In light of Blackrock’s Hillary Clinton’s sudden interest in taming high frequency trading and imposing a fee on order cancellations, something we have said is imperative ever since 2009 and now is far too late to make a difference, it is worth highlighting that just today the SEC cracked down on yet another spoofing mastermind, no not Citadel, but another “basement” trader, Eric Oscher, 47, a former NYSE specialist and his firm Briargate Trading (an anagram of Arbitrage), who were busted earlier today for making the gargantuan profit of $525,000.
While the argumentation in the complaint is by now familiar to most – someone spoofs a given stock or index, then quickl takes the other side, and cancels the spoofing order – there are three very notable items in this latest crackdown on said spoofing “mastermind.”
The first explains why in a market in which volumes are contracting at a record pace, and where liquidity is so scarce flash crashes have become a virtually daily event, exchanges continue to proliferate like weeds. The reason is because spoofers like Oscher use one exchange in which they “telegraph” their spoof orders, they use another exchange in which to take the opposite side of the trade thus leaving no readily available trail of evidence exposing their conduct.
This is how the SEC explains it:
- The Imbalance Messages Begin: At 8:30 a.m., the NYSE sent the first Imbalance Message for stocks expected to open with an imbalance (buy or sell). The NYSE continued to send Imbalance Messages with increasing frequency until the open of each stock; by 9:20 a.m., Imbalance Messages
were sent every 15 seconds. - The Entry of the Non-Bona Fide Orders: Between 8:30 a.m. and the NYSE open, Oscher typically placed non-bona fide orders on the NYSE in securities that the Imbalance Messages identified as having large order imbalances. Oscher’s non-bona fide orders were reflected in the next Imbalance Message for that stock. Oscher’s non-bona fide orders often impacted the price of the stock on other exchanges. For example, for a NYSE-listed stock with a sell imbalance, Oscher’s non-bona fide buy orders reduced the sell imbalance and increased the price of that stock on other exchanges.
- Briargate Obtains Positions on Other Exchanges: After Oscher placed spoof orders for a stock on the NYSE (but before cancelling them); Briargate also traded the same stock on the opposite side of the market on other exchanges. For example, if Oscher placed a non-bona fide buy order, Briargate generally sold the same stock short on other exchanges. Doing so often allowed Briargate and Oscher to take advantage of any price change on other exchanges following Oscher’s non-bona fide orders on the NYSE.
- The Cancellation of the Non-Bona Fide Orders: Next, Oscher cancelled the non-bona fide orders on the NYSE prior to the open. This had the effect of changing the imbalance minutes before the stock opened on the NYSE and typically reversed the effect the non-bona fide orders had on the stock’s price.
- Briargate Unwinds its Position on Other Exchanges: To complete the spoofing scheme, Briargate’s last step was to liquidate its position in that same stock on other exchanges. Briargate was typically flat by the end of the stock’s opening auction on the NYSE.
The key phrase here is “on other exchanges” which explains precisely why HFTs are in love with the idea of an infinite number of lit exchanges, as well as dark ATS, which they can latency arbitrage to generate the highest profits. None of this has anything to do with providing liquidity – it has everything to do with maximizing collocation efficiency which exchanges gladly sell to HFTs for a hefty fee, a fee which the HFTs then more than promptly make up in perfectly legal frontrunning of slower orders courtesy of Reg NMS.
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As an aside, here is how the SEC explains why spoofing is illegal:
During the Relevant Period, Oscher placed and cancelled non-bona fide orders in 242 instances with an average aggregate size of approximately 200,000 shares. These orders impacted the Imbalance Message that other traders received through their NYSE data feeds. Unlike other traders that viewed the Imbalance Message, Respondents knew that the changes in the Imbalance Message resulting from their non-bona fide orders were artificial. In nearly every instance that Oscher placed non-bona fide orders in the NYSE pre-market, Respondents placed profitable trades in the same stocks, but on the opposite side of the market, from their non-bona fide orders. In total, Respondents derived approximately $525,000 in profits from trading stocks in which they placed non-bona fide orders during the Relevant Period.
Respondents benefited from non-bona fide orders that brought about an artificial change in the NYSE Imbalance Messages, and in the prices of the same securities on other exchanges. Respondents profited from this manipulative trading by sending orders on the opposite side of the market, which were executed on the other exchanges or the NYSE. Respondents traded in these stocks across multiple Briargate accounts.
Oscher did not intend to execute the non-bona fide orders he placed during the NYSE pre-market trading. Respondents had no legitimate economic purpose to engage in trading involving non-bona fide orders.
Respondents knew that these orders affected the Imbalance Message and impacted the same stock’s best bid and best offer on other exchanges. Despite this knowledge, Respondents took advantage of the artificial change in the Imbalance Message to trade the same securities at artificial prices on the opposite side of the market on other exchanges and on the NYSE.
The violation in question:
Briargate and Oscher violated Section 9(a)(2) of the Exchange Act, which makes it unlawful “to effect, alone or with one or more other persons, a series of transactions in any security . . . creating actual or apparent active trading in such security, or raising or depressing the price of such security, for the purpose of inducing the purchase or sale of such security by others.”
Clearly this Section has an exemption when the “respondent” is Chicago hedge fund Citadel acting under advisement of the New York Federal Reserve when the mandate is a very simple one: spoof the S&P higher, without ever taking the other side of the trade.
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But the second, and far more entertaining part of the complaint against Oscher is the following:
Briargate’s inter-market arbitrage trading strategy depended in part on its ability to predict the opening price of a security on the NYSE. Beginning in 2009, Briargate believed there were instances where other market participants placed what Briargate believed were non-bona fide orders that were then canceled during pre-market trading. As a result, Briargate began to doubt the integrity of the information in the Imbalance Message.
After identifying these concerns about other market participants’ conduct, Briargate complained to the NYSE that other market participants were engaging in manipulative conduct involving large cancelled orders. For example, in the spring of 2011, Briargate complained to the NYSE that the data feeds provided by the NYSE were “susceptible to manipulation where parties look to gain advantage by entering non bona fide orders to entice others to trade.”
He got not reply so starting in 2011 “Oscher used his Briargate account to place large, non-bona fide orders.” Or, as they say, if you can’t beat them, join them… which is precisely what Oscher did.
So to summarize: a veteran NYSE specialist noticed manipulation in the NYSE market open Imbalance, loudly complained to the NYSE, was ignored, then decided to profit from said manipulation himself… and got busted.
Come to think of it, that almost exactly what happened to Nav Sarao.
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But the third, and surely funniest, part of this whole story is that the name Eric Oscher is not new to this website, but one has to dig far back to track him down… all the way back to our September 2010 post explaining “Why Nobody Trades During Regular Hours Any More (And How Prop Funds Just Stop Trading When Volatility Spikes).” This is what we said over 5 years ago:
Why Nobody Trades During Regular Hours Any More
For those who follow our periodic updates on intraday stock volume, today’s article by the Wall Street Journal which focuses on the dramatic decline in activity during regular working hours will come as no surprise. In a piece looking at prop trading shop Briargate (oh so witty anagram of arbitrage), founded by several former NYSE specialists, we learn that at least one firm (and likely many more) now no longer does any trading during the hours of 11 to 2. As this creates a feedback loop of inactivity, pretty soon the core of daily stock market activity will merely be the half an hour of action at the open, and the dark pool-ETF-open exchange rebalance at the very close, with everything inbetween deemed obsolete. Of course, what this will do, is create even more volatility in trading, force an even greater decline in stock trading volumes (and pain for Wall Street firms), and a further divergence between stocks and fundamentals, as momentum trading gains an even more prominent role in determine “price discovery.”
From the WSJ:
On the day the “flash crash” bludgeoned the stock market and chaos swept over the floor of the New York Stock Exchange, the founders of Briargate Trading were at the movies.
Rick Oscher and Steven Rubinstein weren’t playing hooky. Briargate, a proprietary-trading firm that the two former NYSE floor “specialist” traders started in 2008, is mostly active at the stock market’s open and close.
In between, when market activity typically drops, the Wall Street veterans play tennis in Central Park, take leisurely lunches, visit their children’s schools and work out at the gym. Dress shoes have been replaced with flip-flops, slacks with cargo shorts. Once during market hours, they walked about five miles and crossed the Brooklyn Bridge to try Grimaldi’s pizza.
“We actually planned on working a full day,” says Mr. Oscher, wearing a white polo shirt and blue-plaid shorts. “But from 11 to 2, the markets are pretty quiet—what’s the point? As a specialist, you have to stand in your spot all day and we did that for 20 years.”
Briargate—an anagram of “arbitrage”—isn’t the only firm taking an extended recess during the 6½-hour U.S. trading day. Trading has become increasingly concentrated in the first and last hours of the session.
Those two hours now make up more than half of the entire day’s trading volume, according to an analysis of data provided by Thomson Reuters. In August, the first and last hour generated nearly 58% of New York Stock Exchange primary volume, up from 45% in August 2005, the analysis shows. The rise of high-frequency trading, where algorithms are used to exploit small discrepancies in high-volume situations, amplifies the concentration of trading at the beginning and end of the day, analysts say.
Heavy trading in the first hour is largely due to the accumulation of orders placed by individual investors and their brokers after the previous day’s close, mutual-fund activity and new strategies deployed by institutional investors based on the latest research and overseas trading, says Adam Sussman, director of research at Tabb Group, a financial-markets research firm. Meanwhile, funds that track stock indexes often wait until the final hour to execute trades to better reflect the benchmark measures’ last prices.
Focusing trading on those times could limit gains, but Messrs. Oscher and Rubinstein are at peace with that. “Would you rather play tennis or make an extra $80? It’s a lifestyle question,” says Mr. Rubinstein, who sometimes works remotely from Florida. “I can go play 18 holes of golf and then come back and trade and that’s a workday.”
As for how this strategy of avoiding “noise” trading is working out, the answer is – apparently not too bad. Which can only mean that many more lazy copycats will soon emerge.
While the firm declined to disclose their returns, Messrs. Rubinstein and Oscher say they make more than they did in their later, leaner years as specialists, though not as much as they did in the late 1990s before the industry started to consolidate.
Oh and remember that selective “HFT Off” switch pulled during the flash crash? The same that many HFTs said is what helped them avoid massive losses (and which makes all their statements of providing liquidity moot)? It shows up again, this time helping Briargate avoid losses. We are confident all retail investors and readers will be able to stop trading at precisely the right moment as well (in addition to selling all their holdings at the very top of the bear market rally).
Mr. Oscher said the firm, which trades only its own money, hedges its risks “so there isn’t any scenario that would move our profit and loss beyond boundaries of comfort.” Briargate says it didn’t sustain losses during the May 6 flash crash because it closes its books when the market tends to be volatile. “We actually had a pretty good day,” Mr. Oscher says.
Indeed, with everyone not only not trading between 11 and 2, but completely shutting down when vol passes a threshold, someone please remind us what the Chicago School of Fraud case for an efficient stock market was again?
That was a useful flashback because it explains not only why Messrs. Rubinstein and Oscher “made more than they did in their years as specialists”, but also why “Briargate didn’t sustain losses during the May 6 flash crash” and had a pretty good day.
