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Dec 14, 2021

With technology comes great responsibility, says SEBI, as it attempts to regulate the algorithmic trading markets that have just started to evolve in India. The concept of “API” trading, through Application Programming Interfaces is the standard in the web and app-based world, but SEBI doesn’t want you to manage your own money programmatically. Or, worse, to give it to someone else who is “unregulated” to manage your money through an algorithm either. 

In this episode we discuss SEBI’s recent consultation paper on algorithmic trading and how it impacts you. What roles do algorithms play in managing your money and will a program be investing on your behalf in the near future.

  1. SEBI published a consultation paper on algorithmic trading by retail investors on Thu Dec 9 2021
  2. The paper impacts any form of “automated” trading: through a broker provided API in general as well as Algo Trading
  3. An example of an Algorithm that already exists - Good Till Traded orders offered by your broker. They place an order automatically every single day through a program.
  4. Algorithms that would help retail investors- “Buy/Sell this stock if it falls 10%”, or manage the extreme risk on my portfolio (insurance, of sorts).
  5. The motivation for this paper is the emergence of 3rd Party platforms that make use of APIs through algorithms, where you share your API keys etc and they automatically trade on your account.
  6. The Algorithm behaves like a proxy fund manager or money manager. They can trade your account whenever they want.
  7. Concern: What if they make big losses and you have no idea of how much they can hurt you?
  8. Concern: Can’t these platforms get a lot of customers and then auto-manipulate a stock, in the name of algo trading?
  9. Concern: APIs + Algorithms could be used to overwhelm/stuff the exchange or be used to manipulate a security’s price. Rate limiting and cool off periods could help address this.
  10. Consultation paper currently bans all APIs and places onus on brokers to regulate them and suggests that brokers take responsibility to run the algorithms on their system
  11. The paper would enable the Broker to empanel someone (and do the checks/risk assessment/quality control) but would prevent an individual from setting up something themselves - but this seems unenforceable.
  12. Stopping APIs altogether is like using a sledgehammer to kill a mosquito. We could achieve many of the objectives by having the algorithm pop up an approve/reject screen that the user has to click on. If you have say more than 50 lakhs or something in your account then you could potentially have fully automatic execution. This would be a useful middle ground to protect the smaller retail customers.
  13. When I click a buy button on Zerodha Kite it triggers an API, when you click a buy button on Smallcase to buy on say zerodha it also triggers a bunch of API, when you place an order through a program that also triggers an API - how do you differentiate between the three? And you can’t build an app without APIs
  14. Even fund managers are found guilty of say front running or offloading - SEBI can come after them since they are regulated. If you’re trading other people’s money and earning from it - you have to be treated with the same level of compliance as a fund manager (PMS/AIF etc)
  15. There aren’t any fund manager rules that allow you to run strategies with the kind of leverage that these algorithms allow you to.
  16. According to Nithin’s twitter space only 0.5% of zerodha users use algos.If you’re running your own algorithm that really should be allowed
  17. Future of fund management (especially at scale) will require some levels of automation and APIs so we can’t take a regressive or overly harsh stand.

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