May 11, 2010
I commend CFTC Chairman Gensler, SEC Chairman Shapiro and Secretary Geithner for their tireless efforts (and those of their staffs) related to the serious and significant market events of May 6th. As we go forward, I am hopeful that we look at four areas of critical importance.
1 – What Happened? We need to figure out—immediately—specifically what happened. Regulators need to use every existing tool at their disposal, and get the answers. "We don't know," or "we aren't sure," is simply not acceptable. The CFTC and the SEC need to focus on this matter, with additional outside experts if need be, in a time-sensitive fashion. In that vein, I’m extremely pleased that we’ve set up a joint SEC/CFTC advisory committee to address issues such as this. Standard operating procedures should not apply. Indeed, the fact that we still do not have an answer to the question of “What happened?” highlights that we need to do more and have better oversight and enforcement tools. The regulatory reform bill making its way through Congress is critical in this regard.
2 – Circuit Breakers. Clearly, the fail-safe measures that were put in place were not safe—and failed. Circuit breakers—that is, systems that trigger a trading halt when certain market-related events occur—need to become mandatory and approved by regulators as appropriate for all markets and all contracts. These circuit breakers are currently voluntarily put in place by exchanges. Not only are such circuit breakers needed, they need to have ensured consistency and be set at appropriate levels, before serious and significant market anomalies take place. The fact that the circuit breakers were not triggered and that trades on some equity exchanges were busted, indicates a clear flaw in the current circuit breaker system.
3 – OTC Authority. Finding out what happened is, in part, made more difficult because oversight agencies don’t have all the regulatory tools that we need to make swift, accurate, and thoughtful determinations about these markets. The over-the-counter (OTC) market is estimated to account for more than $600 trillion in annual trading. By comparison, the regulated U.S. futures exchanges amount to less than $5 trillion. The OTC market is completely and utterly unregulated—a dark market—and it can have an impact on regulated trading. These markets are interrelated and interdependent. In brief, OTC markets can and do impact the prices consumers pay for just about everything they purchase (from a gallon of milk, orange juice, or gasoline to a home mortgage interest rate). Both the House and Senate regulatory reform measures would allow supervision of currently dark OTC markets. We need that authority, as President Obama has detailed numerous times, and soon as possible.
4 – Financial Technology ("Fintech"). A decade ago, most exchange trading took place in trading pits. That has changed dramatically. Now, more than 80 percent of trading on regulated U.S. futures exchanges takes place electronically. The new and innovative trading practices that are currently in use (and being developed) have simply moved beyond regulators’ ability to keep up with in a timely fashion. Algorithmic trading—where buy and sell orders are generated by computers making determinations by variable decision trees—are commonplace. Flash trading—which seeks to take momentary advantage of slight price changes by moving in and out of markets in large volumes and relying on computer speed gauged in nanoseconds—increases our global inter-connectedness not only in futures and equity markets, but markets all around the world. All of these factors are relatively new and regulators need to do more to ensure that fintech works for us or it will, as we have seen, work against us.
Whatever the impetus for the market aberrations on May 6th, there is no doubt that the collapse and ultimate rebound was affected—in some form or fashion—by fintech. This is evidenced by the sheer size and speed of the trading that moved markets so dramatically in such a short time period.
Fintech can be a great attribute to markets. It can make global trading accessible like never before, supply liquidity to markets and provide trading data trails for regulators and exchanges alike. Without fully understanding all of the ramifications of this technology however, we will continue to witness market aberrations. Perhaps there should be certain limits or parameters on fintech trading? Perhaps the size of trades should be regulated, or the time period in which they could occur should be limited or more closely monitored? These questions and many others need examination in detail, and urgently, by regulators, exchanges and policymakers.
May 6th was a serious and significant date in our markets—markets that consumers rely upon to ensure fair and equitable pricing. They are of national importance. We need to continue to improve our regulatory regime in order to ensure that markets are efficient and effective and that they are devoid of fraud, abuse and manipulation.
Stop the Ponzimonium.
Report financial frauds at 1-866-FON-CFTC (366-2382).
Last Updated: June 14, 2010