Monday, April 7, 2014

(sorta) HFT: The SEC Says Quote Stuffing and Spoofing Is Illegal

From Sunday's post "Australian Securities and Investments Commission Poised to Clamp Down on High Frequency Trading":
I don't know if this is the right approach. Speed per se isn't the concern so much as quote stuffing and spoofing....
I've been blathering on about the Exchange Act and quote stuffing et spoofing for a couple years now:
...The fact that the SEC hasn't perp walked some traders tells me there is either something wrong with me and the lady attorneys or there is something wrong with the SEC.
Don't bet against the lady attorneys.   

See also 2012's "Dear Mary Shapiro: HFT and the Act of '34" 2011's "Fighting Fire With Fire: Beating the High Frequency Traders at Their Own Game", 2013's "Attention Securities Litigators: 'HFT Quote Churn "Spam" Soars To Record As Volume Plummets'" and a half-dozen others.
But there is more than one way to deal with spoofing, see final link below
From Bloomberg:

SEC Catches Some Predatory Speedy-ish Traders
If you are or aspire to be a financial regulator, you have spent much of this week assuring everyone that you were diligently looking into predatory high-frequency trading long before Michael Lewis ever dreamed of writing a book about it, who is Michael Lewis, never heard of him. Unless you're Eric Schneiderman, who managed to actually front-run Lewis's book, or the Securities and Exchange Commission, who ... ohhhhhh, the SEC. If the FBI says "we've been thinking about market structure," that is news. The SEC gets no points for just announcing that it's thinking about market structure. It has had decades to think about market structure. It has more or less created the market structure. "We also have some thoughts about how to fix what we've broken, which we'll reveal at the proper time": Not an inspiring announcement.
Schneiderman and the FBI have the luxury of thinking, but the SEC has to act. And ... what's this?
The Securities and Exchange Commission today charged the owner of a Holmdel, N.J.-based brokerage firm with manipulative trading of publicly traded stocks through an illegal practice known as “layering” or “spoofing.”

The SEC also charged the owner and others for registration violations. Two firms and five individuals agreed to pay a combined total of nearly $3 million to settle the case.
"Layering" and "spoofing"! Sure sounds like predatory trading to me. And I guess it is, I don't know, there's a lot of this:
Dondero’s trading in the stock of First Capital, Inc. (FCAP) from 9:34:24 to 9:54:09 on May 8, 2009, illustrates his pattern of layering. At 9:34:25, Dondero placed an order to buy 100 shares of FCAP at $16.20 per share. Prior to Dondero placing his order, the inside bid was $14.01 and the inside ask was $17.00. Dondero’s buy order raised the National Best Bid (“NBB”) from $14.01 to $16.20. At 9:34:29, Dondero placed an order to sell 2,000 shares of FCAP at $16.21 per share. This order did not change the National Best Offer (“NBO”) because Dondero used an order type that allowed him to not display his order to other market participants; thus, the NBO remained at $17.00.

At 9:34:31, Dondero placed two orders to buy a total of 1,000 shares of FCAP at $16.20. He immediately cancelled these orders and placed another order at 9:34:35 to buy 100 shares of FCAP for $15.10. The NBB at this point was still $16.20, established by Dondero’s open orders. At 9:36:49, Dondero again placed two orders to buy a total of 1,000 shares of FCAP at $16.20 and then immediately cancelled those orders.
... look, it goes on from there, it's page 7 of the SEC order, go read it if you're into this sort of thing; it doesn't get more interesting. Joseph Dondero ("a co-owner of Visionary Trading LLC") ended up selling 1,700 shares for an average price of $16.06, well above the inside bid before he traded, though also well below the ask. He covered his short the next day at a $2,919 profit.

How bad is this? On the one hand, I don't get hugely upset about people who use their wiles to buy stock inside the bid/offer spread.1 On the other hand, this thing -- posting buy orders to move the price up, because you really want to sell -- is traditionally frowned upon as a deceptive practice. Because it is deceptive, of course, though that is neither necessary nor sufficient for a practice to be frowned upon as a deceptive practice. But this is a traditionally disfavored one....MORE
See also ZeroHedge last Friday:

SEC Busts HFT Firms For "Tricking People Into Trading At Artificial Prices"
On Monday, in "High Frequency Trading: Why Now And What Happens Next" we predicted that "the high freaks are about to become the most convenient, and "misunderstood" scapegoat, for when the market finally does crash. Which means that those HFT-associated terms which very few recognize now, especially those on either side of the pro/anti-HFT debate who have very strong opinions but zero factual grasp of the matter, such as the following...
  • Frontrunning: needs no explanation
  • Subpennying: providing a "better" bid or offer in a fraction of penny to force the underlying order to move up or down.
  • Quote Stuffing: the HFT trader sends huge numbers of orders and cancels
  • Layering: multiple, large orders are placed passively with the goal of “pushing” the book away
  • Order Book Fade: lightning-fast reactions to news and order book pressure lead to disappearing liquidity
  • Momentum ignition: an HFT trader detects a large order targeting a percentage of volume, and front-runs it.
... will become part of the daily jargon as the anti-HFT wave sweeps through the land."
Of course, another name for "layering" is "spoofing" which is precisely the term that the SEC used today when it announced that it charged the owner of a New Jersey-based trading firm and several other defendants "in a scheme to manipulate the market through an illegal practice known as "spoofing."....MORE
 Finally:
...The U.S. State Department Spoofs al-Qaeda, Fatwah at 11:00

So there you go. Just put Fatwahs in the Enforcement Division's toolkit.