High-speed Trading Poses Risks

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    High-speed trading poses widespread risks to market safety, says research from the Federal Reserve Bank of Chicago. The study found out-of-control algorithms were more common than anticipated prior to the study and that there were no clear patterns as to their cause. It says that two of the four clearing dealers, two-thirds of proprietary trading firms, and every exchange interviewed had experienced one or more errant algorithms. It also found that there may be times when no single entity has a complete picture of a firm’s exposures across markets. The trading issues could be due to trading firms applying fewer pre-trade checks to some trading strategies than others, in order to reduce latency. As well, some firms do not have stringent processes for the development, testing, and deploying the code used in their trading algorithms. It also says erroneous orders may not be stopped by some clearing dealers because they are relying solely on risk controls set by the exchange. Controls that could help mitigate risks include limits on the number of orders that can be sent to an exchange within a specified period of time; a ‘kill switch’ that could stop trading at one or more levels; intraday position limits; and profit-and-loss limits that restrict the dollar value that can be lost.