February 23, 2016
I thank Chairman Massad for convening today’s meeting of the Technology Advisory Committee (TAC or Committee) that last met over twenty months ago. It is important that we reestablish this Committee to build upon the crucial work of the previous TAC. In fact, two of today’s topics – automated trading and swaps data reporting – were extensively discussed at previous TAC meetings.
Panel I – Regulation Automated Trading
The electronification of trading over the past 30 to 40 years and the advent of exponential digital technologies have transformed financial businesses, markets and entire industries, with dramatic implications for capital formation and risk transfer. In U.S. futures markets, we see this change most presently in the area of algorithmic or automated trading that now constitutes over seventy percent of regulated futures markets. How 21st century markets adjust to this evolution from human to automated trading will be extremely important. It requires delicate balancing.
On the positive side, automated trading can lower transaction costs while increasing trading liquidity, broadening market access, enhancing transparency and creating greater competition.
On the other hand, automated trading presents new challenges to the continuing viability of traditional market regulation. How does the CFTC adapt a regulatory framework designed to catch “bad-guys” to now catch “bad-algos?” What do essential legal concepts like mens rea, scienter and “failure to supervise” mean in transactions initiated by artificial intelligence rather than direct human action? How does the CFTC recondition 20th century trading markets and their essential institutions to benefit from 21st century automated trading while maximizing marketplace safety, soundness, efficiency and resiliency?
The first meeting of the reconstituted TAC on July 14, 2010 discussed some of these issues. Since that time this Committee has explored many concepts and has made several recommendations regarding automated trading. In 2013, the CFTC issued a Concept Release on Automated Trading that was informed by the work of the TAC and other groups.1 Last November, the Commission voted to propose Regulation Automated Trading (Regulation AT) that we will discuss today.2
While I voted to put Regulation AT out for public comment, I questioned whether the merits of the proposal outweigh its additional costs and burdens. I raised special concern about the requirement that registrants hold their proprietary source code in data repositories available for inspection by the CFTC or the U.S. Department of Justice at any time for any reason without a subpoena.3
Yet, my overarching concern is that, in essence, Regulation AT is a registration scheme. Yet, registration is not policy and policy is not registration. The relatively simple process of registering users of trading algorithms does not begin to address the hard public policy considerations that arise from the automation revolution in modern markets. These difficult policy issues can only be considered through industry-wide dialogue, technological expertise and careful analysis. They should not be addressed as a reaction to media headlines, best-selling books or political campaign agendas.
Today, I hope that we further the hard work of policy analysis. I trust that today’s meeting will better inform the Commission about issues regarding Regulation AT and automated trading.
Panel II – Swap Data Standardization and Harmonization
At the heart of the 2008 financial crisis was the inability of regulators to assess and quantify the counterparty credit risk of large banks and swap dealers. The legislative solution was the establishment of swap data repositories (SDRs) under the Dodd-Frank Act. Yet, seven and a half years after the financial crisis and despite much hard work and effort, SDRs still cannot provide accurate visibility into global swaps counterparty exposure that Dodd-Frank promised to provide. Of all the many mandates to emerge from the financial crisis, transparency into swaps counterparty exposure of major financial institutions was perhaps the most pressing. The failure to accomplish it is certainly the most disappointing.
I fear that the CFTC and its overseas regulatory counterparts acting alone will continue to struggle to achieve the important objective of full visibility into swaps counterparty exposure. Swaps market analysis is essentially a big data problem – the kind that is tackled every day in America’s technology corridors from Brooklyn to Silicon Valley. What is needed in Washington is a concerted and cooperative effort by regulators, market participants, commercial technology vendors and academia that draws on the emerging fields of big data analysis, network science and financial cartography. It is long past time to broaden this important implementation.
Prior TAC meetings have well documented the challenges the Commission has faced in optimizing swaps data4 ranging from data field standardization and data validation to analysis automation and cross-border data aggregation and sharing.5 One problem with swaps data reporting that the TAC will discuss today is swaps data standardization and harmonization. Market participants vary significantly in how they report the same data field to swap data repositories and those repositories vary in how they report that data to the CFTC.6 Recently, CFTC staff published a request for comment on draft technical specifications for certain swap data elements in an effort to improve data standardization.7
In this regard, one issue that has recently been raised is that the “CFTC is attempting to treat uncleared, bilateral OTC derivatives data in the same way as financial futures contracts or cleared swaps …”.8 Some say that it is difficult to report customized, uncleared swap data elements in a standardized way and that trying to narrow data element definitions for these swaps in an effort to simplify and standardize them is misguided.9 The answer cannot be to do away with customized swaps and to create standardized markets so that the CFTC has an easier time analyzing swaps data.10 The answer has to be to develop more sophisticated swap reporting, recording and analysis tools without forcing the artificial standardization of a market that plays an important commercial purpose.11
At the same time, the CFTC must be cognizant of the burdens on market participants, particularly end-users, when requesting more data. The CFTC should determine whether it truly needs all of the data that is being requested. I welcome the TAC’s input on this and other swaps data reporting challenges.
Panel III – Blockchain
In a recent CFTC podcast, I spoke about the potential benefits to market structure from the application of distributed open ledgers.12 I said that distributed ledgers will have enormous implications for financial markets in payments, banking, securities settlement, title recording, cyber security and the process of collateral management.13 Open ledgers may also make possible new “smart” securities and derivatives that will revolutionize operational and transactional efficiency.14 They may help reduce some of the enormous cost of the increased financial system infrastructure required by new laws and regulations, including Dodd-Frank.
Enormous resources are being invested in developing the distributed open ledger known as the blockchain.15 Regulators must cultivate and embrace new technology such as the blockchain and not stifle innovation. I am pleased that the TAC will be discussing the blockchain and I hope that it will continue to advise the CFTC on new disruptive technologies.
I thank the Chairman and members of the TAC, and look forward to a productive meeting.
1 Concept Release on Risk Controls and System Safeguards for Automated Trading Environments, 78 Fed. Reg. 56542 (Sep. 12, 2013).
2 Regulation Automated Trading, 80 Fed. Reg. 78824 (Dec. 17, 2015).
3 Id. at 78938; Proposed 1.81(a)(vi). See also id. at 78947.
4 See TAC meetings and related documents, available at http://www.cftc.gov/About/CFTCCommittees/TechnologyAdvisory/tac_meetings.
6 See Swap Data Recordkeeping and Reporting Requirements, 77 Fed. Reg. 2136, 2169-70 (Jan. 13, 2012) (providing flexibility to the industry regarding data standards in the final reporting rules).
7 Request for Comment, Draft Technical Specifications for Certain Swap Data Elements (Dec. 22, 2015), http://www.cftc.gov/idc/groups/public/@newsroom/documents/file/specificationsswapdata122215.pdf.
8 Roberto Barros, CFTC Takes Steps to Clean Up ‘Garbage’ Swaps Data, Risk.net, Jan. 22, 2016. See also Roberto Barros, Energy Industry Blasts “Unusable” CFTC Commodity Swap Data, Risk.net, Feb. 16, 2016.
12 Commissioner J. Christopher Giancarlo Releases Podcast About 6 Mega-Trends Facing 21st Century Financial Markets (Feb. 4, 2016), http://www.cftc.gov/PressRoom/SpeechesTestimony/giancarlostatement020416.
14 Id.; See also Martin Arnold and Nicole Bullock, Nasdaq Claims to Break Ground with Blockchain-Based Share Sale, Financial Times, Dec. 30, 2015.
15 Id.; See e.g., Ian Allison, Blockchain Consortium R3 Opens Its Doors to Exchanges and Clearing Houses in 2016, International Business Times, Dec. 17, 2015; Telis Demos, Blockchain Startup Gets Big-Bank Backing, The Wall Street Journal, Jan. 22, 2016.
Last Updated: February 23, 2016