Some of the world’s fastest trading firms have called on regulators to review the London Metal Exchange’s plans to introduce an intentional trading delay on its venue for precious metals. The call by the super-fast traders escalates a broader row over the role of delays — known as speed bumps — on exchanges. Market-makers, which quote prices at which they are willing to buy and sell, have called on exchanges to protect them from being picked off by the fastest traders. Speed bumps are becoming more prevalent in financial markets, including for assets such as foreign exchange and US equities. The dispute centres on the venue launched by the 141-year-old LME last year, known as LMEprecious, for buying and selling gold and silver futures contracts in London. Goldman Sachs, ICBC Standard Bank, Morgan Stanley, Natixis, commodities trader OSTC and Societe Generale all had a hand in its creation. LMEprecious has been up and running since July 2017, but the LME now believes the young market needs a speed bump to help it develop and build liquidity. The speed bump requires non-objection from the UK’s Financial Conduct Authority, which has not yet decided on the matter, according to a person familiar with the situation. An LME spokeswoman said: “We plan to introduce a simple speed bump for the LMEprecious market following the strong support shown for the initiative by market participants. The speed bump… is designed to build liquidity and improve spreads in this developing market in the medium to long term.” According to two people with knowledge of the matter, Societe Generale is also supportive of the speed bump. Among the other partners, a Morgan Stanley spokesman declined to comment, and Goldman, ICBC and Natixis did not respond to requests for comment. However, trading firms Citadel Securities and Tower Research Capital oppose speed bumps. The speed bump will introduce a delay on new orders, and on messages to revise or modify orders, with the exception of requests to cancel orders. It is designed to combat latency arbitrage, a trading practice that relies on speed to exploit differences in prices available on various exchanges. The delay is intended to encourage market-makers to quote better prices and prevent them from being hit by ultra-fast traders who can react faster to price changes that happen elsewhere, such as on CME Group’s Comex. According to CME’s website, at the end of June 2017 it was trading 259,000 lots of gold futures per day on average.Volumes on LMEprecious amounted to 1.3m lots in 2017, a small percentage of the 157m total across contracts traded on the wider LME that year. Mark Spanbroek, the influential chairman of the European Principal Traders Association, which represents many proprietary trading firms and has long campaigned against speed bumps, said: “Before being approved, significant market structure changes should be thoroughly reviewed, with an opportunity for stakeholders’ input, to assess whether they have a positive or negative impact on competition, market quality, transparency and efficiency.”
Tower Research Capital, part of EPTA and a Category 3 member of the LME (but not LMEprecious), is against the speed bump, said a person with knowledge of the matter. Virginie Saade, director of government and regulatory policy for Citadel Securities in Europe, said: “Speed bumps create the illusion of better liquidity but actually hurt end investors by advantaging sophisticated traders who are able to selectively cancel quotes while incoming investor orders are delayed. “This denies end investors the firm and reliable prices they expect, and yields phantom liquidity instead,” she said. Citadel Securities is an active trader on Comex and the LME, but not its precious metals market. But some other proprietary trading firms back the speed bump.
XTX Markets, a London-based proprietary trading firm that is not a member of EPTA, backs the speed bump.
Alex Gerko, co-chief executive at XTX, said: “The LME’s decision to potentially introduce a speed bump on precious metals is to be welcomed, as it will benefit non-HFT liquidity consumers by negating latency arbitrage strategies, resulting in more competition between liquidity providers and tighter pricing for end clients.
“XTX is strongly supportive and we expect that as end-users become more educated around this topic, many more markets across asset classes will introduce speed bumps.”
Lee Hodgkinson, chief executive of OSTC, a member of EPTA, said: “We are of the opinion that in order to continue the growth of liquidity and market participation in this new product, we should collectively endeavour to maintain a level playing field for as many new participants as possible.”
The LME’s notice said: “In nascent markets, latency arbitrage can discourage market participants from placing passive orders and providing liquidity. This is because when prices move, liquidity providers may have their orders hit before they are able to adjust them.
“For new markets where liquidity is still building, latency arbitrage against other highly correlated markets can deter the broader provision of liquidity.”
The LME said the speed bump will be technically ready for November 19, with activation to follow in the following weeks. The speed bump and length of delay are both subject to regulatory non-objection.
