Nasdaq OMX Group said a London broker is installing software from its SMARTS subsidiary to monitor trading activity across a series of derivatives markets for potential abuses.
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It’s the “cross-market” nature of the monitoring that is significant, as trading gets more complex and markets proliferate, according to Nasdaq OMX.
“What is important about this customer is that they’re using SMART.broker for crossmarket surveillance. So they’ll be using the product not just for one single marketplace,’’ said Paul McKeown, vice president, market technology in the Americas for NASDAQ OMX. “They’ll be using it to look over LIFFE markets in Europe, Eurex and the CME markets.”
The full range of markets where Mako trades will be monitored for possible illicit activity include Eurex, which trades in interest-rate, equity, credit and commodity derivatives; NYSE Euronext LIFFE in London, Paris and Amsterdam, which specializes in futures and options on futures; the Chicago Mercantile Exchange, which deals in futures and options based on interest rates, equity indexes, foreign exchange, energy, agricultural commodities, rare and precious metals, weather and real estate; the New York Mercantile Exchange, a commodities futures venue; the Chicago Board of Trade, which handles futures and options on commodities, and Deutsche Boerse, on its Xetra electronic exchange system.
“One of the major advantages of the SMART.broker application is, whether it’s an equities market or a futures market or a derivatives market, is its ability to look through one interface across multiple different markets at the firm level.”
Nasdaq OMX a year ago agreed to purchase the Australian firm SMARTS Group, which specializes in market surveillance software. The exchange operator said it would to use the acquisition to help financial firms stay abreast of regulatory initiatives, improve their monitoring of trading activity and spot problems before they became threats to a firm’s or a market’s integrity.
Mako allows its market-makers to price and trade large inventories of derivatives. The introduction of the automated SMARTS surveillance system will help it and its clients deterect suspicious behavior and potential market abuse. Among other things, SMARTS’ algorithms generate instant alerts when a potential abuse is identified.
And it does so by allowing a firm such as Mako to roll up order and trade messages across all the markets it is involved in and get a single view of all that activity. The system then searches for patterns in all the markets that could be indicative of a coordinated plan or intentional effort to skirt or break rules.
“One of the major advantages of the SMART.broker application is, whether it’s an equities market or a futures market or a derivatives market, is its ability to look through one interface across multiple different markets at the firm level,” McKeown said.
The surveillance system, for instance, can identify and collate trades that may represent manipulation of markets using derivative products.
The system can identify behaviors of interest such as churning or creating volume in a security associated with a company or companies, or wash trades that have no clear economic benefit to the parties involved, other pre-arranged trades, spoofing/layering, or ramping the close to benefit a separately held derivative position.
The system also extends to exchange or market-specific rules such as constraints on splitting orders or other trading approaches designed specifically to circumvent regulations at particular markets.
As markets and types of securities proliferate, opportunities expand, for instance, for brokers to engage in increasingly discrete variations of well-known behaviors such as “frontrunning ” customer orders – where a trader attempts to gain profits for their clients or their firms by trading in the same or other products (e.g., derivatives) related to the security in the customers’ order prior to executing the customer order.
For instance, if a customer is looking to move a big block of stock that is likely to move the price of that security, an unethical trader might first buy futures or options in that security – perhaps even in another market or on a different exchange - to take advantage of the expected movement in price.
IntercontinentalExchange has installed the SMARTS Integrity Platform to monitor market activity across its future exchanges, worldwide.
Mako is an active user of exchange-traded options, in equity and fixed-income markets in Europe and the U.S.
Mako uses proprietary software and financially engineered algorithms to enable its market-makers to price, trade and risk-manage large inventories of derivatives products.
