SEC Institutes Proceeding Against High Speed Trader – But Not For Trading

High speed trading is a frequent topic of discussion in the securities markets. Books have been written about it such as Michael Lewis’ “Flash Boys” and Scott Patterson’s “Dark Pools.” Hearings have been held on Capitol Hill and SEC and CFTC commissioners have discussed the practice. The practice is also at the center of an action brought by the New York Attorney General against Barclays earlier this year.

Now the SEC has brought a suit against high speed trading firm Latour Trading LLC and its former COO Nicolas Niquest. In the Matter of Latour Trading LLC, Adm. Proc. File No. 3-1612 (September 17, 2014). The suit, however, is not high speed. Rather, it is a traditional broker-dealer action centered on net capital violations.

Latour is a New York based broker dealer. It uses algorithmic high-frequency trading strategies to engage in proprietary trading in ETFs. The firm hedges its ETF positions by trading futures and the component securities of the ETFs. The firm does not have customers. Latour trades in significant volumes. In 2011, for example, the firm frequently accounted for 4% and at times as much as 9% of the trading volume in equity securities for the entire U.S. market.

From January 2010 through December 2011 Latour consistently miscalculated the amount of its net capital. The net capital rule generally requires that a broker-dealer maintain a specific minimum of net liquid assets or capital. As part of the calculation the broker-dealer is required to make prescribed percentage deductions from the market value of its proprietary securities and other positions, referred to as haircuts. Failure to properly calculate the deductions can result in improperly inflating the broker’s net capital.

In this case the firm used a commercially available program to calculate its haircuts. The program required a number of inputs from the broker. Mr. Niquet was primarily responsible for devising the approach that Latour used to calculate its haircuts in at least 2010 and 2011, although he did not have any experience in the area.

The methodology used by Latour for its haircuts was rejected by the Commission when modifications were made to the rules. Nevertheless, the firm utilized the methodology which in part incorrectly used hypothetical positions to capitalize qualified stock baskets. It also used inaccurate index composition data resulting in qualified stock baskets that were undercapitalized. Accordingly, Latour had significant net capital deficiencies on at least 19 reporting dates in 2010 and 2011. The amounts ranged from a low of about $2.4 million to over $27.5 million. Those errors also caused the firm to make and keep inaccurate records and to file incorrect FOCUS Reports.

The Order alleges violations of Exchange Act Sections 15(c)(3) and 17(a)(1) and the related rules.

Respondents resolved the proceeding by each consenting to the entry of a cease and desist order based on the Sections cited in the Order. Latour also consented to the entry of a censure and agreed to pay a penalty of $16 million. Mr. Niquest agreed to pay a penalty of $150,000.

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