Hensarling Urges Caution on Regulation of High-Frequency Trading

WASHINGTON — GOP Rep. Jeb Hensarling warned market regulators Monday to proceed cautiously in their efforts to impose new rules on high-frequency trading.

In a speech at the American Enterprise Institute, a conservative think tank, Hensarling argued that high-frequency trading has made markets more efficient, and he took issue with critics who argue that the computer-generated trades have led to increased volatility.

"Technology has historically proven to improve markets' efficiency. And markets should have to adapt to the new technology," Hensarling said. "I wish to ensure our regulators first do no harm when it comes to high-frequency trading."

Hensarling's remarks were directed in particular at the Securities and Exchange Commission, which in January 2010 sought public comment on high-frequency trading, and has more recently raised concerns about those trading practices.

The so-called "Flash Crash" of May 6, 2010, when the Dow Jones Industrial Average quickly fell by about 1,000 points, brought public attention and closer regulatory scrutiny to high-frequency trading.

Hensarling, R-Texas, argued that the trading technique, which relies on computer programs to execute trades in a matter of milliseconds, became a scapegoat for the Flash Crash.

"The new technology is always one of the usual suspects," Hensarling said. "You could almost hear the cries, 'Down with the dark art of math and computer-based trading.'"

Hensarling's comments are important because he is one of the leading contenders to become the chairman of the House Financial Services Committee in 2013, which would give him a key role in overseeing the SEC.

Another contender for that job, Rep. Scott Garrett, R-N.J., will hold a congressional hearing Wednesday that will also look at the regulation of high-frequency trading. Market observers will be interested in whether there is any daylight between the views of Garrett and Hensarling on high-frequency trading.

The SEC has recently taken some regulatory actions that have implications for high-frequency trading.

For example, the agency tightened circuit breakers that halt trading when the market falls by a certain percentage; those circuit breakers were not triggered by the Flash Crash of 2010. The SEC also recently put in place time restrictions on trades in individual stocks when their prices have fluctuated dramatically over the previous five minutes.

The agency has also adopted a rule that requires large-scale trading firms to provide basic information about themselves to regulators.

But Schapiro has hinted that more needs to be done. She told reporters in February that she was concerned that a large portion of trading in equities has nothing to do with the fundamentals of the companies being traded. Instead, she said, the trades are meant to take advantage of tiny moves in price where there is an opportunity for profit by making trades within milliseconds.

Schapiro also floated the idea of requiring high-frequency traders to pay for their canceled trades, which make up a large percentage of all orders.

In his speech Monday, Hensarling said that the SEC is right to look into the issues raised by high-frequency trading. But overall, he struck a much more skeptical tone than Schapiro regarding the proper role of regulation.

"It is both appropriate and frankly necessary that we examine and debate whether in the scheme of things these relatively new trading tools are subject … to smart regulation," Hensarling said. "But it is also necessary and appropriate to debate whether any proposed regulation is going to meet a simple cost-benefit test."

Hensarling argued that high-frequency traders have not traditionally been granted special privileges to the market, and added: "If no special privileges, should special duties be imposed upon them? I remain skeptical and urge caution."

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