RIA Compliance Blog
Earlier this month, the Securities and Exchange Commission (SEC) approved a change to Financial Industry Regulatory Authority (FINRA) Rule 5210. The rule now requires member broker-dealers to implement and enforce policies and procedures “reasonably designed” to monitor and prevent “self-trading” activity. See SEC Release No. 34-72067.
The rule, in its amended form, is designed to provide FINRA with increased ability to monitor and limit the “unintentional” interaction of orders that come from the same firm. This issue is distinct from any self-trading that are the products of fraudulent or manipulative design. Rather, FINRA’s rule will attempt to limit the misleading impact that this unintentional self-trading has on marketplace data and trade volume of a security.
The rule change will place new restrictions on self-trading activity that occurs as a result from one or related algorithms or that originate in one or related trading desks. Self-trading, as used by FINRA, does not result in a change in beneficial ownership and may or may not be a bona fide trade. The agency believes that self-trading, even conducted without fraudulent or manipulative intent, may be disruptive to the marketplace and distort information on a given security. The agency points to data it has collected that show self-trading of this kind may account for five percent or more of a security’s daily trading volume.
For purposes of determining what is self-trading in the context of this rule, FINRA will look at orders sent by a single algorithm or related algorithms sent from a single firm. It is important to note that self-trades originating from unrelated algorithms or trading desks are generally considered bona fide trades. As always, FINRA will look at the frequency or pattern of such self-trades in making its decision and there are no bright line rules in this situation. According to SEC Release No. 34-72067, this rule change “is intended to curb unintentional self-trades that result in the dissemination of misinformation to the public and negatively affect price discovery.”
This rule change is consistent with the current actions and sentiments of both the SEC and FINRA concerning the use of high volume trading and related firm activities. In FINRA Rule 5210, the agency is hoping to curb the impact that algorithm-based trading inside a single firm may have on market data by limiting its occurrence. Thomas Gina, FINRA Executive Vice President, Market Regulation, has stated, “… this important new rule change will significantly increase FINRA’s ability to deter self-trading that, while not involving fraudulent or manipulative intent, is disruptive to the marketplace.”
Parker MacIntyre provides legal and compliance services to investment advisers, broker dealers, registered representatives, hedge funds, and issuers of securities, among others. Our regulatory practice group assists financial service providers with complex issues that arise in the course of their business, including complying with federal and state laws and rules.