Members of the European Parliament (MEPs) have voted through rules to control high-frequency financial trading that will see the introduction of circuit breakers and testing of the algorithms used by trading firms.
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According to a report, MEPs approved rules that will see circuit breakers introduced to automatically stop trading when there is too much price volatility. The report said algorithms used by trading firms will have to be tested and authorised by regulators and records of orders and cancellations will have to be stored and made available upon request.
Investment firms use algorithmic software to automate share trading, enabling trades to be completed in microseconds. In this context, when problems occur, they quickly escalate.
In September 2012, a paper put together by academics as part of the Foresight project on The Future of Computer Trading in Financial Markets recommended ways of reducing the risks associated with computerised trading. The report, Economic impact assessments on MiFID II policy measures related to computer trading in financial markets, looks at issues surrounding computer-based trading over the next 10 years.
One of the suggestions is to use a new type of circuit breaker which would automatically shut down trading when problems occur. The report recommended that circuit breakers should trigger as problems approach, rather than after they happen.
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This could help avoid problems caused by market volatility being accelerated by the use of computer-based automated trading. Trades can now be completed in microseconds, so circuit breakers that react to events might not prevent damage.
“Algorithmic trading and high-frequency trading have grown rapidly in use in recent years,” the paper said. “As such, they have also fuelled increases in complexity as well as new system dynamics, making markets ever harder to understand and to regulate.”