Mumbai: The Securities and Exchange Board of India (Sebi) may ask stock exchanges to put in place a separate surveillance mechanism for algorithm (algo) trades or high frequency trading (HFT).

In consultation with Sebi’s technical advisory committee earlier this month, the regulator has decided to have more checks and surveillance at the level of exchanges. To ensure this, the National Stock Exchange of India Ltd (NSE) and BSE Ltd could be asked to constitute a separate team to keep an eye on algo trades, said two people directly familiar with the developments. These checks would be in addition to the existing surveillance systems of exchanges, they said.

HFT, done through dedicated algorithms, refers to the use of electronic systems that can potentially execute thousands of orders on the stock exchange in less than a second, which gives them an advantage over conventional traders.

“While examining the exchange surveillance systems, the regulator found the exchanges lacked an alert-generation system specific to algorithm trades," said the one of the persons quoted above, requesting anonymity as the discussions were confidential.

“The exchanges have robust surveillance systems but against the backdrop of an increased focus on HFT and the possibility of manipulation, the regulator feels an additional layer of checks targeted at this segment is not out of place," said the second person, who also declined to be named.

An email sent to a Sebi spokesperson on Monday did not elicit a response.

On 5 May, Sebi chairman U.K. Sinha said while the regulator has taken cognizance of the potential problems involving HFT and has put in place some checks, a final solution is yet to be arrived at. To tackle some of the concerns faced in the algo-trading segment, Sebi is approaching external advisers, Sinha added.

Additionally, the market regulator is also internally debating options like introducing speed bumps, order randomization, order bunching of trades and limiting access to co-location facility.

The solution, though, is far from being finalized, said the first person quoted above.

“The changes being considered require market impact analysis and consultation with participants; the solution is far from being finalized," said the first person quoted above.

“To address the immediate concern of the possibility of market manipulation through these trades, having specific surveillance teams at the exchange level offers a near-term solution," he added.

HFT orders, as a percentage of overall orders in the cash equity segment, were at 65% in 2011-12 but went up to 94% in 2015-16, according to a 13 April Mint report. HFT turnover as a percentage of overall turnover in the cash equity segment has gone up from 25% to 42% in the same period. In the equity derivatives segment, the percentage of HFT orders has gone up from 78% to 98% between fiscals 2012 and 2016. The share of turnover has risen from 22% to 56%

Market participants feel real time surveillance to snuff out any wrongdoing and risk management measures will be more useful than attempts to slow down or curb algo trading.

“Most surveillance tools run end of day to identify market manipulations. In today’s algo-driven world, we need to identify real time manipulations or non-compliant activities by having surveillance systems that behave like an algorithm in real time," said Kunal Nandwani, founder and CEO, uTrade Solutions Pvt. Ltd, a provider of financial trading technologies.

“Primary risk management systems are typically integrated within the trading platforms and may fail to spot the programming gaps, stale data or any other corner scenarios. To ensure proper functioning of the automated trading system, different technological components, including risk management must function well in real time," added Nandwani.

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