WEBVTT - Bloomberg's Dean on Proposed Regulation for Algo Trading(Audio)

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<v Speaker 1>thank you very much Bill Maloney, and to hear live

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<v Speaker 1>breaking news over your Bloombird Time Squawk. Ask you you

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<v Speaker 1>a w K on your terminal. I'm Charlie Llott. That's

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<v Speaker 1>a Bloombird business flash. You're listening to taking stock with

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<v Speaker 1>pim Box and Kathleen Hayes on Bloombird Radio. Algoes algorithmic trading.

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<v Speaker 1>This has become more and more controversial as many Wall

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<v Speaker 1>Street professionals worry that high frequency trading firms are using

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<v Speaker 1>these algos to speed up their trades but perhaps destabilize

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<v Speaker 1>the markets. In fact, now algorithmic traders in US derivatives

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<v Speaker 1>markets may be subjected to heightened regulation, as the Commodity

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<v Speaker 1>Futures Trading Commission ways a proposal that would set registration requirements,

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<v Speaker 1>among other things. We're joining now by Nathan Dean, government

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<v Speaker 1>analyst for Bloomberg Intelligence in Washington. So Nathan, first of all,

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<v Speaker 1>what is an issue here. Let's start with what is

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<v Speaker 1>going on in the derivatives trading that is being done

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<v Speaker 1>by algorithms and what is the extent of it. So

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<v Speaker 1>this rule is a proposal from the CFTC, and this

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<v Speaker 1>really stems from UH several flash crashes or in the

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<v Speaker 1>derivative markets over the last couple of years and UH

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<v Speaker 1>several occurrences in which algorithms have run amuck UH and

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<v Speaker 1>the exchanges have had to essentially shut those algorithms off.

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<v Speaker 1>So the CFTC proposed rule. UH. This rule does not

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<v Speaker 1>slow down high frequency trading. But really what it does

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<v Speaker 1>is that it puts restrictions on algorithms in terms of

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<v Speaker 1>pre trade post trade risk controls a lot of things

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<v Speaker 1>that the exchanges already do. But there's there's two controversial

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<v Speaker 1>elements here. One is source code provisions. UH. This rule

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<v Speaker 1>would require algorithmic traders to hand over their source code

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<v Speaker 1>to the CFTC, to the Justice Department upon request. Obviously

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<v Speaker 1>they're not hal be about that. And the second thing

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<v Speaker 1>is registration requirements. A lot of these algorithmic traders, these

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<v Speaker 1>are five ten person firms and they they just don't

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<v Speaker 1>have the compliance and UH risk departments that can handle

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<v Speaker 1>this proposal. Nathan, can you tell us about kill switches?

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<v Speaker 1>What would they do? So it kill switches essentially like

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<v Speaker 1>pulling the key out of your ignition. Uh. You know,

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<v Speaker 1>it stops the algorithm. Uh. And a lot of the

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<v Speaker 1>hyperquincy traders already have this, The exchanges already have this. Uh.

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<v Speaker 1>And so this would allow the exchange to go in

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<v Speaker 1>and essentially just press a button and block the all

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<v Speaker 1>go from its market. Uh. You know, this is one

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<v Speaker 1>of the provisions that we think that the CEEFTC is

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<v Speaker 1>going to try and finalize this year. Uh. You know,

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<v Speaker 1>this rule is a very large rule, and so just

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<v Speaker 1>recently the chair decided that or at least announced that

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<v Speaker 1>he was planning to split this rule off and kill

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<v Speaker 1>switches we think is going to be part of the

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<v Speaker 1>finalized rule this year. Well, kill switches source code? How

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<v Speaker 1>does that play in? And you have to be a

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<v Speaker 1>computer geek to understand how this all works. So the

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<v Speaker 1>source code is, uh, you know, it's the brains of

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<v Speaker 1>the algo. You know, it's it's the computer programming. And

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<v Speaker 1>a lot of the high frequency traders out there will

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<v Speaker 1>say that the source code contains the prietary and the

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<v Speaker 1>business strategy and everything that's crucial to their success. And

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<v Speaker 1>what happens here is that under the proposal to see

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<v Speaker 1>IFDC or the Justice department will notice that an algorithm

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<v Speaker 1>runs a muck and they call the high frequency trader

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<v Speaker 1>over and say you have to provide it without a subpoena.

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<v Speaker 1>You just have to provide it. And obviously from a

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<v Speaker 1>cybersecurity perspective, from a privacy perspective, Uh, these small firms

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<v Speaker 1>are not happy with this provision and so uh uh

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<v Speaker 1>you know, if this world to be finalized, it wouldn't

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<v Speaker 1>be surprising the sea and legal challenges come out of it. Nathan,

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<v Speaker 1>What effect would this have, if any, on high frequency trading?

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<v Speaker 1>So it's gonna make so it won't slow down the

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<v Speaker 1>high frequency traders. And this is only in the derivatives market.

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<v Speaker 1>The equity high frequency traders are under your different program. Uh,

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<v Speaker 1>it won't slow them down, but it will increase their

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<v Speaker 1>compliance costs. Uh. The CFTC estimates that there's about four

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<v Speaker 1>hundred and twenty hyperquency trading firms out there, uh, and

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<v Speaker 1>only estimates thirty five million dollars for them to implement this.

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<v Speaker 1>We think that figure is very low, that it's going

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<v Speaker 1>to be much more costly, but it's gonna be a

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<v Speaker 1>regulatory headache. And like I said before, a lot of

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<v Speaker 1>these firms are five, ten, fifteen people firms, and uh,

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<v Speaker 1>they're gonna have to have a compliance person really dig

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<v Speaker 1>through and to see how they can comply with this role.

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<v Speaker 1>Is this a way to slow something down, to perhaps

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<v Speaker 1>put a curb on high frequency trading by adding these

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<v Speaker 1>excess steps, adding more or I shouldn't sayccess but adding

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<v Speaker 1>additional steps, adding more regulation, rather than facing head on

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<v Speaker 1>this question of whether or not algorithmic trading is something

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<v Speaker 1>that has gotten a lot of control or really is

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<v Speaker 1>creating more volatility and destabilizing markets. You know, I think

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<v Speaker 1>it's the first step in the process. You know, the

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<v Speaker 1>CFTC has said that the hyperquency trading isn't an issue,

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<v Speaker 1>or at least that's what they've alluded to, So they

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<v Speaker 1>don't want to slow it down, but they need to

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<v Speaker 1>do something. Uh. And so this proposal was a broad,

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<v Speaker 1>broad sweep here of trying to bring in many, many

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<v Speaker 1>aspects of algorithmic training under regulations. And UH, I think

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<v Speaker 1>what they're gonna face with is, UH, you know, they're

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<v Speaker 1>going to have to start picking off what they expect

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<v Speaker 1>they can actually get done this year. And UH, at

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<v Speaker 1>the end of the day, if I don't think a

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<v Speaker 1>high food. See trading firm has to worry much that

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<v Speaker 1>their their algorals are going to be slowed by this.

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<v Speaker 1>Is there an issue having to do with market makers statistics? Yes,

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<v Speaker 1>that's so, that's one part of the proposal. And so

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<v Speaker 1>this proposal would require market makers and it would require

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<v Speaker 1>the exchanges UH to release more details about their market

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<v Speaker 1>making and their incentive programs, you know, the compensation paid

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<v Speaker 1>to market makers, benefits received, etcetera. And what the goal

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<v Speaker 1>here is to increase transparency in those market making programs

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<v Speaker 1>so they can ensure that there's no false liquid out there.

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<v Speaker 1>You know, there's some because some claims out there that

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<v Speaker 1>you know, high frequency traders are essentially just making whatever

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<v Speaker 1>they need to make as per their compensation program and

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<v Speaker 1>then the liquidity disappears. UH. You know, this portion of

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<v Speaker 1>the rule was something that we think is going to

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<v Speaker 1>get pushed off in the two thousand seventeen. Thank you

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<v Speaker 1>very much for joining us and giving us that insight.

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<v Speaker 1>Nathan Dean is government analysts for Bloomberg Intelligence. He's based

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<v Speaker 1>in Washington, d C. Home of course to Bloomberg FM

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<v Speaker 1>and one oh five point seven FM h D two.

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<v Speaker 1>You're listening to taking Stock I'm pim Fox, my co

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<v Speaker 1>host Kathleen Hayes, and this is Bloomberg Radio. Brexit It's

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<v Speaker 1>not only important for the UK, it's important for all

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<v Speaker 1>of Europe. If the UK decides to go or stay,

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<v Speaker 1>in depth now on Bloomberg Radio.