The Australian market needs regulation for high frequency trading (HFT) and dark pool trading to ensure it is not adversely impacted like markets elsewhere, the Financial Services Council (FSC) said.
The FSC report 'Changing Technology in Capital Markets: A buy side evaluation of HFT and dark trading' was conducted by Baseline Capital on behalf of the FSC. It focuses on issues related to technological change, in particular high frequency trading (HFT) and dark pools.
"Australia is well positioned to introduce regulation to avoid the adverse impacts of high frequency and dark pool trading experienced in Europe and the United States," FSC chief executive John Brogden said.
"The US market is an example of what Australia can expect if action is not taken while there is a window of opportunity.
"It [the US] is the largest market for high frequency and dark pool trading, has technological developments which are in advance of Australia and has experienced high fragmentation in lit markets," he said.
Mr Brogden also said that changes and innovation in technology in capital markets should not be considered a threat.
"Rapid changes in technology have impacted capital markets with respect to the speed and method in which trades are transacted," Mr Brogden said.
"Regulation now needs to keep pace with technological change to address the potential negative impact of technology on capital markets."
The FSC supports the government's measured approach to the impact of technology and capital markets, which strengthens the governance and oversight of high frequency trading and dark pools, and provides the flexibility for the Australian Securities and Investments Commission (ASIC) to monitor the market and introduce further controls at a later stage if necessary.
"The government has got the balance right. A regulatory over-reaction would be just as damaging to the market as not introducing any new controls," Mr Brogden said.
The FSC is proposing changes to the ASIC Market Supervision Cost Recovery Arrangements to put a price on excessive messages sent by HFTs.
The industry body is also considering a minimum resting time provision for HFT, which would ensure market liquidity is transparent and accessible.
"We have never supported knee-jerk regulation. On this occasion, we think a price on excessive messages sent by HFT is justified," Mr Brogden said.
"This will remove the largely risk-free behaviour of many HFTs by ensuring there is a cost to their trading strategies, which reflects the increased cost in supervising them."
HFT makes up 50 per cent of equities trading in the US, and dark pools around 30 per cent.
In comparison, HFT and dark pools each comprise 25 per cent of trading activity in Australian capital markets, and Australia has little fragmentation on lit markets.
