In the latest regulatory action addressing high frequency and other algorithmic trading, a recent FINRA Regulatory Notice seeks comment on a proposed rule change under which persons associated with a member firm would be required to register as Equity Traders under Rule 1032(f) if they are primarily responsible for the design, development or significant modification of an algorithmic trading strategy that generates orders routed to an exchange or traded over the counter. Persons responsible for supervising this type of activity must also register.
The proposed rule change addresses FINRA’s stated concern that persons responsible for developing or modifying trading algorithms may lack adequate knowledge of the securities rules and regulations and that this lack of knowledge could result in trading algorithms that do not comply with applicable rules. The Regulatory Notice states, for example, that FINRA has observed algorithmic trading strategies that generated trading activity apparently violating Regulation NMS, Regulation SHO, Rule 15c3-5 and other market and investor protections.
The proposed rule would cover developers of all types of algorithmic trading that generate orders into the marketplace without human intervention. These include arbitrage strategies; strategies that involve simultaneously trading two or more correlated securities; algorithms that divide a large “parent” order into smaller “child” orders; trading strategies that become more or less aggressive based on trading volume in particular securities; weighted average price trading strategies; strategies that create or liquidate baskets of securities; and trading strategies that generate orders for alternative trading systems.
Algorithms that do not generate actual orders would not be considered an algorithmic trading strategy under the proposed rule change. For example, algorithms that merely generate trading ideas, but not orders, would not be covered. An order router alone, such as a standard order router that only routes retail orders so as to comply with Regulation NMS, also would not be covered. However, an order routing strategy used to determine the price and size of routed orders, in addition to destination, would be considered an algorithmic trading strategy subject to the new rule.
The proposed rule change would require registration of only those persons “primarily” responsible for the design, development or significant modification to algorithmic trading strategies, and is not intended to reach, for example, junior developers who write software code at the direction of a registered person.