Regulation of High Frequency Trading – A Comparative Study with

reference to India and UK.

BY:

ATUL LAL
2017117
SEMESTER 8

NAME OF THE PROGRAM: BA LLB (Hons.)

NAME OF THE FACULTY MEMBER: Dr. Dayananda Murthy CP

DAMODARAM SANJIVAYYA NATIONAL LAW UNIVERSITY,

NYAYAPRASTHA, SABBAVARAM, VISAKHAPATNAM,
ANDHRA PRADESH- 531035.

1
 Contents
ABSTRACT...............................................................................................................................3
Introduction................................................................................................................................4
How HFT works?.......................................................................................................................5
Market Making Strategy.........................................................................................................6
Tape Trading Strategy............................................................................................................6
News Reading Trading...........................................................................................................6
Low latency Strategy..............................................................................................................7
What Are Systemic Risks...........................................................................................................7
Regulations regarding HFTs by SEBI........................................................................................9
Co-location facility...............................................................................................................10
Free of Charge Tick-by-Tick data feed................................................................................11
Order to Trade Ratio (OTR).................................................................................................11
HFTs in United Kingdom.........................................................................................................12
Legislations Regulating HFTs..............................................................................................12
Risk in relation to HFTs in UK................................................................................................16
Benefits of HFTs......................................................................................................................16
Comparing Regulations on HFTs in UK and India..................................................................17
Conclusion................................................................................................................................18

2
 ABSTRACT
Technological growth is said to be exponential. The paper is titled ‘Regulation of High
Frequency Trading- A comparative study between India and UK. This paper will give a brief
outline about what do you mean by HFTs? HFT is defined as the form of trading which
employs algorithms for decision making, order initiation, generation, routing or execution,
for each single transaction without any human interface. It also uses high speed connections
to markets for order entry known to us as Algorithmic Trading commonly known to us as
algo trading which is a form of HFT i.e. conducted through a programmed logic which
allows creation of an order without any human intervention through the use of a signal
which is received like security trading at a given price level. These algorithms which are
programmed to run faster than normal trading feature. They are faster at processing
information from a variety of sources in order to decide anything particular related to
trading activities. Followed by Risks associated with such type of Algo trading activities. In
the third part this research paper will discuss about how High Frequency Trading is
regulated in both India and UK and finally it will conclude by comparing the regulations of
HFTs in India and UK.

3
Introduction
In the post-liberalization period, the Indian capital markets saw tremendous growth; it is one
of the most profitable destinations for domestic and international companies to expand and
invest in. There is also a growing use of computer-based trading in trade as technology
becomes embedded in every part of society. Computers have been evoking mixed reactions
since their invention. On the one side, education, business and social life have been
transformed; computers have an increasingly disruptive capacity as is evident from the e-
commerce boom. An important example of latter computer functions is the significant rise in
cyber hacks and crimes. But the disruptive effect of computers in stocks, from the
dematerialization of stocks to the first electronic public offering, cannot be overlooked (E-
IPO). At the same time, they have also created a potential for the growth of computer-aided /
automatic commerce, with effects in various jurisdictions which may distort the market
through their uncontrolled usage. These automated machine trading systems are called HFT
(hereinafter referred to as, HFT).1

HFT is defined as the form of trading which employs algorithms for decision making, order
initiation, generation, routing or execution, for each single transaction without any human
interface. It also uses high speed connections to markets for order entry known to us as
Algorithmic Trading commonly known to us as algo trading which is a form of HFT i.e.
conducted through a programmed logic which allows creation of an order without any human
intervention through the use of a signal which is received like security trading at a given price
level.2 These algorithms which are programmed to run faster than normal trading feature.
They are faster at processing information from a variety of sources in order to decide
anything particular related to trading activities.

We can say that HFT is basically scheme by which computer experts with pre programmed
algorithms can cheat more traditional investors. HFT need to be regulated because it is a
combination of both technological innovation and human nature. While other characterizes it
as a market-moving mechanism through which exchange of securities becomes easy and fast.
HFT is no where defined in any of the statutes in India, however SEBI took an approach to

1
Sub-Committee on Automated and High Frequency Trading, CFTC TECHNICAL ADVISORY
COMMITTEE
2
Terrence Hendershott& Ryan Riordan, „High Frequency Trading and Price Discovery‟, REVIEW OF
FINANCIAL STUDIES, August 2014, Pg. 2267-2306.

4
define HFT as Any order which is generated using pre programmed algorithm or logic shall
be known as algorithm trading.3

In India High Frequency Trading has been allowed from the year 2008 by the SEBI, HFT is
done through Co-location technique. The co-location technique allows different entities to
access the data before other entities. It also minimizes other latency and network issue; in
Indian scenario it is being provided by stock exchanges to trading members where they can
locate systems within or in close proximity to the premises of the stock exchange. The co-
location facility which is being provided to trade members they take an undue advantage over
the rest of traders.4 Therefore, there is no fair playing in the field of trading. HFT’s have been
identified to pose a risk to not just the other traders but also to the market as a whole and
these are known as systemic risks.

How HFT works?

HFT is a pre-programmed algorithm that do automated trading without any human
intervention. For a Layman, it can be said that machines are used to take decisions on their
own and they decided what to buy or what not to buy and sell. They doing so with the use of
high-speed internet and by these algorithms they can predict on what will happen in the
market to the trades. In India, National Stock Exchange is the largest stock exchange and it is
said through studies that one third of the trades are done through algorithm trading or HFT.5

High Frequency traders use these pre-programmed algorithms to profit them from price
movements which are caused by these large institutional trades. HFT can be explained
through a example so when a mutual fund is selling a thousands of shares of a particular
stock, the price will dip and HFTs would buy on that particular dip and would sell these
shares just after few minutes at the normal price by this way they gain profits from it. 6
Similarly, when a pension fund buys million of shares in this scenario HFTs will short-sell
the stock hoping to grab the profit. Short selling means borrowing the stocks that you do not

3
Trends, Concerns and Prospects Of Algorithmic Trading In Indian Financial Markets, Dr. Puttanna K, Ijmie,
Issn No. 2249-0558
4
Sharma, Rachana (September, 2012) Algorithmic Trading: A Study, The International Journal's Research
Journal of Science & IT Managemnet Volume: 01, Number: 11, pg 23-28
5
1 Paul Zubulake and Sang Lee, The High-Frequency Game Changer: How Automated Trading Strategies Have
Revolutionised the Markets (Hoboken, NJ: John Wiley & Sons, 2011), Vol.1, pp.5–7; Christoph Lattemann,
Peter Loos et al, “High Frequency Trading” (2012) 2 Business & Information Systems Engineering 93.
6
https://www.moneycontrol.com/news/business/personal-finance/how-does-high-frequency-trading-work--
1461237.html, accessed on 03.05.2021

5
own and sell them at a profit and later but the stocks to return it to the borrower i.e.
stockbroker.

HFTs are basically those machines which programmed such that they could process the
electronic data which being feed to them by various data points to make a decision relating to
trading.7 These trading decisions are later converted into orders which are executed through
these algos within milli seconds which is impossible for a human brain to calculate. The
process of collecting information and then executing it in a form of orders this is known as
algorithm trading or commonly known as algo trading. Every time a market sees a downfall
or a quick fall HFTs are blamed for it. HFTs uses various types of logics and strategies on
which such codes are written and performed. Some of the most common strategies are:

Market Making Strategy

HFTs are used globally because various stock exchanges used their services to provide
liquidity and in order to that they pay them to do so. Higher Liquidity will attract other
traders to the exchange as the impact cost is very low. Market making is the simplest form
trading strategy compare to other strategies, as it involves placing a buy and sell order in
order to capitalise on the bid-ask spread. As soon as the order is filled the algo will cover the
position with a small profit. HFTs provide the market analysis and it therefore, reduces the
cost of trading for other participants in the market.

Tape Trading Strategy

This strategy is the biggest advantage of the HFTs as it collects voluminous information and
later de-code it to predict the stock movements in terms of their orderly flow. These algos not
only read the actual trades but also peep into the order books displayed by the exchanges. So
as soon an institution or a person places a big trade order to buy or sell, these algos comes in
line ahead of the order of the fund, so the institutional buyer also don’t know that it is buying
it at a much higher level than expected.

News Reading Trading

Now, these pre programmed algorithms are programmed in such a way that they can even
interpret the news and could buy or sell the stocks much before a human to react. Say if RBI
governor introduces that it would not cutting any interest rate, a programme scans various

7
High-frequency Trading and Flash Crash: The Impact on Capital Markets and Corporate Governance in the
Indian Scenario [International Company and Commercial Law Review], November 2018

6
news related feeds and will in orderly interpret it and execute it in fraction of seconds giving
no time for a human being to finish reading the headlines.

Low latency Strategy

The algorithms use such strategies in capital markets to react to the market events within a
fraction of seconds than their competitors to increase the profit in a share. Here win and loss
is decided in a matter of milli-seconds.

While popularity of HFTs have increased and the volume of trades are being conducted,
various market traders are still concern about the effect from such kind of trading that it could
have on markets. HFTs are identified to pose a risk in the market and such risks are known as
systemic risks.

What Are Systemic Risks

If a flood of pessimism leads to a general decline in the prices of financial assets and
generates a market for liquidity and threatens to disrupt the financial system at large, it is
referred to as a systemic risk.8 This is because HFT companies have potential to trigger or
encourage massive financial losses and/or reputable risk harm, which leads to industry loss of
trust or confidence in that particular company, as a result of its strategy — passive market
making, arbitration, systemic and directions. This trend towards infringements of compliance,
corporate governance/fraud or inability to handle risks in the long run leads to a systemic
danger. The latest note from the Senior Supervisory Group on something trading discusses
the risk to intensify the systemic risk in this trading form and its cascade capacity to have
enormous market effects. The complexity of market relations between these small HFT
companies as well as other market players further increases the possibility that systemic risk
can spread over very short time periods across venues and asset classes.9

The origin of systemic risks in India can be traced through the famous incident of Emkay
Global in the year 2012. The amount of orders was exceeding more than 6500 million INR.
Owning to the error, the stock prices fell sharply for a period of time. Later, SEBI merely
inspected the situation and passed an order where it restrains the Emkay Global from trading
further until the matter was solved. Securities Appellate Tribunal was of the view that this
was because of the human error and not the HFTs. After this there was an un-disclosed
8
Kern Alexander et al, „Global Governance of Financial Systems‟, OXFORD, 2006, Pg. 24.
9
Gary Shorter et al, „High-Frequency Trading: Background, Concerns, and Regulatory Developments‟,
CONGRESSIONAL RESEARCH SERVICE, June 19th, 2014, available at:
https://www.fas.org/sgp/crs/misc/R43608.pdf (Last Visited on September 12th, 2015).

7
settlement between Emkay Global and the NSE. However, this incident which took place in
the year 2012 that the securities market in India is also vulnerable to the potential
manipulation by the Algos. Following this a number of attempts are made by SEBI through
various circulars, regulations which involves issues relating to Algo in order to monitor the
functioning of trader on the market.

Liquidity is known as the facility for trading securities at prices that represent the underlying
conditions of demand and supply. HFT increases its efforts to improve the rapid price
discovery massively with the added facility of co-positioning. Since an algorithm is set to
detect a small change in stock values, it either executes a purchase order or a sale order
depending on the instruction, when the change takes place. The machine captures these
marginal changes and then places the necessary orders. In this way, the price discovery
process is manipulated. Early price discovery can impact market liquidity, as shares can be
sold under certain conditions before they are fully price-scaled. HFTs, known to influence
price discovery processes, can therefore manipulate markets easily, affecting liquidity
directly.10

Now, the question arises why does HFTs increase the systemic risk. This is because of some
reasons. Firstly, In the current markets there is a large amount of algorithmic HFT activity;
the effort to overlook competition is an integrated feature of most algorithms. Algorithms will
respond to market conditions immediately. In this way, during turbulent markets algorithms
can expand their bid spreads significantly (to avoid being forced to take trading positions) or
temporarily stop trading altogether. Secondly, the degree of convergence in the world
economy between markets and asset classes is increasing, a large market or asset class
crumbles frequently to other markets and asset classes in a chain reaction. 11 A major
contributor to over-volatile markets is Algorithmic HFT which, over the long term, may
encourage investor confusion and influence consumers' trust. Investors are left questioning
why such a drastic change occurs when the market crashes abruptly. During the news gap,
which often occurs during these periods, big businesses are cutting their trading positions to
reduce risk, placing downward pressure on the markets. More stop losses are triggered when
stocks fall, and a downward spiral is created by this negative feedback loop. The growth of a

10
Subhankar Chakraborty, „High Frequency Trading: Enforcing the Right Controls‟, WHITE PAPER: TATA
CONSULTANCY SERVICES,
11
The Need for Speed: Regulatory Approaches to High Frequency Trading in the United States and the
European Union Megan Woodward

8
beary economy is rattled by the loss of stock market wealth and recessionary signals from a
significant collapse of the markets.12

Regulations regarding HFTs by SEBI

In order to curtail the misuse of Algos, guidelines were enforced through the stock exchanges
i.e. BSE and NSE by SEBI. SEBI has proposed the Broad Guidelines on Algorithm trading in
the year 2012 starting with defining what is an Algo. Algo is basically any form of trading
that happens through a pre-programmed logic or codes. These guidelines have placed a
number of obligations on the stock exchanges and the trading agencies.13

In terms of the exchanges, “they are obligated to ensure that they are able to handle heavy
order loads, where there should be economic disincentives to discourage a high order-to-trade
ratio. This should maintain a minimum price and quantity thresholds by ensuring that all
brokers follow the minimum risk possible in relation to the guidelines provided therein.
Additionally, the grounds on which the traders have to ensure that minimum compliance has
been achieved is on the basis of price, quantity, order value, cumulative order value checked
and automated algorithms that have been checked. If any automated trader wishes to begin
automated trading, they must seek prior approval from the exchange and provide an
undertaking. In addition to this, all transactions must be uniquely identifiable and exchanges
shall maintain a log of the same.”

In 2013, the guidelines were extended further to include the auditing requirements, whereby
Algo traders had a duty to provide SEBI with all information in compliance with its
shareholder protection obligation. This knowledge would guarantee a strict screening
standard, whereby these traders' activities could be analysed to avoid resource abuse. The
stock exchanges and brokers must operate on the basis of these responsibilities. While all this
was given, the real powers of SEBI for not complying with or implementing the guidelines
were not clear. Within a month of the stock exchange to enforce the rules, no further
explaining of how such activities could be carried out on the secondary market was made
clear. While the guidelines are in effect, there is currently no clear indication of issues with
respect to the particular practises prohibited. In addition, issues such as trade cancellation
which traditionally have affected the functioning of stock markets in India need to be
addressed.
12
Ash Booth, The Difference Between Automated, Algorithmic and HighFrequency Trading, DR. ASH
BOOTH BLOG (Nov. 16, 2012)
13
SEBI, Broad Guidelines on Algorithmic Trading, CIR/MRD/DP/09/2012 (2012)

9
In 2016, SEBI proposed basic Algo guidelines complemented by comprehensive 2018
guidelines that are still pending. The recommendations that SEBI had to take into
consideration include issues relating to special technical facilities that would be enforced to
validate orders, cross-referencing, server maintenance and server locations. They also
suggested more recommendations for transparency that would be consistent with
international standards to assess the real effectiveness of Algo-traders regulating. Additional
recommendations were introduced in 2018. The co-location facilities, which enable stocks
exchange to identify traders' locations and identify their proximity to trading servers, are one
of the most important guidelines. Additional modifications, such as tick-by tick and unique
identifiers, are directed at defining traders' transactions and enabling any trader on the stock
market to look at their orders. In addition, all software needs to be tested before release to
prevent vulnerabilities and bugs from hampering the operation of the exchanges. A number of
SEBI guidelines point to insecurity concerning the regulatory arrangements for HFT and
Algo. This means that it still remains to be seen whether more guidance will also boost the
position of traders and exchanges.

SEBI in its discussion paper in the year 2016 has suggested about the co-location facilities.
Such facilities will enable stock exchanges to identify traders.14

Co-location facility
SEBI has recommended the allocation of a server in the facility or area provided for the
member being assigned to the co-location, and all costs for leasing the co-location facilities
reserved for payment beforehand, and the institution also has to pay additional data access
costs, etc. There are few basic costs according to an approximate estimate. For the
establishment of co-location facility with the server and the fibre cable, SEBI estimated that it
costs an Institute Rs 10 lakhs per year. 15 The then practise has been found by SEBI to be
ineffective because an institution Rs 10 lakhs per annum costs to build the server and fibre
cable co-location facility and pay the rent for it In view of the situation, small and medium-
sized institutions cannot afford these facilities SEBI created a proposal under which the SEBI
proposed to share the co-location services among the institutions, as the co-location is
expensive individually, with co-location shared by medium-sized and small institutions. It is
estimated that the fee paid by the SEBI to these institutions that share the co-location space
will be 90 per cent less than the individual institutions maintain co-location services, this

14
Measures for Strengthening Algorithmic Trading Framework, SEBI Working Paper.
15
Ibid

10
creates a good opportunity for small and small institutions to set the unit, and they can make
up for high frequency trading and overall expenses are divided and paid by the institutions.16

Free of Charge Tick-by-Tick data feed

Under the arrangement of Tick-by-Tick an clear view would be given with regard to the
complete order-book of the institutions which comprises of information relating to the orders
i.e. number of orders cancelled, number of orders modified and the trades which are going on
live or real-time basis this would be giving an great opportunity for the institutions for having
a track over the transactions without spending much over manging the transactions.17

The Tick-by-Tick snapshot arrangement is generally subscribed by the High Frequency

Trading institutions as for the normal human beings it is not possible to buy or sell shares in
micro seconds while observing the updates of the Snapshot so the High Frequency trading
institutions can take advantage of the Tick-by-Tick arrangement which enables the traders to
react to every change which is obtaining real-time in the order books previously for the Tick-
by-Tick snapshot arrangements extra fee have to be paid by the institutions however due to
the requirement of payment to be made for availing the Tick-by-Tick prior to the 2016
circular there has been hesitation for use of this arrangement by the medium and small
trading institutions the members or institutions whom does no avail this Tick-by-Tick data
feed would be at great disadvantage compared to the members whom are availing the Tick-
by-Tick arrangement considering the inequality in terms of access to the information which
enables unfair market advantage the SEBI came up with this solution of providing free Tick-
by-Tick arrangement.

Order to Trade Ratio (OTR)

SEBI proposed that algo traders placed within 0.75% of the Last Traded Price may be
exempted from the framework for imposing penalty for high OTR. The OTR framework
should also be extended to orders that are placed in the equity segment and under Liquidity
enhancement scheme.

In the year 2020, SEBI has issued a circular with an objective that it would regulate order to
trade ratio wherein SEBI has clearly stated that in this circular the OTR means that the ratio
of the total volume of all posted orders to the number of orders filled. A ratio of 50% would
indicate that only half of the total orders got filled and the rest remained pending or got

16
Circular No. CIR/MRD/DP/09/2012 dated March 30, 2012, on ‘Broad Guidelines on Algorithmic Trading’
17
Supra Note 14

11
cancelled under the guidelines issued on Algo Trading. The Slab for OTR was also raised
from 500 to 2000 and after increasing the slab the SEBI instructed not to use the increased
slab of OTR for the first twenty minutes of market being opened. It means that they are
allowed to use it once 20 minutes have passed.

HFTs in United Kingdom

A challenge related to HFT specifically in UK is that there are undoubted many benefits
related to HFT but algo trading is not being honestly assessed by all the trading players, is
where the balance lies between the potential benefits versus costs and the way in which we
manage the risk/reward equation. Some of the benefits of HFT in UK are the link between
market efficiency and competition of competitors, liquidity from reductions in bid/offers and
very less transaction costs.18

There are similar circuit breakers on a range of other European stock markets. Euronext, a
pan-European exchange headquartered in Amsterdam, Brussels, London, Lisbon and Paris,
and the German Stock Exchange are using this security measure in particular. Like the LSE,
Deutsche Börse analyses the volatility of single stock and stops trading in the case of prices
outside a defined market corridor for two minutes.19 However, if market regulators are to
affirm the true nature of exchange, this timeline may be extended. However, since companies
are going to trade throughout Europe, more can be done if these policies are harmonised
across the European Union to enhance market performance.

Globally speaking it is not an easy task here to find a perfect balance between the risk/reward
equation in HFT. There were not set of regulations in UK for that, and this explains why
HFTs regulations differ from countries to countries. Like, In Germany Firms which are
engaged in HFTs are expected to apply for a licence to operate and fees are being charged if
system usage exceeds the decided limit. Other tools such as order to trade ratio and Minimum
tick sizes are also being introduced.

Legislations Regulating HFTs

In UK, High Frequency Trading are currently governed by UK financial services laws, EU
Regulations and Directives of stock exchange rules.

18
Algorithm Trading and High Frequency Trading Boon or Bane, IJAMEE, ISSN- 2349-4468
19
http://www.keepcalmtalklaw.co.uk/regulating-high-frequency-trading-the-uk/ , accessed on 04.05.2021

12
There are two domestic legislations in UK which in particular governs the market
manipulation. They are the Financial Services and Markets Act 2000 (‘FSMA’) and the
Financial Services Act 2012.

Section 118 of the FSMA20 can be used to prosecute those persons who abuse the market.
Further it also says that it gives a ‘a false and misleading impression as to the supply of and
or demand for qualifying investments’ so we can interpret that it involves placing of orders
and it gives an opportunity to the HFTs firm to enter the market and then exploit the price
movements.

These meanings of market manipulation have only been updated in the Financial Services
Act 2012. Section 90 provides that the market manipulation is due to any act or commitment
in any course that gives the impression that the market is false or deceptive in the price or
value of any investment concerned. Section 90(2) FSA states that the accused is required to
designate, induce or refrain from acquiring, disposes of, subscribing or exercising, or
exercising any rights granted on the investment, or in accordance with section 90(3) know
that the accused perception is false, misleading or misleading. Section 90(2) FSA provides
that it requires the accused by creating impression that they intend to induce another
individual to acquire, dispose of or subscribe or to refrain or exercise any of the rights of an
accused person, or in accordance with Section 90(3), that they know that the impression is
false or misleading or that the impression is a hindrance to an impression.21

The Financial Instrument Markets Directive governs partially the UK financial services
(MiFID).22 The Directive was implemented in the UK by FSMA as well as FCA legislation,
and has been in effect since November 2007. The goal of MiFID was to harmonise EU rules
on the provision and operation of investment services. MiFID has especially signalled the
EU's push to make financial markets transparent. In accordance with Article 25(2):

“Member States shall require investment firms to keep at the disposal of the competent
authority, for at least 5 years, the relevant data relating to all transactions in financial
instruments which they have carried out, whether on own account or on behalf of a client.”23

20
The Financial Services and Markets Act 2000.
21
Section 90, The Financial Services Act, 2012.
22
MiFiD Guidelines, 2007
23
Article 25, MiFiD Guidelines.

13
In the United Kingdom, this enables FCA (as the competent authority) to access information
if it wishes to examine potential market manipulation instances. Moreover, Article 29 calls
for transparency before trading: investment companies are compelled to report stock
contracts and quotes in real time. The prices, volume and time of all the trades in listed
securities, cash shares and bunds are also required by Articles 28 and 30 to be published by
trading companies. These obligations are intended to publish all information concerning
investors' trading opportunities. It is hoped that this would allow the best price discovery and
allow companies to carry out the best orders for their clients.

These regulations are increased by the EMIR, which came into force in 2012, and expand the
disclosure requirements under Article 9 to many other securities, including interest rate,
foreign exchange, equity, credit, commodity derivatives. The EMIR, which has several
provisions which have been implemented for 2013 and 2014, has been implemented since
2012. EMIR expands regulators' capacity in the United Kingdom and in the EU to abuse
police markets.

The London Stock Exchange (LSE) also has long-term safety catches, stopping unusually
volatile trading. Circuit disruptors kick in if the share price of the LSE exceeds or is below
the reference price of the given percentage. This is subjectively established but the LSE
observes that a typical percentage change for a high-liquidity stock will amount to 5%, which
will amount to 25% movement for a low-liquidity stock. The objective of circuit breakers is
to prevent a Flash Crash case, as the exchange will interrupt enormous market fluctuations.

This really occurred in August 2010 just a few months after the Flash Crash. When circuit
breakers began losing almost 10 percent of their value, trade in five LSE-listed stocks
stopped. All orders of sale have been cancelled, and after a five-minute break the stock trade
resumed. There was no knowledge of the reason for the price drop. It was, however, proposed
to look like a 'fat finger,' in which a dealer moves an incorrect key, sequence of keys, or a
failure of a trade algorithm that produces orders automatically.

There are similar circuit breakers on a range of other European stock markets. Euronext, a
pan-European exchange headquartered in Amsterdam, Brussels, London, Lisbon and Paris,
and the German Stock Exchange are using this security measure in particular. Like the LSE,
Deutsche Börse analyses the volatility of single stock and stops trading in the case of prices
outside a defined market corridor for two minutes. However, if market regulators are to
affirm the true nature of exchange, this timeline may be extended. However, since companies

14
are going to trade throughout Europe, more can be done if these policies are harmonised
across the European Union to enhance market performance.24

When comparing EU regulations which are also applicable to the UK regarding algorithmic
source codes, too, are much more comprehensive than regulations that are set up by the SEBI.
While EU regulators require traders to submit source codes, Indian regulators have not sought
of anything. They have just issued some guidelines relating to algorithm trading in their
working papers.25

“In UK, it is further governed by the Best Execution Principle under MiFiD. This was
formulated in the year of 2007 with the aim of protecting investors; sustaining the integrity of
price formation; increase access to transparent markets and promoting competition. There is
also another test known as the Multi Factorial Test, it is governed under Article 21 of the
MiFiD, it requires firms to take reasonable steps to obtain the best possible result for clients
when executing orders, taking into account price, costs, speed, likelihood of execution and
settlement, size, nature or any other consideration relevant to the execution of the order. FCA
found that in the year 2016 36 UK institutions did not fully understand or apply the best
execution factors properly. Most investment firms lack the capability to effectively monitor
order execution or identify the client outcomes”

In Michael Coscia’s case, he was the HFT trader at Panther he was subject to enforcement
action by the FCA in the year 2013, he was fined 600,000 Pounds for deliberately
manipulating of the commodities market which further amounted to market abuse under
Section 118(5) of FSMA. In that case, the FCA found that, for a six week period between 6 th
September 2011 and 18th October 2011, Mr. Coscia used an algorithm programme that he had
designed to engage in a form of manipulative trading known as layering the order book. This
means that it will rapidly place and cancel large orders with the intention of creating a false
market in oil futures. This was said as market abuse.

A firm engaging in a HFT currently takes out the advantage which are given as a form of
exemptions under Articles 2 of MiFiD will no longer be applicable to do so as these articles
were revised. MiFiD II will impose licensing requirements on HFTs, order flagging rules and
order to trade ratios as well as obligations on market-makers. A firm engaging in algorithmic
trading will be required to have in place effective systems and risk controls to ensure its
24
Artemis’ Foster: MiFID II research rules will ‘disadvantage’ European bond managers, INV. WEEK
25
Fama, The Behavior of Stock-Market Prices, supra note 100; see also Gianluca Virgilio, High-frequency
trading and the efficient market hypothesis,

15
trading systems are resilient and have enough capacity, are subject to appropriate thresholds
and limits which prevent sending erroneous orders.26

Risk in relation to HFTs in UK.

 Market data arbitrage: where HFT uses its speed to use new knowledge more
quickly than anyone else — usually buying and selling stocks at low prices as prices
increase.

 Pinging: placing small orders (about 50 shares) to collect if large orders can be
purchased and sold at a higher price.

 Spoofing or Layering: placement of large (and subsequently withdrawal) orders to

boost stock prices, create a market impression, lead to a further increase in stock, and
ultimately higher price stocks.

 Quote stuffing: Inundating a market with confusing orders from traders, causing it to

lose its competitive edge.

 Momentum ignition: Put orders to trigger artificial price movements, lure other high-
frequency traders, respond to the move and take early advantage of price change.

Benefits of HFTs
The dynamics of the market and the price shifts in any second are very unpredictable. Thus
HFT allows the customer the opportunity to save him time and also from uncertainty, as he
will most likely receive the order at the same quoted price. By exploiting marginal price
differences divided by one second, HFT allows traders to trad more frequently. It offers
traders the ability to make small-scale profits with any business and yet achieve considerable
profits at the end of the day because of extremely quick speed and large trading shares.

It also benefits from fast trading rates, offers execution accuracy and costs considerably lower
than the use of a human trader. It increases the liquidity of the market. HFT will leverage its
market position to allow investors to enter markets more effectively at less cost, thanks to a
competitive advantage and increased liquidity.27 As Matt Levine of Bloomberg stipulates, it
makes markets more competitive at the heart of high-frequency trading. It also aims to

26
Kinderman Et Al., Algo And High Frequency Trading Under Mifid2 – A Few More Pieces In The Puzzle,
Simmons & Simmons Elexica (2017)
27
Sharma, Rachana (September, 2012) Algorithmic Trading: A Study, The International Journal's Research
Journal of Science & IT Managemnet Volume: 01, Number: 11, pg 23-28.

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efficiently harvest and give value to amateur traders. HFT is in the centre of a broader
discussion on productivity vs distributional impacts on modern markets. Even at that time,
while retail investors in contemporary markets did not have access to millisecond information
that HFT companies protect through algorithms, they did have access to much more than they
had in the 1990s. In addition, researchers found that HFT decreases bid claim expenditure or
the difference between a buyer's highest price and a seller's willingness to market the asset is
the lowest price. Investors will thus enter and leave the market more economically and
efficiently and catalyse an economically more effective distribution of resources.28

Comparing Regulations on HFTs in UK and India

In United Kingdom, It follows EU regulations even tough it exited from the EU, the laws or
rules and regulations made by EU are still followed by UK even though they can change it
through their own parliament by they haven’t done it. Now, EU regulations regarding
algorithms source codes are too comprehensive in nature, they to have particular punishments
under their domestic legislation on everyone who abuses the market, while in India it is not
the case, in India SEBI is the regulatory body. Through its various regulations and circular it
has defined the term Algorithm Trading but it has nowhere defined the term High Frequency
Trading commonly known as HFTs. If anyone by using HFT method cause any abuse in
market no particular punishment is defined for him under various legislations related to
financial securities.

Secondly, UK regulations have taken a much more intensive approach comparing it with
Indian Regulations on HFTs. MiFiD II requires transparency and it digs deeper by requiring
traders to limit their activity in certain financial instruments to particular regulated platforms
and by setting up strict organizational requirements on trading firms and venues. While in
India, there is no such approach which is being taken by them.

In India SEBI has only defined the term algorithm trading, how it is being carried on and
some basic guidelines on what risks HFTs involves. While comparing it to UK it is not case,
there they have not even defined HFTs but have also given a detailed guideline on this
particular subject which is already being discussed above.

In India, SEBI from time to time has given recommendations by following the model of
European Securities and Market Authority (ESMA). They have recommended to what they
call as tick by tick feed that needs to be provided free of charge. This service would allow all
28
Ibid

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interested market participants to have a view of orders being carried out on the stock
exchange including the outcomes which will arise due to them. The SEBI has also
recommended for a maximum order to trade ratio, this is already being discussed above. This
will ensure that every transaction is attributable to a particular trader.

Conclusion
It can be true that HFT will be a part of the future, and that the reality of HFT on the market
challenges also the fact that it will be prepared for the future rather than waiting for this event
in advance. The need to control requests and, rightly, the regulators desert with great urgency
in a country such as India, where there was no big high frequency trading before 2008 and
where HFTs constitute 1/3 of the total volume trading in India while in the UK its usage is
more than 60%.

Both India and the UK has taken efforts to define and regulate HFTs in their jurisdictions.
Comparing Regulations of both countries, it can be seen that efforts differ primarily in scope
while UK has taken steps in intervening at the operational level but as compare to India, it
has just given recommendations through its working paper or through circulars. The
regulations in UK are more stringent as compare to that of India, In UK and other countries
like US, EU etc. they have taken more than one step to define and regulate the HFTs.

A learning curve is the regulation of such a new system. Only after the leaks have been found
can effective plugs be designed. Although in some cases HFTs are coercive and even
destructive, laws are enforced by different regulators around the world that can effectively
avoid these practises. SEBI must artfully imitate these regulations to make enough room for
this type to be transformed into a full trading branch. Technology will finally phase out its
arbitrators fully and then SEBI should not only be able to monitor/regulate HFT, but also
allow it to run freely, with correct rules. Though it is quite bit risky but the approach taken by
India is to not just regulate it but also let it be seen as a trading options for other traders as
well. HFTs though they are risky in nature but they will surely promise a bright future if it is
being properly regulated.

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