Weekly Market View

High-Frequency Trading: First Shot Fired?

Focus on access and use of non-public information

by James Frischling, President & Ron D’Vari, CEO, NewOak

NewOak is an independent financial services advisory firm built for today’s global markets, providing a broad range of services across multiple asset classes, complex securities and structured products for banks, insurers, asset managers, law firms and regulators, including financial advisory and dispute resolution, valuation, credit and compliance, risk management, stress testing, model validation and financial technology solutions. We have analyzed or advised on more than $4.5 trillion in assets to date. Visit us here


New York Attorney General Eric Schneiderman’s case against Barclays is the official first inning of the investigations and legal fight taking aim at dark pools, high-frequency traders and the many firms that participated in these activities. Of course, there have been cases filed before the civil charges against Barclays that include, for example, actions against Bank of America and dozens of exchanges, brokerages and traders by the city of Providence, Rhode Island. However, when the top law enforcer in the state of New York takes action, people take notice.

The Schneiderman fight, along with the many others still to come, will focus on the access and use of non-public information, front-running, marketing materials and, in general, a market that might have afforded certain participants the ability and opportunity to profit at the expense of private and public pension funds, individual retirement accounts and others. These “victims” are comprised of a lot of voters, so the high-frequency trading legal fight, like the mortgage fight (because homeowners by definition are also comprised of a lot of voters) should be one for the ages.

While the legal battle is just beginning, the opportunity to reform dark pool trading is now truly upon us. There have been previous attempts, including a document the Securities and Exchange Commission prepared back in 2009 called the “Regulation of Non-Public Trading Interest.” There was a great deal of enthusiasm for the proposals, which were intended to promote the Exchange Act’s goals of transparency, fairness and efficiency, but the changes never took effect because, despite the positive ideals, the devil, as they say, is in the details.

While the legal battle is just beginning, the opportunity to reform dark pool trading is now truly upon us

With the Barclays case and the many to follow, the climate for regulatory change will strengthen substantially. Similar to the earliest innings of the mortgage legal fight, there is still much to be discovered, and whether laws were in fact broken is still to be determined. The summer of 2008 was the beginning of the mortgage fight. Attorney General Schneiderman just made the summer of 2014 the start of the high-frequency trading fight.


Puerto Rico Recovery Act: Not All Debts Created Equal

Last week, Puerto Rico lawmakers passed the Public Corporations Debt Enforcement and Recovery Act (the Recovery Act), new legislation that allows some public corporations, such as power, water and transportation authorities, to restructure their debt away from general state obligations (GO) and other state agencies. While Puerto Rican officials have said there is no default imminent, the passage of the Recovery Act has caused new jitters in Puerto Rico’s municipal bond market. This could spread to a wider Puerto Rico default and ultimately affect the overall municipal bond market.

U.S. federal laws are supposed to provide the framework for companies and municipal entities to restructure their debt in times of financial hardship. However, the Puerto Rico government claims that its public corporations have fallen through the cracks in the federal bankruptcy laws and so introduced the Recovery Act to provide a controlled and orderly process for a financially troubled public corporation to become solvent in order to continue to perform critical services.

Investors believe the Recovery Act’s passage means Puerto Rico plans to renegotiate the terms of its utilities’ debt. The larger Puerto Rico bondholders have acted to block the law as they contend only Congress is allowed to create bankruptcy rules, making the Recovery Act unconstitutional.

This serves as yet another reminder that investors should not treat all obligations of a municipality as the sum of debts to a single debtor, but as stand-alone obligations backed by a variety of collateral, revenue sources and priorities established by underlying contracts and applicable laws. Furthermore, municipal analysts must move toward a more fundamental approach to credit analysis similar to that seen in the corporate market as often the true default probability is hidden in the details, and restructuring analysis of municipal bonds can be complex and subject to the interpretation of the entities’ underlying documents and laws.