U.S. probes trading practices in fragmented markets

WASHINGTON/NEW YORK Wed Dec 8, 2010 5:13pm EST

Related Topics

WASHINGTON/NEW YORK (Reuters) - U.S. securities regulators are investigating whether market players have intentionally contributed to market volatility or unlawfully exploited the deeply fragmented markets, Securities and Exchange Commission Chairman Mary Schapiro said on Wednesday.

Enforcement staff are probing whether market participants "intentionally contributed to market volatility or manipulated the price and volume of securities at the expense of innocent investors," Schapiro told a congressional panel.

Since the May 6 flash crash, the SEC and the Commodity Futures Trading Commission have been under pressure to bolster the integrity of the markets.

At the congressional hearing to examine regulators' plans to protect U.S. capital markets, Schapiro said her staff was probing certain disruptive trading practices such as spoofing, which includes when a trader submits many bids and offers with no intention of carrying them out.

The flash crash rocked investor confidence, exposed flaws in the vast trading network and has prompted lawmakers to demand that regulators fix the markets.

"It is urgent that we introduce additional safeguards as well as strengthen oversight of our fractured markets to restore investor confidence," said Senator Carl Levin, who along with fellow Democratic Senator Jack Reed, chaired Wednesday's hearing.

"This is not your grandfather's market," Reed told the regulators.

Schapiro and CFTC Chairman Gary Gensler are looking for potential remedies to the deeply fragmented markets, where high frequency traders increasingly dominate trading across about 50 different venues.

A report by their agencies found that a large trade by a single trader helped send the Dow Jones industrial average down nearly 700 points on May 6 in minutes before recovering.

Had there been safeguards in place and coordinated rules across the bevy of trading venues, some companies might not have seen their stocks temporarily lose nearly all their value in seconds and investors may not have been stuck on the wrong side of the trade.

"It took the CFTC and the SEC five months of intense work to figure out what happened over a few minutes on May 6," Levin said.

FIVE INCHES HIGH

The senator dropped a stack of paper measuring "five inches high" that he said contained the message and trading traffic across U.S. futures, options, and equities exchanges in one major U.S. stock "over the course of one second."

"Given the strong relationships between the futures, options and equities markets, joint measures to detect intermarket trading abuses are essential," Levin added.

The SEC, which in 2009 had already started reviewing and pondering new rules for the marketplace, was forced prematurely into action by the flash crash and adopted the temporary circuit breaker program in June.

Earlier on Wednesday, major U.S. exchanges including the New York Stock Exchange and the Nasdaq Stock Market proposed extending by four months the temporary circuit breaker program, which pauses trading in a volatile stock and was due to expire on Friday.

The SEC is expected to approve the petition but had no immediate comment. An extension would give the SEC more time to develop its new solution that involves slowing trading during sharp swings, instead of halting trades.

Exchanges would also get more time to implement the SEC's new flash crash remedy known as limit up/limit down.

The SEC has tried to clarify when and at what prices exchange operators such as NYSE Euronext would have to cancel erroneous trades. It also eliminated so-called stub quotes, or quotes priced well off the public price of a stock.

(Reporting by Jonathan Spicer and Rachelle Younglai; Editing by Tim Dobbyn)

FILED UNDER: