Keeping to the letter of the law

Earlier this week BaFin, the German regulator, held a workshop on the German HFT Act. Global market participants gathered in Frankfurt to discuss and better understand the implications of the soon to be passed law. Questions around the definition of HFT, registration as an HFT firm when operating from abroad and the identification of algo orders were on everyone’s list. Fortunately BaFin came prepared with some hotly-anticipated answers.

Interestingly, though, one participant pointed out some finer detail in the German wording that could have a massive impact. The current draft, loosely translated, states that a firm must ensure that its trading system “cannot” be used for market abuse. Applying the same logic to aeroplane manufacturers would require engineers to build planes which “cannot” crash, no matter who pilots them. While this is, of course, the desired outcome, it is also flat-out impossible.

In contrast to the German HFT Act, the ESMA Guidelines state that firms must have policies and procedures in place to minimise the risk of market manipulation. This wording still requires brokers to implement trading systems with controls (such as message throttling) and warning systems (such as pre-trade risk limits or post-trade market abuse monitoring) to reduce the risk of market manipulation, but it does not impose unrealistic goals.

As the recent difficulties surrounding the introduction of the Boeing Dreamliner illustrate, despite best efforts there is always some chance of error. Unfortunately, the only way to guarantee no market manipulation is to stop all trading permanently. And this is surely not the legislator’s intention.