Editor's Note: On Thursday, September 20, 2012 Larry Tabb of TABB Group testified before the US Senate Subcommittee Hearing on Computerized Trading. The following is a portion of his remarks and further installments will be posted shortly.
Do regulators have adequate tools to identify and limit manipulative or abusive strategies?
No, they don’t.
This is a key aspect of investor confidence, and the challenge of better understanding the impact of high-frequency trading. The regulators need two major tools: First, an accurate and technically robust audit trail that captures all of the market information (bids, offers, cancellations, modifications, orders, and executions). Second, they need the appropriate tools and sophistication to understand what is going on, and who is trading what.
They need to understand spot manipulators (actually, first they need to define manipulative trading strategies), piece together sliced and diced orders, and place this information in context with not only news and events but with trading activity happening in other markets.
If the regulators had these capabilities, and we could be assured that the regulators understood market structure, analyzed the markets, and caught the misbehavers, much of this discussion of high-frequency trading would be moot. However, the regulators do not have the tools. When they create rules, they specify them incorrectly (like Large Trader), or create rules that are impossible to implement (e.g., Direct Access), or don’t have the sophistication to understand how to put large orders that get sliced into thousands of little pieces back together, or the complexity of how proprietary trading engines work.