Registered: Sep 2011
02-26-12 04:15 PM
BATS Global Markets Inc, a U.S. exchange operator that is planning an initial public offering, said in a government filing cited by the Journal that it got a request from the U.S. regulator's enforcement division for information on the use of order types and its communications with certain market participants.
By SCOTT PATTERSON
U.S. regulators have launched an inquiry into the ties between stock exchanges and certain electronic-trading firms, according to people familiar with the matter.
Aspects of the probe, which is in its early stages, came to light in a regulatory filing Friday from BATS Global Markets Inc., a computer-driven U.S. exchange that is planning an initial public offering. BATS said in the filing that it had received a request from the Securities and Exchange Commission's enforcement division for information related to "the use of order types, and our communications with certain market participants."
While detailed routing and trading instructions, known as "order types," are relatively obscure, they lie at the heart of how exchanges work. Traders and investors use order types to give exchanges instructions for how their bids and offers should be treated within the exchange. Market orders, for instance, direct the exchange to buy immediately, while limit orders tell the exchange to buy or sell within certain price ranges.
But exchanges also offer far more sophisticated order types, most of which are used almost exclusively by computer-driven firms, observers say. The orders allow firms to hide orders and keep them from routing to other exchanges, for instance. Some critics argue that these complex order types give traders significant advantages over investors using less sophisticated orders.
The SEC also asked BATS for details about its information-technology systems and trading strategies, according to the filing. BATS said the probe also is focusing on communications it has had with "certain of our members affiliated with certain of our stockholders and directors." SEC spokesman John Nester declined to comment on the inquiry.
The SEC in the past year has been ramping up its scrutiny of high-frequency trading, in which firms often hold stocks for fractions of a second. The SEC is probing the algorithms the firms use to trade and other aspects of how they operate. The agency is now focusing on how those trading systems interact with the computerized matching engines at exchanges, according to people familiar with the matter.
Investors in BATS, based in Lenexa, Kan., include several large banks, as well as electronic-trading firms Getco LLC and Tradebot Systems Inc. BATS was founded in 2005 by Dave Cummings and a dozen former employees of Tradebot. Mr. Cummings is chairman of Tradebot. A spokesman for Getco didn't immediately respond to a request for comment. Mr. Cummings declined to comment.
The investigation is "in the early stages and we are cooperating with the staff," the BATS filing stated. BATS spokesman Randy Williams declined to comment on the filing, citing the company's quiet period before the planned IPO. The SEC examination also includes other exchanges, according to people familiar with the matter.
SEC Chairman Mary Schapiro said Wednesday in a Washington, D.C., breakfast with reporters that the proliferation of high-speed trading in the stock market "worries me" and that the SEC needs "to have much greater understanding of high-frequency trading."
The firms cancel the bulk of their orders before replacing them with new orders. High-frequency firms cancel about 95% to 98% of all orders, according to Tabb Group. The SEC is considering whether to place fees on order cancellations.
Asset managers have become concerned about the impact high-frequency trading is having on the stock market. They say the high number of canceled orders creates confusion, and firms often don't know if the quotes they see on their screens will vanish a second later.
"There's this underlying feeling that it's become more casino-like, and a casino implies that there's a lack of fairness and transparency, that somebody is card counting," said Andy Brooks, head of U.S. trading for T. Rowe Price Group Inc. "Investors of all types are nervous about the market environment."
BATS also said it would pay a $100 million dividend to its stakeholders upon completing its IPO. BATS's board on Wednesday approved the planned payout, which will allow the trading firms and banks that have backed the 7-year-old company to cash in on their investment. The dividend was detailed in Thursday's SEC filing in advance of a public float, which market participants expect in late March or early April.
The electronic-exchange company filed to go public last May via a share sale that would raise $100 million for the market operator. BATS is the third-largest U.S. stock-market operator by trading volume, and it runs the largest pan-European stock market following its acquisition last year of rival platform Chi-X Europe.
—Jacob Bunge and Jean Eaglesham contributed to this article.