China won't be Shanghaied by HFT
Shanghai Stock Exchange’s clampdown on high frequency trading is intended to
deter speculation, and not to keep out professional trading firms with a
genuine interest in capturing the Chinese market’s opportunities, says Dean
Ashley Owen, China chief representative of Newedge Shanghai Representative
regulators are wary of the potential systemic risks to the economy associated
with high frequency trading (HFT), and hence is taking a cautious approach to
allowing HFT activity in the stock and futures markets.
“The Chinese regulators need to ensure there are no systematic risks to
the economy,” says Owen. “With over 1.3 million futures accounts, of which less
than 5% are classified as institutional accounts, the regulators and exchanges
need to make sure that retail investors are protected. The fear is that
the emergence of sophisticated computer trading will come at the expense of the
guy on the street.”
Owen says Chinese
exchanges don’t place increasing volumes as a priority. Whereas other Asian
exchanges are going out of their way to attract high frequency trading, he says
the Chinese understand a certain amount of HFT can benefit the price discovery
mechanism by increasing liquidity, reducing transaction costs and tightening
spreads. But they want to ensure moderation.
The Shanghai Stock Exchange
(SSE) published a Chinese-language report on 8 March titled “Four Categories of
Speculation: The Reasons for Long-term Market Downturn and Investors’ Loss” identifying
new shares speculation, small-cap stocks speculation, underperformed stocks
speculation and frequent trading as problems it will target with “technique and
SSE revealed it will impose
new measures to counter speculation on its exchange, including imposing trading
limits on high-frequency trading firms which cancel a high proportion of their
Without releasing timing
details, the exchange said it would impose trading limits on firms engaging in
“abnormal trading behaviours” such as making orders in a large sum or at high
prices, or conducting frequent false orders and withdrawals. Firms identified
as consistent offenders will be branded as unqualified investors, and subject
to punishment by the China Securities Regulatory Commission (CSRC).
“China does not
specifically target and restrict high frequency trading,” said Owen. “The
recent rule changes are specifically aimed at reducing the risk of market
manipulation. The consequence has been that it makes high frequency trading very
Despite the attraction of the Chinese markets, a toughened
regulatory stance on speculation on futures exchanges since late last year has
only added to the existing complexities of implementing market access, trading
software and network connectivity under a tightly-controlled regime.
The Zhengzhou Commodity
Exchange, Shanghai Futures Exchange and Dalian Commodity Exchange separately
issued rules in November to curb “abnormal” trading as commodity prices hit
record highs. The measures included a cap of 500 on the number of order
cancellations clients can send in a day. The exchanges will alert the CSRC if
investors are found trading between their own accounts or frequently placing
and cancelling orders. Investors are also disallowed from using related
accounts to hold positions in a way that exceeds their individual limits.
Andy Woodhouse, managing director Asia Pacific
at RTS Realtime Systems, says the Chinese regulator’s actions aren’t unique to China. Fines and
control measures have been implemented in the US and other Asian exchanges in
“They don’t want to see
ridiculous volatility going up without any kind of fundamental basis to it.
Most of our clients understand that, and they are trying to trade faster, but
not necessarily play the speed game,” says Woodhouse. “China is just trying to decrease pure speculative electronic
trading. It remains welcoming of professional traders.”
Likewise, Woodhouse says markets like Hong Kong and Singapore don’t
want to see “ridiculous” speculative trading. There are a lot of strategies that
are more in the realm of speculative versus real trading. At times, the
differences between these strategies can be somewhat vague.
“As China is maturing
through the process and is coming up with their own view as to the kind of
controls that they want to put in,” says Woodhouse. “But they also want to attract these investments coming in, to
increase the liquidity and the diversity of investors.”
The appeal of the Chinese
market arises from the new trading opportunities it offers that can be captured
using smart trading ideas. This is unlike the case in developed markets where
returns are dependent on speed and competition has crowded out many traditional
HFT strategies. “In the last year or two, there have been diminishing returns
if you’re playing a real high-speed game as markets mature. Today, traders need
to trade smarter, being the fastest is becoming very expensive. That’s where
we’re seeing a lot of interest,” Woodhouse added.
The measures taken by the Chinese futures
exchanges caused volumes to drop significantly in 2011. Futures trading volume
sank more than 30% in 2011, the first decline in five years, according to China
Futures Association data.
But market participants expect futures trading
volumes to pick up this year. The Dalian Commodity Exchange recently obtained approval
for their fill-or-kill and fill-and-kill orders to be excluded from the
500-order-cancellations limit, a sign that regulators remain interested in the potential
of the HFT client segment.