The Gateway to Algorithmic and Automated Trading

Software development and the SEC

Published in Automated Trader Magazine Issue 40 Q3 2016

While the CFTC is still mulling over 'Regulation AT', the SEC has quietly been putting in place its own regulations on automated trading. This brings big changes to developers working on cash equities and bonds in the US.

In a process that began a year ago, the SEC mandated that FINRA members register and appropriately qualify their trading system developers - essentially anyone that trades US equities in a semi-serious way.

This is serious business. Federal securities laws are not to be trifled with. Software developers, who are usually (although not always) blissfully unaware of securities regulations, will need to bring their regulatory knowledge up to par. Certainly, it is a big change for someone that until now has not worked in a regulated profession to become regulated by one of the biggest financial regulators on the planet.

FINRA, the industry's self-regulatory body, will expand Rule 1032(f) to include those that are involved in the software development process for automated trading strategies.

Who needs to register?

The requirement is for those working in firms covered by FINRA, thus most firms that are seriously involved in the trading of cash securities: Both stocks and bonds. It does not cover futures. If you happen to develop strategies relating to futures, then do yourself a favor: Stop reading here and get issue 39 of Automated Trader from your bookshelf and go to page 45. This outlines the regulatory pain coming to you in the form of 'Regulation AT'.

The new regulation is catching anything related to the automated generation, modification or cancellation of orders. Almost any automated trading strategy falls under this definition, including algorithmic trading activities (i.e. the processing of larger parent orders into smaller child orders).

Whether a software developer (or software architect) needs to register depends on how involved in the trading system/strategy development process he is. According to the SEC, registration is required for:

Individuals that are primarily responsible for the design, development or significant modification of algorithmic trading strategies, or

Individuals that are responsible for the day-to-day supervision or direction of such activities

It certainly would imply that anyone in a position like 'Head of Software Development', 'Senior Software Developer', 'Solution Architect' and so on would almost by definition be in such a position.

It doesn't matter whether you have a particular title on your business card - or don't even have a business card. What matters is how much of the development process you're involved in without outside direction. Even if you are a summer intern slaving away in the basement of the bank working on 'Trading Strategy 453M' all by yourself because management upstairs unfortunately forgot about you... guess what: you are going to need to be registered.

At an organizational level FINRA Rule 3110(a)(2) stipulates that the firm needs to appoint a principal who is responsible for the firm-wide development of automated trading strategies. In turn, the registered software developers need to be assigned to this principal for regulatory purposes.

In case this isn't obvious, the above requirement means that if the firm develops automated trading strategies then there needs to be at least one person registered under this capacity. And here I can already see a number of 'fly-by-night' shops taking the apparently easy route out: They simply register exactly one individual in this category and consider their responsibilities discharged.

They couldn't be more wrong. Clearly, the SEC wants to bring those who are developing trading strategies into the fold as 'Traders'. And rightly so, as these are effectively the traders of today. Not every developer will need to register, but certainly the ones that are guiding and supervising the process will need to.


There is an exemption for those developers who work on applications who truly only route orders onward in their entirety, but it is not even clear why that exemption is even in there. When was the last time you wrote code that 'only' forwarded orders in their entirety? The number of developers working on pure routing is vanishingly small. And besides, if something goes wrong with order routing the consequences can be as significant as they would be if something went wrong with order generation. So it is not obvious what this exemption is supposed to accomplish. In any case, it is unlikely to help anyone avoid registration.


So what does it mean to be registered as a 'Securities Trader' with FINRA? This is relatively serious. It brings you directly into the purview of the SEC. Specifically it means that you have to be conscious of all the securities regulations that exist in the United States which are relevant to the trading that you and your code base do. That includes Regulation SHO, FINRA Rule 5210, Form 13H, SEC Rule 10b-5, etc.

If you currently work in an unregistered capacity (as many developers do) this doesn't mean that you are above the law, obviously. However, if something goes wrong and the firm's trading violates the law then that would primarily be the responsibility of the firm, its principals and registered persons. You might have been the culprit, but it will be the firm's problem, first and foremost. Of course the exact details matter a lot but by and large, that is the big picture.

If you are a registered person and you violate security regulations then that definitely becomes your problem, too. You'd be on the hook, just as the firm and its principals would be.

Series 57 Examination Required

A consequence of registering software developers as 'Securities Traders' is that they will have to pass the FINRA Examination Series 57 exam, known as the 'Securities Trader Examination' (TD). There is no way around this. In order to be registered, you must have passed the multiple choice exam. In case you are contemplating on how you can get around this inconvenience: forget about it, you have to take it. The good news is that it is not that hard. If you are smart enough to write code, you are smart enough to take the exam.


FINRA hasn't published a deadline for the registration requirement yet, but it is likely going to be around the end of 2016. At the very latest it will be 31 January 2017. So, there are maybe six months left before the rule will take effect.

What happens if I don't register?

If you are still significantly involved (in the 'primarily responsible' sense) in the development of automated trading strategies for a FINRA member firm at year end then... you're likely going to be violating Federal Securities Laws. Which means you can go to federal prison. There, I said it. Now go sharpen that pencil.