'Flash crash' charges spark alarm over regulation of US markets

A UK trader accused of contributing to the 2010 "flash crash" in equity markets began a fight against extradition on Wednesday as US lawmakers pledged to probe a case which raises questions over the fragility of markets and financial regulation.

Navinder Singh Sarao, 36, was granted bail in a London court as allegations that he played a role in triggering a dramatic plunge in equity prices revived anxiety in Washington over shortcomings in the workings of the world's largest stock market.

Sherrod Brown, the top Democrat on the Senate banking committee, said: "It's encouraging that the Justice Department and [Commodity Futures Trading Commission] are pursuing this case, but troubling that it has only come to light now with the help of a whistleblower who invested substantial time in putting the pieces together."

Richard Shelby, the committee's Republican chairman, told the Financial Times that the arrest of Mr Sarao "raises many questions that the banking committee intends to ask".

The arrest has refocused politicians' gaze on the linkages between futures and equity markets and on regulators' record. In particular, questions are being asked of the role of the CFTC, the lead US derivatives regulator, the self-regulated Chicago Mercantile Exchange and the Securities and Exchange Commission, which oversees cash equities.

Pat Roberts, who as chairman of the Senate agriculture committee has jurisdiction over the CFTC, said it was "monitoring developments to review the incident in its entirety".

The CME said it, like regulators, had concluded that the flash crash had not been caused by the futures market, but it added: "If new information has come to light, we look forward to reviewing it with the [CFTC]."

Mr Sarao's arrest came the day after Paul Volcker, former chair of the Federal Reserve, revived his longstanding call for the CFTC to be merged with the SEC as he warned that the US's "piecemeal" regulatory system left some systemic risks unchecked.

Mr Sarao was arrested in the west London suburb of Hounslow on Tuesday. US authorities, who claim he made $40m in profits from 2010 to 2014, are seeking to extradite him to stand trial in Illinois.

Mr Sarao appeared at Westminster magistrates' court on Wednesday dressed in a canary yellow sweatshirt and white tracksuit trousers. He stood in the dock before District Judge Quentin Purdy to confirm his full name, address and date of birth.

The US Department of Justice has charged him with one count of wire fraud, 10 of commodities fraud, 10 of commodities manipulation and one of spoofing, a form of market manipulation that involves placing an order and swiftly withdrawing it before a trade can take place.

US authorities allege he manipulated the prices of S&P 500 futures contracts just minutes before the May 6 2010 flash crash, which resulted in the broad market plunging sharply before rebounding 20 minutes later.

Some greeted the claims with scepticism. Veronica Augustsson, chief executive of Cinnober, a Swedish trading software company that monitors many of the world's largest exchanges, said it was hard to understand the US authorities' actions.

"US authorities are now spending billions on a new audit trail because the flash crash was really embarrassing for them," she said. "It seems they needed someone to blame."

Asked in court whether he consented to extradition, Mr Sarao replied: "No". After a hearing of several hours Judge Purdy said Mr Sarao could be freed on bail of £5.05m.

Joel Smith, defence lawyer, told the court the events had come as "a bolt from the blue" for Mr Sarao. Mr Smith said his client had betting accounts containing £100,000 and a trading account containing £5m: £4.7m of that was a loan to trade with which was "not his money", he said.

Aaron Watkins, prosecutor, earlier objected to bail, saying Mr Sarao was facing charges that carried a "very long custodial sentence" if he was convicted.

Mr Watkins told the court that during the relevant period - June 2009 to April 2014 - the defendant was a futures trader operating from his domestic residence in the UK, through a company he set up, using commercially available automated software.

This enabled him to place multiple orders nearly simultaneously. He told the court that on numerous occasions between April 2010 and April 2014, Mr Sarao allegedly spoofed the market: he had been asked to stop by US authorities but continued to do so, knowing it was wrong.

Mr Smith, the defence lawyer, told the court the defendant was arrested at his home near his parents and that he was trading openly as Navsaraofutures in his own name with no attempt to disguise his conduct.

Mr Sarao has no previous criminal convictions, Mr Smith said. He attended school in London and then Brunel university, also in the capital, and worked since graduating, including for banks.

"He has been raised, educated and lived in this country. He has community ties in this country and nowhere else," Mr Smith told the hearing. He added that the only argument put forward by prosecutors for him to be refused bail was based on the seriousness of the offence and the fear he may fail to surrender.

The court said the next hearing would be on May 26.

Marcus Stanley of Americans for Financial Reform, a campaign group, said Mr Sarao's arrest highlighted the weakness of regulation and fragmented markets.

"If your kid is playing around in your house and the floor collapses, is the problem that the kid was jumping up and down or that your house was built badly? You should have a structure that should withstand this kind of thing," he said.

Additional reporting by John Aglionby and Helen Warrell in London and Gina Chon in Washington

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