NYSE-Euronext Chief Executive Officer Duncan Niederauer, Nasdaq CEO Robert Greifeld, Direct Edge Holdings LLC CEO William O’Brien and Bats Global Markets Inc. CEO Joe Ratterman.
$960 Billion Loan
Regulators are reviewing a drop that briefly wiped out more than $1 trillion in U.S. equity value as the Dow slid almost 1,000 points before paring losses. Concern over the integrity of markets may have contributed to the Standard & Poor’s 500 Index falling as much as 3 percent May 7, a day when the U.S. reported the biggest growth in jobs in four years.
Stocks climbed around the world today after European policy makers unveiled a $960 billion loan plan to end the region’s sovereign-debt crisis.
The SEC, in a May 7 joint statement with the CFTC, said it is reviewing data from exchanges and will make findings public once they determine the cause of the crash. The agencies pledged to make “structural” changes to markets if necessary.
SEC staff members are examining innovations in U.S. stock markets, including high-frequency trading and private trading venues known as dark pools that don’t display prices publicly.
Dark Pools Rules
The agency in October proposed rules to address concerns that dark pools were growing too rapidly and drawing volume away from regulated exchanges. In an effort to better track high- frequency traders, the SEC last month proposed regulations that would assign computer codes to market participants who buy and sell at least 2 million shares a day. The SEC hasn’t finalized either rule.
Regulators also raised concerns about market fragmentation. In a January report, the SEC said competition between trading platforms can “impair” investors’ ability to get the “best execution” for orders and “detract” from price transparency. It also noted benefits of competition, saying it prompts exchanges to innovate and keeps trading fees low.
Increasing computerized trading on electronic exchanges has triggered a fight between Washington and Wall Street.
Kaufman has offered an amendment to Senate legislation overhauling U.S. financial rules that would restrict brokers from hiding or selectively disseminating stock orders.
The Security Traders Association, which represents more than 5,000 financial-industry professionals, set up an online “action alert” that allows brokers to contact members of Congress and urge them to oppose Kaufman’s amendment.
Goldman Sachs Group Inc., the most profitable firm in Wall Street history, has shared memos with lawmakers and SEC officials that say computer-driven trading and an increase in stock transactions that occur off public exchanges has reduced consumer costs and brought more liquidity to markets.
In assessing the May 6 market plunge, SEC officials have discussed the New York Stock Exchange’s use of so-called liquidity replenishment points that slow trading in stocks that experience sudden price moves.
Other exchanges were allowed to ignore NYSE price quotes for certain companies when liquidity replenishment points were triggered last week.
Trades sent to electronic networks then fueled the drop, said NYSE’s Leibowitz. While the first half of the Dow Jones Industrial Average’s 998.5-point plunge probably reflected normal trading, the decline snowballed as orders went to venues lacking liquidity to match them, he said.
NYSE competitors such as Nasdaq OMX don’t use liquidity replenishment points. The SEC is considering addressing the issue by making sure all trading venues have uniform trading curbs, said the people, who declined to be identified because discussions are preliminary.
U.S. Senate Banking Committee Chairman Christopher Dodd endorsed the idea yesterday.
“These circuit breakers only exist in one exchange and that shouldn’t be the case,” Dodd, a Connecticut Democrat, said on “Face the Nation.” “The Securities and Exchange Commission needs to act. They need to step up very quickly and let us know what happened here and what steps need to be taken.”