Spoofers – “If You Can’t Beat Them, Join Them”
The latest spoofing case announced by the SEC yesterday seems to be a case of “if you can’t beat them, join them”. The culprit this time is a proprietary trading firm by the name of Briargate (that’s them in the picture). You may recall that we wrote about Briargate back in September 2010 when the WSJ published an article on them titled “The Traders Who Skip Most of the Day” . The article highlighted how Briargate, a firm run by ex-NYSE specialists, only traded at the opening and the close. The WSJ quoted them as saying:
“Focusing trading on those times could limit gains, but Messrs. Oscher and Rubinstein are at peace with that. “Would you rather play tennis or make an extra $80? It’s a lifestyle question,” says Mr. Rubinstein, who sometimes works remotely from Florida. “I can go play 18 holes of golf and then come back and trade and that’s a workday.”
Sure, sounded like they were living the good life. But things soon changed for Briargate. Their strategy started to fail due to spoofers who were manipulating the NYSE opening imbalance. Briargate was frustrated with all the spoofing going on before the opening and according to the SEC case, they complained to the NYSE about these opening orders which kept getting cancelled:
“After identifying these concerns about other market participants’ conduct, Briargate complained to the NYSE that other market participants were engaging in manipulative conduct involving large cancelled orders. For example, in the spring of 2011, Briargate complained to the NYSE that the data feeds provided by the NYSE were “susceptible to manipulation where parties look to gain advantage by entering non bona fide orders to entice others to trade.”
We’re not sure what NYSE did after they found out about this but Briargate decided that there might be even a better life for them if they chose to copy the spoofing strategy that they were complaining about. The SEC stated:
“Starting in October 2011, Oscher began using his Briargate account to place nonbona fide orders for 10,000 shares or more on the NYSE prior to the open. Oscher’s non-bona fide orders impacted the Imbalance Messages by either increasing or decreasing the buy or sell imbalance. Because Oscher placed the non-bona fide orders on the NYSE and then cancelled them prior to the open in that stock, they were not subject to market risk. Briargate also acquired positions in the same stocks by trading on other exchanges, where the price had changed following Oscher’s non-bona fide orders. Once Oscher cancelled the non-bona fide orders, Briargate consistently unwound the position it had acquired on other exchanges.”
Briargate entered and cancelled these pre-market orders from October 2011 to September 2012 which resulted in gains of $525,000, according to the SEC. While this may seem like a small amount relative to other cases, this case does expose a number of troubling issues:
How reliable are the NYSE Pre-Opening Indications?
If a small prop trading firm like Briargate can this easily manipulate the opening price of a stock, what can a larger more sophisticated player do?
What good are pre-opening indications if they are allowed to be cancelled up until the time that the stock opens?
Exchange/Regulatory Surveillance Deficiencies
Briargate actually blew the whistle on this scam before they started doing it themselves but regulators and exchange officials didn’t seem to care or didn’t have the proper surveillance tools in place to identify the problem. The SEC has acknowledged this and three years ago proposed building the Consolidated Audit Trail (CAT) to fill this regulatory void. But, unfortunately, the CAT has proven to be a disaster. Just yesterday, it was announced that the building of the CAT had suffered another delay:
“A troubled market monitoring project launched after the 2010 “flash crash” has faced a new setback: regulators have failed to hire a technology expert to oversee development of a giant computer system to track the trading of stocks and options.”
Back in the days of human traders, pre-opening indications had more meaning. If a floor broker were to constantly cancel pre-opening indications right before the opening of a stock, the self-policing mechanism of the NYSE would have been able to easily identify the culprit. But in today’s faceless, automated world of sponsored access and DMM’s, the NYSE self-policing mechanism no longer works. NYSE Rule 15 which deals with pre-opening indications is outdated and needs to be updated.
We’ll end today’s note with the very prophetic last line of the 2010 WSJ article on Briargate:
Both feel their freedom is fragile, as trading invariably carries risks. Says Mr. Oscher: “We say all the time—these are the good old days.”