Starting in May 2013, the Australian regulator decided to clamp down on high-frequency trading by introducing some additional rules for so called ‘dark pools’ – pockets of hidden liquidity for certain financial instruments, which are usually run by financial institutions for their customers and order information is not openly available to the public, while trading is offered outside of the public exchanges.
A subsequent set of follow-up dark liquidity and high-frequency trading rules have been implemented throughout 2013 in Australia.
ASIC Was the First Major Regulator to Address HFT
The Australian Securities and Investments Commission (ASIC) has decided to introduce two independent rule changes—a new meaningful price improvement rule and lower block tier thresholds. According to a task force which was setup to analyse the impact of dark liquidity and high-frequency trading on the markets, there had been an impact on market quality by the growing ‘dark pools’ due to increasing below block size trading, which increased spreads in securities where high levels of below block size trades were observed.
The price improvement rule addressed ‘queue jumping’ (the bread and butter of high-frequency trading) as the below block size orders in the dark pools could trade ahead of the ‘lit’ orders – the orders which were publicly displayed on the exchanges. According to ASIC, this resulted in an unfair advantage for certain groups of traders and did not provide incentive to trade on the market with publicly displayed orders.
The existing block tier threshold was inflexible and did not efficiently account for differences in liquidity in determining the price impact of large trades.
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ASIC’s findings state, “There has been no material change” in spreads
With the conclusion of the review, apparently ASIC will be the world’s first regulator to unveil to the public that defendants of HFT don’t have much merit in claiming that dominance in it will dramatically impact spreads. Quite the opposite – the critiques that high-frequency trading received after the release of Michael Lewis’ new book ‘Flash Boys’ most likely have been well justified, at least after the experimental rules were implemented on Australian soil.
According to a statement issued in a press release by ASIC, the regulator’s Commissioner, Cathie Amour, said that the results supported the changes made in 2013. She clarified, “We saw bid–offer spreads widen during 2013. However, the widening in spreads was driven by increased volatility at the time. After controlling for factors that are known to affect spreads (trading activity and volatility), there has been no material change. Therefore, the meaningful price improvement rule and change in block tier thresholds has not affected bid–offer spreads.”
She further elaborated, “We are satisfied the current policy settings and rule framework has had the desired effect of improving fairness and addressing the concerning trend of increasing below block size trading and declining block size trading. We do not propose to change the current policy and rules on dark liquidity, but will continue to monitor market developments.”
After the new rules were implemented, ASIC conducted a review of dark liquidity and high-frequency trading trends in order to identify whether the implementation has had the desired effect on the markets itself. Separately, it has provided data to get independent expertise from Charles Lane Advisory Pty Ltd, in order to receive another point of view on the matter.
The implemented rules have influenced both sides of the issues with small sizes of traded conducted in the dark offering price improvements and the lower thresholds on block sizes reducing the share of deals closed at below block size meaningfully, hence eliminating advantages to high-frequency traders.
The full findings of ASIC’s report are available on ASIC’s website, while the independent report by Charles Lane Advisory Pty Ltd can be found on the following link.