Germany seeks to pre-empt MiFID II with new HFT law

Unsatisfied with delays to MiFID II, draft legislation in Germany is set to curb high-frequency trading, bringing it under the control of Germany’s Federal Financial Supervisory Authority by the middle of next year.

Unsatisfied with delays to MiFID II, draft legislation in Germany is set to curb high-frequency trading (HFT), bringing it under the control of Germany’s Federal Financial Supervisory Authority (BaFin) by the middle of next year.

Under a new law known as the ‘Act for the prevention of risks and the abuse of high-frequency trading’, the definition of proprietary trading would be widened to include HFT firms, forcing them to be licensed, and compelling trading venues to enforce minimum tick sizes and order-to-trade ratios.

The act would amend the Securities Trading Act, the German Banking Act and the Exchange Act to include provisions for HFT trading across all financial instruments. The draft legislation was released on 30 July, with submissions open to interested parties until 17 August, after which the draft will be submitted to cabinet.

A statement from the German Finance Ministry sent to indicated how HFT would be defined, which has been a stumbling block for any regulators trying to develop effective policy.

“Algorithmic high-frequency trading strategies should be understood as those involving an automated computer algorithm in determining the transaction’s parameters, in analysing at high-speed market data or signals and, based on this analysis, in placing or updating sale or purchase orders in large numbers,” read the statement.

The draft law would also apply to HFT firms that buy and sell stocks on multilateral trading facilities, as well as German stock exchanges, according to the Ministry.

Being licensed as a financial services institution would require prop trading firms to have at least €730,000 of initial capital. Also under the draft law, venues would have to implement “adequate” order-to-trade ratios and minimum tick sizes in an effort to lower market volatility. However, some aspects of how the law would be applied still require clarification. 

"The applicability of the law isn’t entirely clear in the first draft," Dr Andreas Wieland, associate at law firm Shearman and Sterling, told "This includes whether it covers HFT firms that access venues through brokers’ sponsored access solutions. However, the proposed new rules for the trading venues and the revised market manipulation rules would also affect non-Germany-based HFT firms that trade German stocks."

MiFID similarities 

The draft legislation proposes a number of similar initiatives to control HFT detailed in MiFID II, which is poised to come into play by 2014 at the earliest. But industry observers have noted the German law is an attempt to apply similar rules to HFT firms ahead of MiFID II, rather than an attempt to undermine or strengthen the directive. 

"This law doesn't appear to undermine the proposals in MiFID II but does pre-empt some of the rules envisaged by MiFID II," said Wieland. "There does appear to be quite a lot of pressure for the German government to act because of the turmoil that continues to grip financial markets." 

In its initial draft of MiFID II released last October, the European Commission proposed the application of the directive to HFT firms for the first time.

Markus Ferber MEP, the figurehead for the European Parliament’s reading of MiFID II, has further suggested a number of HFT curbs that include banning direct access to exchanges, a minimum resting time of 500 milliseconds for all orders, order-to-trade ratios for all trading venues and market making obligations for all HFT firms.

A vote by the European Parliament on MiFID II scheduled for last month was delayed until September to allow MEPs’ to review in excess of 2,000 amends to the European Commission’s original proposal. After the Parliament has finalised its version of MiFID II, it will be required to reconcile its version of the text with that of the Council of the European Union, with input from the European Commission.