Joe Wald, BMO Capital Markets’ managing director and co-head of electronic trading left the bank, departing after four years in his most recent role, according to an update on his social media. Wald originally joined BMO in 2020 following the bank’s acquisition of Clearpool Group where he had served as chief executive for six years. Prior to founding Clearpool, Wald spent a year and a half at GAIN Capital as an executive vice president. He also previously spent almost five years as a managing director at Knight Capital Group and 13 years as chief executive of EdgeTrade.

BNP Paribas Asset Management appointed Alexandre Aubry as fixed income trader, based in Paris. Aubry previously served as a credit trader at Mizuho and MUFG Securities. Elsewhere in his career Aubry spent nearly eight years at Societe Generale Corporate and Investment Banking (SGCIB), most recently as a credit trader. Elsewhere in his tenure at SGCIB, Aubry served as a sales assistant for both rates and credit derivatives, as well as on the firms’ exotic interbank desk.

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Wald is departing after four years in his most recent role, according to an update on his social media.

“After 10 years as co-founder of Clearpool and MD at BMO, I have decided to take some time away from electronic trading. It has been an amazing journey,” said Wald in an update.

“I have had the pleasure of working alongside some of the best and brightest people in the industry.”

Wald originally joined BMO in 2020 following the bank’s acquisition of Clearpool Group where he had served as chief executive for six years.

Prior to founding Clearpool, Wald spent a year and a half at GAIN Capital as an executive vice president.

He also previously spent almost five years as a managing director at Knight Capital Group and 13 years as chief executive of EdgeTrade.

BMO had not responded to a request for comment at the time of publishing.

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Casey Crawford was appointed institutional municipal trader, vice president, at RBC, joining from Citi. New-York based Crawford was previously vice president, municipals trading at Citi having spent a decade with the firm. His previous positions at the bank include: gold international finance analyst, private bank investment analyst and private bank fixed income analyst. Crawford also has experience working at Aon Hewitt and UBS earlier in his career. 

SimCorp appointed Allen Zimmerman as managing director, head of Americas, set to lead SimCorp within the region – including the firm’s analytics business Axioma. His focus will be on defining strategic direction and helping realise SimCorp’s growth aspirations in the Americas. He joined from BlackRock, where he served as a managing director, focusing on business development for the firm’s investment management technology offering since 2015. Zimmerman brings 18 years of experience in financial services, including senior roles with the portfolio analytics and quantitative models businesses at Barclays and Citi. He also has experience in front-office modelling. Based in New York, Zimmerman will report to Oliver Johnson, chief revenue officer, and will focus on furthering growth within the Americas region.    
  
BMO Capital Markets appointed Harj Bagria within its electronic trading division, The TRADE revealed last week. Bagria joined BMO from Credit Suisse, where he spent nearly five years. Most recently, Bagria held an EMEA equity trading position, based in London. Elsewhere in his tenure at Credit Suisse, Bagria held APAC equity trading and electronic sales trading positions, based in Hong Kong. Prior to joining Credit Suisse, Bagria spent two and a half years at Deutsche Bank, most recently as head of electronic execution sales for APAC. This followed an eight-year stint at Citi, where he held electronic sales trading roles in both London and Hong Kong. Elsewhere in his career, Bagria held an analyst position at Lehman Brothers. 
 
Wematch.live appointed David Culshaw as global head of fixed income; a newly created role which reflects the fintech’s expansion into the fixed income space. Culshaw joined Wematch.live from Brevan Howard spinout, SigTech, where he served as global head of business development. Elsewhere, Culshaw held a leadership role at CME Group’s BrokerTec, where he held responsibility for the commercial development of the firm’s dealer-to-client RFQ repo platform across EMEA and North America. Culshaw has a background working with both the buy- and sell-side across a range of financial products including interest rate derivatives, securities financing and cash bonds.  

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Bagria joins BMO from Credit Suisse, where he spent nearly five years. Most recently, Bagria held an EMEA equity trading position, based in London.

Elsewhere in his tenure at Credit Suisse, Bagria held APAC equity trading and electronic sales trading positions, based in Hong Kong.

Prior to joining Credit Suisse, Bagria spent two and a half years at Deutsche Bank, most recently as head of electronic execution sales for APAC.

This followed an eight-year stint at Citi, where he held electronic sales trading roles in both London and Hong Kong.

Elsewhere in his career, Bagria held an analyst position at Lehman Brothers.

BMO Capital Markets had not yet responded to a request for comment at the time of publishing.

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The four separate rulemakings put forward by the US Securities and Exchange Commission (SEC) in December last year represent the most significant attempt to revamp market structure for US equities in recent memory.

It’s been around 18 years since the introduction of Reg NMS by the SEC – a series of initiatives designed to modernise and strengthen the national market system for equity securities – and those in favour of modernising argue that the US’ two-decade lag in regulatory evolution has paved the way for certain levels of arbitrage across the industry that needs to be stamped out.

“The development of the current rules was informed by technological capabilities that today seem hopelessly archaic. Eighteen years ago, a turnaround time of 500 milliseconds seemed incredibly fast. Now people operate in nanoseconds,” says Daniel Schlaepfer, chief executive and president of Select Vantage Inc. 

“In the intervening years, people have developed strategies to arbitrage the outdated rules to their advantage, often to the detriment of market integrity. It’s been a long time since there’s been a revisit – Reg NMS was 2005 – and it’s a vastly different marketplace than it was back then.”

Among the SEC’s reforms is the proposal to amend certain rules under Reg NMS to adopt variable minimum pricing increments – or tick sizes – for the quoting and trading of NMS stocks. Elsewhere, is the suggested reduction of access fee caps for protected quotations and the acceleration of the transparency of the best priced orders available. Both, according to the regulator, are designed to enhance trading opportunities for all investors, ensuring that orders placed reflect the best prices available.  

Given that equity market structure in the US has not seen any major updates since 2005, the SEC’s proposals will likely cause some growing pains. The reforms, whilst well intended, have proved divisive among participants, and many argue such a large implementation could be disruptive to how the market operates. If these proposals were to come to fruition in their current form, it would be a massive overhaul – with perhaps too much change in one go. While evolution of equities market structure in the US is long overdue, what form it should come in is up for debate. 

Access fees

Though many agree that some level of modernisation is necessary and beneficial to the industry, the devil is in the details. The SEC has opted for a granular and fairly complex approach, particularly with regards to the proposed new access fee and tick size regimes. 

“The tick size proposal, in name only, is simple and one-dimensional, but in practice, there are changes to rebates, there are changes to pricing tiers, there are changes to odd lot data that’s being disseminated,” says Eric Stockland, managing director, electronic trading for BMO Capital Markets. 

“This is like a big plumbing change and it’s going to impact institutions directly and affect what algos they use, what their implementation costs are, and just the way that stocks are even quoted and traded.”

While the changes to the access fee regime are designed to reduce the cost of accessing quotes for all types of investors, institutional investors have become increasingly concerned about the impact the proposals will have on the cost of trading and cost of liquidity sourcing, arguing that they could have a detrimental effect on incentives tied to liquidity provision that could disincentivise firms looking at trading.

“While the explicit costs of accessing that quotation may go down, the implicit costs, which I would say is the spread in the security, is going to go up and we think it will increase more than the actual explicit fee will decrease,” highlights vice president and head of US equities and strategy for North American trading services at Nasdaq, Chuck Mack. 

“Institutions costs will go up in the end, which is probably not the outcome that they’re looking for. Looking at tick size too, if you don’t get that right, you can reduce and fragment liquidity and make it more costly to trade.”

Tick sizes

Several of institutions’ main concerns surround the SEC’s tick size proposal, with many suggesting the broadening out of increments in which an institution can quote inside of the best bid offer could fragment liquidity at a given price point. 

“When you broaden that out, institutions are going to struggle at a particular price, to find that block liquidity that they need to get in and out of what are very, very large positions,” says Jeff O’Connor, head of market structure, co-head coverage Americas at Liquidnet.

From an EU perspective, the European Securities and Markets Authority (ESMA) re-addressed its tick size regime in 2018 to combat concerns that Brexit will leave trading venues in the EU at a competitive disadvantage. Previous rules meant that the minimum tick size would be applicable to shares in accordance with the adjusted average daily number of transactions on the most liquid market in the EU.

However, ESMA noted that while this is an adequate liquidity indicator for most equity instruments, it may not be suited to instruments where the most liquid venue is located outside of the European Union, such as the UK post-Brexit. The new tick size regime proposed by ESMA meant that regulators of European trading venues will be allowed to calculate the average daily number of transactions on a case-by-case basis, taking into account the liquidity available on third-country venues in calibration of tick sizes.

“Proposals to reduce and harmonise tick sizes across exchanges and off-exchange venues make sense but must be appropriately calibrated to prevent any adverse impact on price discovery and lit liquidity,” says Edward Monrad, head of corporate strategy at Optiver. “Although it’s not perfect, the EU’s tick-size regime may offer a good blueprint for a dynamic tick-size regime.”

Minimum bid ask spreads

Last updated in 2005, the move to reduce the minimum bid ask spread to a penny was deemed as dramatic by industry participants, especially given the 25 cent spreads seen a few decades prior. According to the SEC, its proposals to amend minimum pricing increments are designed to enhance trading opportunities and to help ensure that orders placed in the national market system reflect the best prices available for all investors.

Those who are hesitant to the reform suggest systems will not be able to handle this. However, as the structure currently stands, significant volumes in stocks priced below a dollar that already trade at sub-penny increments, alongside existing inverted markets and the proliferation of embedded dark orders, suggests that current systems are more than capable of handling the changes that they are concerned about. 

“Many stocks, given their risk and liquidity constraints, will trade much wider than a penny, and that is perfectly fine,” argues Ian Bandeen, chairman of the board of Select Vantage Inc. 

“Indeed, some might say that facilitating trading at the highest level of efficiency that the markets will bear is exactly what we should be promoting. If firms can employ better technology to profitably provide tighter spreads for the most liquid securities, then we should encourage, not thwart, that evolution.”

Many argue the rapid proliferation of more advanced order entry and risk management technology has allowed market makers and participants to profitably provide sub penny spreads for over a decade. 

“You have got to applaud the SEC for having the gumption to address these issues and taking on the hard battles,” adds Bandeen.

“There are some very powerful, well-entrenched special interests who will rightfully see this as a direct attack on their business models. At its core, the real issue revolves around who the markets should benefit – the vast majority of institutional and retail investors, or a narrow subset of powerful intermediaries. What the SEC is trying to achieve seems to be a return to fundamental first principles. Politically though, they are walking into a well-funded firestorm.”

Enforcing best execution

The debate surrounding who the markets should revolve around is echoed into the SEC’s proposal to put best execution in writing. As one of the four pillars of the SEC’s proposals, the new rule would establish a best execution regulatory framework for brokers, dealers, government securities brokers, government securities dealers and municipal securities dealers. 

“If adopted, [Regulation Best Execution] would help ensure that brokers have policies and procedures in place to uphold one of their most important obligations: to seek best execution when trading securities, whether equities, fixed income, options, crypto security tokens, or other securities,” says Gary Gensler, chair of the SEC. 

“I believe a best execution standard is too important, too central to the SEC’s mandate to protect investors, not to have on the books as Commission rule text.”

The proposal would require broker-dealers to establish, maintain, and enforce written policies and procedures reasonably designed to comply with the proposed best execution standard, alongside requiring these policies and procedures to address how broker-dealers comply with the best execution standard and how they will determine the best market and make routing or execution decisions for customer orders.

“The best execution proposal is one that I don’t see getting through because in practice, we execute with the best market possible. Routers on a trading desk are still going to be forced to go to the best venue possible, so that doesn’t really change,” notes O’Connor. “There would be a big change if the retail auction component was to come to fruition. We would all have to adjust how we interact with the exchanges, it’s going to be another venue that traders need to send their child orders to. Certainly, there will be a lot of burden on broker dealers to adjust their routing and adding venues, but it’s not incredibly impactful.”

A retail lightening rod

Perhaps most divisive are the proposals set to fundamentally change the way the retail markets operate. As part of its best execution crusade, the US watchdog’s new proposals enforce that certain orders from retail investors be exposed to competition in fair and open auctions before such orders could be executed internally by any trading centre that restricts order-by-order competition. 

“That particular proposal was a bit of a lightning rod for controversy, and we took a position where we’re advocating for market-based solutions rather than regulatory edict,” explains Stockland. “If there’s an opportunity for us and our clients to interact more with retail, we will absolutely be ready for that day one, and we have some ability within our strategies to behave opportunistically in response to retail opportunities.”

Payment for order flow (PFOF) – which is a form of compensation through transferring some of the trading profits from market makers to brokerages in return for directing order from a range of parties to be executed with them – and its widespread use has become a controversial topic globally. Many argue that this order flow – which the growing retail segment contributes significantly towards – should be won by publishing competitive quotes instead. 

According to 606 reports gathered by the SEC, Citadel Securities forked out $2.6 billion in 2020 and 2021 on PFOF, most of it on options, followed by Susquehanna (G1X global execution brokers), which spent a $1.5 billion and Virtu which spent $654 million in the same period.

The SEC has concluded that retail investors do not currently benefit from a fair and competitive market, due to the lack of a level playing field among various aspects of the market, namely wholesalers, dark pools and lit exchanges. As part of its proposed overhaul, the regulator has highlighted that the markets have become increasingly hidden from views, especially for retail investors. Over 90% of marketable orders for stocks listed on US securities exchanges by retail investors are routed to a small group of off-exchange dealers (wholesalers) – reflecting that these orders impose lower costs on liquidity providers than unsegmented order flow, said
the SEC.

And, these wholesalers typically execute the marketable orders of individual investors internally, without providing any opportunity for other market participants to compete to provide better prices – meaning they are not only segmented but are also isolated from order-by-order competition. 

If executed correctly, the watchdog’s proposal could mean both retail and institutional investors will benefit from increased competition for orders.  

“The loudest current fearmongers are primarily just the entrenched special interests with the most to lose from enhanced market efficiency and integrity. Bringing retail order flow back into the open markets will benefit everyone. Liquidity begets liquidity, and more liquidity means greater efficiency and less risk,” says Schlaepfer. “The only people who will be negatively impacted will be those whose business models relied on abusing outmoded rules to their exclusive benefit.”

What happens next?

The SEC first announced its equity market structure proposals in December last year, with a public comment period opened until 31 March. As of now, the SEC has not revealed which proposals will come into fruition and to what extent, but it goes without saying that the industry will be kept on it toes as the final verdict builds anticipation. The proposals themselves have resulted in wide industry discussion. Whether viewed as disruptive or not, they aim to improve competitiveness in the market – which is something that should be viewed as beneficial.

“These changes are about improving competition and efficiency in the market. We can debate the details and talk about the nuance, but ultimately, institutions benefit from a more efficient market,” concludes Stockland. 

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The two leading US capital markets watchdogs have come down on almost a dozen organisations over recordkeeping failures with their combined penalties totalling nearly $550 million.

The SEC has charged 11 Wall Street firms $289 million for widespread recordkeeping failures, while in a parallel case, the CFTC has issued orders to four bank-affiliated swap dealers and/or futures commission merchants (FCMs), totalling $260 million.

The SEC handed out a range of penalties: $125 million to Wells Fargo, Wells Fargo Clearing Services, and Wells Fargo Advisors Financial Network; $35 million to BNP Paribas Securities and SG Americas; $25 million to BMO Capital Markets and Mizuho Securities USA; $15 million to Houlihan Lokey Capital; $10 million to Moelis & Company and Wedbush Securities; and $9 million to SMBC Nikko Securities America.

All 11 firms had been found to have been using longstanding “off-channel” communications following an investigation by the SEC.

The SEC specifically highlighted electronic communications and the widespread and longstanding failures by firms and their employees to maintain and preserve these.

Gurbir Grewal, director of the SEC’s division of enforcement underscored the lessons that must be learnt from the action, highlighting that the commission has now brought 30 enforcement actions and fined more than $1.5 billion to date.

“While some broker-dealers and investment advisers have heeded this message, self-reported violations, or improved internal policies and procedures, today’s actions remind us that many still have not. So here are three takeaways for those firms who haven’t yet done so: self-report, cooperate and remediate. If you adopt that playbook, you’ll have a better outcome than if you wait for us to come calling,” he advised.

All firms admitted wrongdoing, confirming the facts set out in the SEC orders and acknowledged their violations of the recordkeeping provisions of the federal securities laws. A statement from the SEC confirmed that improvements have already begun to be implemented in the firm’s respective compliance policies and procedures.

In addition to recordkeeping faults, the CFTC also highlighted supervision failures related to the widespread use of unapproved communication methods.

The regulator has landed BNP, Société Générale and Wells Fargo with $75 million penalties each, while the Bank of Montreal has been handed a lesser $35 million.

Additionally, the CFTC has also confirmed that the settlements also require an admission of wrongdoing from the banks.

Ian McGinley, director of enforcement at CFTC, said: “With today’s actions, the CFTC has now brought enforcement actions against 18 financial institutions, and imposed over $1 billion in penalties, for violations of the CFTC’s recordkeeping and supervision requirements involving the use of unapproved communication methods. 

“The Commission’s message could not be more clear—recordkeeping and supervision requirements are fundamental, and registrants that fail to comply with these core regulatory obligations do so at their own peril.”

The CFTC order found that over a period of years, the firms failed to stop employees – including at the senior level – from communicating using unapproved methods, including via WhatsApp.

In a statement, the CFTC explained that as the written communications were on the whole not maintained and preserved by the firms, they would not have been able to provide them to the CFTC promptly upon request.

Earlier today, Christy Goldsmith Romero, the CFTC Commissioner released a statement in which she strongly backed the ruling and emphasised a zero-tolerance approach: “[…] Wall Street institutions do not get to keep regulators in the dark while enjoying all of the benefits of being a regulated entity in U.S. financial markets.  Those choosing to participate in U.S. financial markets are on notice—The era of evasive communications practices is over.

“The CFTC will hold you accountable. It’s time for Wall Street to stop waiting for an enforcement action before it changes its practices.  Tone at the top must change on Wall Street.  Change can only happen if the banks’ C-suite establishes a culture of compliance over evasion.”

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We all know the importance of data, and the crucial role it is now playing. But what role are these developments playing in the material improvement of the industry and its operations?

Joe Wald, managing director and co-head of electronic trading at BMO Capital Markets, emphasised that data has to achieve three elements: it must empirical, iterative, and collaborative.

“We need a philosophy that you move forward with across the entire platform,” he explained. “It has to be data-driven, it can’t be anecdotal anymore. All your decisions must be based on solid data. It has to have a framework where you can experiment, conduct B-tests, see what you’ve learned from the data over time. And it has to be a platform that allows for rapid customisation, so you can collaborate with your client to find what is successful. These three elements are key to achieving the right outcomes.

“There is a quote from The Kingsman that says ‘Manners maketh man’. For us, its ‘market structure maketh money’. There are places for our clients where we can trade, where we have an edge. There are ways to leverage the market structure in Europe that are evolving very rapidly. The ultimate and most tangible results in driving performance and execution, we’ve found, is in market structure research – how to find new tools and new ways of sourcing that liquidity.”

Dr Peter Ho-Spoida, vice president of data strategy at Deutsche Börse Market Data and Services, emphasised the need for increasingly sophisticated methods analysis in order to gain competitive advantage.

“We see increasing demand for data, but also demand for the right tools to analyse that data. An important issue is enablement – allowing clients to focus on their core expertise. Traditionally we have had many Tier 1 clients buying highly complex, large amounts of data. That gives lots of insights, but it needs specialised knowledge and lots of maintenance. So we have started to build infrastructure around it to allow clients to use this data – including a back-testing environment, or example.

“The level of noise here, compared to other areas in which AI is being applied, is very high. So you need a very disciplined approach.”

Daniel Mayston, head of electronic trading and market structure EMEA at BlackRock, warned that although data is important, it’s not the only consideration – and that the personal aspect should not be lost.

“From the buy-side perspective, we need to look at the bigger picture,” he stressed. “The electronic aspect is important, the data is important, but it’s not everything. In addition, most people think that automation and electronic trading means fewer people, but actually it can be the opposite – you have to prioritise resources to get things done, and the human aspect is as important as it ever was.”

Collaboration is also important. “You have to be on the same page as your sell-side counterparts, you still have an end goal,” said Mayston. “Our real proposition is that we have to solve something for our clients, our end investors. What really matters, ultimately, is execution quality.”

Jas Sandhu, global head of agency electronic solutions at RBC Capital Markets, agreed. “It might take different names, but the motivation of a trade is fundamental both internally and externally, and whoever is trying to help you achieve your goals has to understand that. Then you put numbers around it, add TCA, supplement with data.”

Another trend is innovation entering from alternate asset classes. “I’m really looking forward to the innovation coming to the exchange landscape, driven by the crypto asset class,” said Ho-Spoida. “Most of these cryptos are already using cloud-based technology, and this is now trickling into the conventional markets. Settlement for example – we have a big problem in the equities space, and this problem doesn’t exist in the crypto space.”

But the real battleground may not even be at the coalface, but behind the lines. “The war for talent in this space is real,” warned Sandhu. “Previously it was quants – now it’s coding, but its fungible, they can move between industries – the same coders can work for fintechs as can work for banks, and that makes the competition much more fierce.”

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In his new role at BMO, Stockland will be responsible for product development and developing new client relationships, particularly with his institutional asset manager connections.

Stockland joins the BMO Capital Markets electronic trading division with nearly 20 years of industry experience, most recently serving as chief strategy officer at IEX Group for over four years. 

Previously in his career, Stockland has also worked at US-based market maker KCG Holdings, now part of Virtu Financial, as an execution consultant for almost nine years.

“Eric’s appointment is a testament to BMO’s commitment to invest and develop innovative electronic trading solutions,” said BMO in a statement. “The addition to the growing electronic trading team comes on the heels of BMO Capital Markets acquisition of Clearpool Group. Eric is a respected practitioner and thought leader in the industry who will help transform BMO’s institutional offering.”

Stockland’s appointment follows the acquisition of US-based agency broker and algorithmic trading specialist Clearpool by BMO, which was completed in April and first announced at the beginning of 2020.

BMO said at the time that Clearpool would deliver ‘powerful’ new capabilities to its electronic trading platform and added that electronic trading was a rapidly growing portion of the global equity secondary commission pool.

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He shifted out of risk assets, shorted Italian government bonds and bought the yen as a flight to safety. In this case, human judgement was the key, and the shift was made “long before the rocket science told us to,” he says.

These days, Kramarczik is a consultant in trading algorithms, working from home in Frankfurt. He had a sense of déjà vu as the COVID-19 pandemic prompted market collapse. While algorithms did not cause the mess, they were “not very helpful in March,” he explains. There was the same sense of panic that he witnessed in 2007. “People think that if they use algorithms they are not emotionally involved,” he says. “But that’s not true.”

Kramarczik now uses simple algorithms to identify the best days of the month on which to buy securities, or the best hour within a day. He sees gold as a “safety net” against the massive amounts of liquidity that have been injected into the financial system. Even having reached record levels, gold can still provide “insurance for the future,” he believes.

Still, he treats algorithms as a tool rather than a guide. “If there are moves that are not in your database, it becomes difficult,” he says. “Sometimes the correlation disappears.”

Flash Crash

The benefits of algorithms are obvious: much more efficient investment research and faster trading execution. Algorithms are also used to reduce the market impact of big trades as they make it easier to subdivide orders, so the size of the trades will not be apparent.

The behavioural biases of traders, at least in theory, are eliminated. This doesn’t come for free: market exchanges still experience software glitches, the effect of which can be magnified and spread by algorithms.

“There is no argument” that algorithmic trading adds more liquidity to the markets, says Ashu Swami, chief technology officer at Apifiny, a global trading and financial value transfer network in New York. But, given their high volumes and automatic nature, “if they go wrong and are not contained, they can cause sharp swings in the market”. Swami previously led the high frequency market-making business at Morgan Stanley.

Algorithms are often used to instantly exploit even minor price discrepancies in the same security trading in different markets. The International Organisation of Securities Commissions (IOSCO) Technical Committee in 2011 found that algorithms can quickly transmit shocks rapidly from one market to the next, so amplifying systemic risk.

A classic example is the ‘Flash Crash’ of 6 May 2010 when more than a trillion dollars was temporarily wiped off US equity prices. Computer programs exacerbated the damage by selling large volumes of stocks in response to the volatility. Greater use of market-wide circuit breakers was a result.

COVID-19

Rather than a financial or market-led crisis, COVID-19 is a crisis of health and the economy. Some argue that algorithmic trading allowed a prompt, if partial, recovery from the COVID-19 lows seen early this year. The danger now, Swami says, is one of contagion.

When an algorithm goes wrong, “the other algos either see it as an anomaly and pull their quotes, or they make unreasonable trading decisions based on the outlier prices”. Swami is confident that the problem will tend to be reduced over time: “More people using algos will lead to their democratisation and lessen deleterious contagion.”

The volatility seen in March was a function of the pandemic rather than being caused by algorithms, says Ray Ross, co-head of electronic trading at BMO Capital Markets in New York. BMO, he claims, performed well for its clients while using algorithms.

BMO uses algorithms to manage execution and market impact, rather than to generate trading ideas. Given the fact that they can be used for any kind of strategy, Ross sees little danger that they will all give off the same signal. Neither does Ross see algorithms as being responsible for increased numbers of failed trades in March. He sees settlement and clearing as the more likely candidates: “my guess is that it’s at that end.”

BMO Capital Markets has been functioning pretty much as usual with people working from home, Ross says. They will keep doing so for the foreseeable future and he expects the change in working culture to outlast the pandemic. Working from home is “a real improvement” due to technological improvements in the years before the pandemic.

Still, the ability to meet face-to- face with clients is missing, he says. That is what will drive decision-making about getting people back into the office. “There’s no way to make up for personal contact.” The most likely result is a “hybrid comeback”.

High-frequency trading

For Dejan Ilijevski, president at Sabela Capital Markets in Chicago, the pandemic has expanded the opportunities to use algorithms for high-frequency trading (HFT).

“When markets are slow and flat, there are no triggers, no edges, no opportunities for profits,” he explains. “Uncertainty is the main source for volatility, and the con- text around COVID-19 is all about uncertainty.”

Since market efficiency depends on price discovery, an increase in trading volumes and market participation leads to fairer asset prices, Ilijevski argues. HFT has also led to lower transactional costs for investors, he adds.

BMO’s Ross takes a more nuanced view. He does not expect there to be a decline in high-frequency strategies. Under normal conditions, he counters, high-frequency traders reduce volatility, but at times of stress, they can serve to create a “phantom” illusion of liquidity. The order books look full, but no-one is really willing to step in and take the risk. “People think there’s more liquidity in the market than there really is.”

Liquidity auctions

Ross also points to US volatility auctions as showing a weak point in algorithms. The US had a level 1 cross-market trading halt on 9 March for the first time in 20 years, and this was followed by three more such halts.

Market-wide circuit breakers force a pause to let markets reset from extraordinary spikes in volatility. The halts led to volatility auctions designed to allow price discovery.

“That’s not really what we saw,” Ross says.

Since auctions are a key form of price discovery, lack of participation is likely to have an impact on the market once the auction is over, Ross contends. He points to post-volatility auction trading volumes and price moves which were significantly higher compared with the first minute of trading after a typical opening auction: stabilisation has still not been achieved. Some brokers were completely unable to support participation in the auctions.

The most likely explanation, he believes, is that algorithms were not coded to handle such events. The algorithm “only really knows what it has seen before,” and so chose to sit the auctions out, leaving the markets to fend for themselves.

Managing an automated options market making model for about 20 years taught Steve Sosnick that successful algorithms “need to be tweaked constantly”. A shock that is beyond the normal scope of a model “doesn’t invalidate the algorithms inside it, but it does force a larger re-evaluation of its underlying premises,” says Sosnick, now chief strategist at Interactive Brokers in Connecticut.

“Profitability should never take a back seat to risk management,” he says. “We learned the hard way who focused on reward without sufficient focus on risk.”

There’s no way that algorithms and HFT are going to go away, Sosnick adds. The key is managing control. Practitioners must “maintain risk controls that work even in extraordinary circumstances”.

Artificial intelligence

Algorithms can be divided between those that simply follow the rules laid down in the programme, and those that are linked to machine learning and artificial intelligence (AI). In the latter case, the aim is for these “self-learning” algorithms to be updated automatically in a changing situation, without human intervention.

The danger is that the speed at which these algorithms learn will outpace human capacity to manage and regulate them. According to a report in June from the International Organisation of Securities Commissions (IOSC), AI and machine learning (ML) can “create or amplify” risks for financial markets.

Regulators should consider requiring firms to have designated senior management responsible for monitoring and controlling AI and ML, the report says. Regulators should also require firms to continuously test algorithms to validate the results of the techniques used, the IOSC said. Further, compliance and risk

management functions need to be able to understand and challenge the algorithms that are produced, and conduct due diligence on third-party providers.

Ross says the danger of market manipulation is “a regulatory concern”. “The machine does not know the regulations. It could certainly come up with something that does not meet market norms.”

Still, he believes the same kind of dangers exist with human traders as with algorithms and “it’s easier to shut down the machine than the human”. Of course, rogue human traders are easier to prosecute once you find them. But who gets prosecuted when the algorithms go wrong?

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BMO said Clearpool will remain a separate brand under BMO Financial Group, and as a separate broker-dealer with barriers to secure confidential client information. Terms of the deal were not disclosed.

“From inception, Clearpool has been committed to delivering innovative trading solutions that provide complete transparency and control to market participants,” said Joseph Wald, CEO of Clearpool. “BMO’s acquisition of Clearpool will fuel our strategic growth and provide our partners with a more robust AMS that will continue empowering them to achieve better quality executions.”

Clearpool was founded in 2014 and provides primarily US-based broker-dealers with trading technology and agency execution services, with its flagship algorithmic trading management system designed to help clients meet best execution requirements. The firm has around 60 employees and more than 100 clients.

At the time of confirming the planned takeover, BMO said Clearpool will deliver ‘powerful’ new capabilities to its electronic trading platform, adding that electronic trading is a rapidly growing portion of the global equity secondary commission pool.

“BMO’s desire to deliver exceptional client experiences, drive an innovation mindset, and activate a high-performance culture will accelerate Clearpool’s product development and enhance our ability to deliver a technology that will enable our clients to own a unique and differentiated algorithmic trading solution,” said Ray Ross, CTO and co-founder of Clearpool.

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