UK financial watchdog, the FCA, has highlighted machine learning and artificial intelligence as technologies that increase risk in its review of algorithmic trading compliance in wholesale markets.
“As part of our reviews, we also considered developments in machine learning and artificial intelligence. In these cases, the risks associated with market conducted may be heightened and it is particularly important for firms to consider the potential implications,” the FCA wrote in the report.
Scrutiny of algorithmic trading has been a priority for regulators the world over as electronic trading continues to increase in popularity. Moreover, an abundance of data means algorithms are used for both execution and decision-making, although there is far more comfort with the former in finance.
While acknowledging that automated technology “brings significant benefits to investors”, such as increased execution speed and reduced costs, the FCA also warned that it could amplify risks.
“In the absence of appropriate systems and controls, the increased speed, and complexity of financial markets can turn otherwise manageable errors into extreme events with potentially wide-spread implications,” the FCA wrote.
The FCA noted that all firms engaged in algorithmic trading need to maintain an appropriate development and testing framework, which is consistently applied across all relevant aspects of the business.
“This is particularly important where firms are using innovative technology such as machine learning techniques, either within their algorithmic trading strategies or as part of the development and testing process,” according to the report.