The Securities and Exchange Board of India (Sebi) on Friday proposed reviewing the framework for algorithm trading to facilitate participation of retail investors with proper checks and balances.
“The evolving nature of algo trading, particularly with the increasing demand for algo trading by retail investors, has necessitated a further review and refinement of the regulatory framework so that retail investors are also able to participate in algo trading with proper checks and balances,” the regulator said in a draft paper, inviting oublick comments by January 3.
“In order to facilitate participation of retail investors in algo trading, it has been decided to review and refine the existing regulatory framework to ensure proper checks and balances, to safeguard investor interest as well as integrity of the market.”
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With algos being used only by institutional investors, the refined framework is expected to fill in the gap for retail investors who want to use algos and Sebi’s Direct Market Access (DMA) facility to take advantage of the faster order execution and improved liquidity, with proper safeguards.
The framework outlines the roles and responsibilities of stock brokers, stock exchanges, algo providers/ vendors, market infrastructure institutions (MIIs) and investors. Sebi has also proposed categorizing algos into two distinct types–replicable and non replicable algos to be called white box and black box algos, respectively.
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Under the proposed structure, brokers would have obtain the necessary approvals from stock exchanges for each algorithm they offer. The broker would have to seek approval from the exchange for any modification or change to the approved algos or systems used for algos.
Additionally, Sebi has suggested that exchanges must tag all algo orders with a unique identifier issued to ensure an audit trail.
While these measures are expected to improve transparency and create better audit trails, the real challenge lies in effective implementation and monitoring by brokers and MIIs as operational oversight and risk management will be critical for the success of these regulations, said Sonam Srivastava, founder & fund manager at Wright Research.
“Brokers will need to significantly enhance their systems and processes to comply with Sebi’s framework…They will need to educate retail investors on the risks of algo trading and handle complaints from clients using empaneled algo providers,” Srivastava said.
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