Just days after New York Attorney General Eric Schneiderman warned of special prosecution against high-frequency traders who use data to trade before the rest of the market, reports have emerged that traders appear to have benefitted mere milliseconds after last week’s Federal Reserve “Tapering” announcement.
CNBC reports that traders in Chicago appear to have had advanced knowledge of the Fed’s decision at the near instant that Fed Chairman Ben Bernanke announced plans to continue pumping money into the US economy. This resulted in “as much as $600 million in assets chang[ing] hands in the milliseconds before most other traders in Chicago could learn of the Fed’s September surprise — a sharp contrast to the very low volume of trading ahead of the Fed’s decision.”
Thanks to post-trade analysis from firms such as Nanex, the historical data solution provider, these trades raise red flags. According to the analysis of Nanex:
We’ve learned that the speed of light (information), takes 1 millisecond to travel 186 miles (300km) … Our experience … tells us that it takes at least 5 milliseconds for information to travel between Chicago and New York. Even though Chicago is closer to Washington DC than New York, the path between the two cities is not straight or optimized: so it takes information a bit longer, about 7 milliseconds, to travel between Chicago and Washington. It takes little under 2 milliseconds between Washington and New York.
“… Which means we should see a reaction in stocks (which trade in New York) about 5 milliseconds before a reaction in financial futures (which trade in Chicago).”
However, upon close analysis of millisecond time-stamps of trades in stocks and futures (and options, and futures options, and anything else publicly traded), we find that activity in these instruments exploded in the same millisecond. This is a physical impossibility.
This won’t be too hard for regulators to track, says Aite Group analyst Robert Stowksy. With historical data monitor systems flowing into regulators like FINRA, these trading firms and thei traders might be hard pressed to explain how they just happened to make the right trade when the information was released.
“The question here is what information people had access to. Insider trading is a legal term that has a specific legal definition. Some critics may feel that HFT has been vehicle for what the SEC says is an illegal act,” Stowsky tells Traders Magazine.
One prosecutor has set his sights on this practice known as “front running.” NY Attorney General Schneiderman called this practice “Insider Trading 2.0” and he vows that his staff is looking into these practices.
“A new generation of market manipulators has emerged,” Schneiderman warned the audience.
