ABSTRACT
High-frequency trading (HFT) stands for a large share of the trading activities on global financial markets. HFT activity poses a risk to the overarching regulatory objective of maintaining orderly trading conditions, because of its propensity to contribute to episodes of excessive volatility and flight of liquidity, popularly referred to as ‘flash crashes’. Such incidents could propagate and cause wider market turbulence and may – in worst case scenarios – become systemic. European legislators have responded to this risk by instituting regulation targeting HFT in MiFID II. This chapter identifies different characteristics of HFT activities that may challenge the efficacy of the European regulatory efforts. First, a lack of conceptual clarity and insight into HFT operations hampers the efforts of regulators to assess an appropriate level of regulation and to design effective rules. Furthermore, regulatory objectives are conflicting with each other, in particular the objectives of market efficiency and financial stability, which requires balancing them in this regulatory context. Moreover, novel traits of market structure and market functionality, including complexity, extreme velocity, cross-market connectivity and costly technology, challenge the ability of regulators and supervisors to uphold orderly HFT markets. Potential incentive problems might make any participation of market actors in designing relevant regulatory responses problematic.
