By Lene Powell, J.D.
In the guise of a comment letter on a BATS proposal to strengthen its authority to combat disruptive trading, a commenter pretending to represent a fictional proprietary trading firm pilloried SEC Investor Advocate Rick Fleming on the subject of high-frequency trading. In the view of the commenter, the Investor Advocate implicitly suggests that spoofing strategies used by proprietary firms are legitimate trading activities by market makers and other liquidity providers. The commenter also requested no-action relief for its trading strategies, which it described as using algorithms to enter orders it has no intention of filling.
BATS proposal. BATS proposed a new rule to prohibit exchange members from engaging in or facilitating disruptive quoting and trading activity. The proposal builds on the exchange’s existing anti-manipulation authority, but more specifically defines and prohibits disruptive trading and allows for the issuance of immediate suspension orders. The proposed rule would give BATS authority to order a member to cut off exchange access to a client engaging in disruptive quoting and trading activity. The proposal also offers interpretive guidance on the types of disruptive quoting and trading activity that would cause the exchange to use its authority, including behavior tending to indicate “layering” and “spoofing” activity.
According to BATS, the new rule is needed because disciplinary actions can drag out over several years. The exchange said it should have the authority to bring expedited suspension proceedings in “obvious and uncomplicated” cases of disruptive behavior and instances where there is large potential harm to investors. The proposal cited the CFTC’s case against trader Navinder Sarao, whose alleged spoofing may have contributed to the May 2010 Flash Crash.
In December 2015, the Investor Advocate recommended that the SEC approve the BATS proposal.
Comment. Instead of submitting a straightforward comment on the proposal, the commenter adopted the persona of “G.T. Spaulding” from “Big Boy Pants Trading,” which is described as a “proprietary quantitative liquidity providing trading firm.” Spaulding said the firm appreciated the discussion of spoofing and market making in the comments on the proposal. Spaulding was especially pleased that the Investor Advocate considered proprietary market makers worthy of advocacy since they are investors too, if only for microseconds at a time.
“We are glad to see the Investor Advocate doesn't want anyone to confuse legitimate quantitative liquidity-providing market maker trading strategies like ours with even the shadow of an outline of a whisper of spoofing activity,” said Spaulding, adding that market manipulation is mostly conducted by foreigners.
No-action request. In the request for no-action relief, Spaulding asks that the Division of Trading and Markets not recommend any enforcement action under Section 9(a)(2) of the Exchange Act for carrying out its trading strategies in National Market System securities.
“Specifically, Pants requests this relief for instances where Pants trading algorithms generate and send to securities exchanges bids and offers which Pants has absolutely no intent to fill and which will only be filled by accident if and only if Pants is not fast enough to cancel them,” wrote Spaulding.
It’s unclear who “G.T. Spaulding” actually is, but given the letter’s absurdist tone, the pseudonym may be a reference to Groucho Marx, who played the character “Captain Geoffrey T. Spaulding” in the movie “Animal Crackers.” Asked what the “T” stands for, Spaulding responds, “Edgar.”