The Managed Funds Associated (“MFA”) submitted comments to the CFTC regarding its Concept Release on Risk Controls and System Safeguards for Automated Trading Environments. In the letter, the MFA noted that the CFTC has “implemented a robust derivatives market regulatory framework” with rigorous controls and safeguards for automated trading environments, but suggests that such controls and safeguards need to be further enhanced. The following recommendations were made:

• “As high frequency trading (“HFT”) is not a strategy, but the use of technology to deploy certain trading strategies, the Commission should monitor the markets for abusive trading rather than the means of transaction delivery; it is therefore not necessary, nor particularly effective, for the Commission to define HFT.
• “To protect market integrity and prevent market disruptions, the Commission should address risk controls and system safeguards with respect to all electronic trading and not just automated trading or so-called HFT.
• “Operational, infrastructure and security risks should be addressed by centralizing risk controls at the trading platform and clearing member levels. Risk controls and system safeguards at such entities will protect market participants and the markets by acting as gateways that monitor activity for market participants and block inappropriate or erroneous orders from the markets.
• “In considering the proposed rulemaking, the Commission should take a principles-based approach that encourages effective self-regulation through trading platforms, futures commission merchants, swap dealers and major swap participants.
• “Maximum order size and credit risk controls should be available and apply to all market participants regardless of a customer’s trading method or strategy.
• “Trading platforms, FCMs and derivatives clearing organizations should provide real-time post-trade reports to market participants and their clearing firms.
• “Trade cancellation and adjustment policies should be clear, objective and predictable.
• “MFA supports more robust and more routine testing of trading software at the trading platform level. In addition to individual testing, trading platforms should offer integrated or holistic testing where a firm’s software interacts with others.”

See: MFA Comment Letter.
Related news: CFTC Publishes Concept Release on Risk Controls and System Safeguards for Automated Trading Environments (Fed. Reg.) (September 16, 2013); CFTC Concept Release on Supervision and Regulation of Automated Trading (September 10, 2013).

The Futures Industry Association (“FIA”) has submitted comments in response to the CFTC’s Concept Release on Risk Controls and System Safeguards for Automated Trading Environments.  The response described the risk controls and system safeguards that are currently used in the futures industry, and outlined several principles that the CFTC should take into account as it considers establishing regulations with regard to those controls and safeguards. The letter also contained responses to specific questions posted by the CFTC in its concept release.

See: FIA Response to CFTC Concept Release; FIA Comment Letter.
Related news: CFTC Publishes Concept Release on Risk Controls and System Safeguards for Automated Trading Environments (Fed. Reg.) (September 16, 2013); CFTC Concept Release on Supervision and Regulation of Automated Trading (September 10, 2013).

A report released by the GAO determined that the Office of Management and Budget (“OMB”), in coordination with the regulatory agencies, may not be consistently determining which rules are considered “major rules” under the Congressional Review Act (“CRA”), which was put in place to allow Congress to review major rules before they became effective. The GAO recommends, as it first did in 2011, that the OMB issue guidance to help standardize CRA processes.

The GAO found that some independent agencies submitted all of their rules to the OMB while others did not, and that inconsistencies remain in how these agencies applied the CRA criteria. The GAO found, for example, that rules issued by different agencies had similar economic impacts but were not similarly classified as major. According to the GAO report linked below, these ongoing issues raise the risk of some rules not being properly classified as major, limiting Congress’s ability to review these rules before they become effective.

Lofchie Comment: Overall, the report is critical of regulators’ not undertaking appropriate analyses or coordinating rulemakings. The bar is set fairly low for regulators to meet the standards discussed in the report. As noted (on page 2), financial regulators are not subject to the Executive Order requiring that “major” rules be subject to a formal cost-benefit analysis. More significantly, the GAO report merely indicates whether a regulator stated that it has performed a cost-benefit analysis, the report does not discuss the quality of the analysis done.

While “major” rules are intended to be subject to additional procedures, the financial regulators may be failing to identify all such rules, or subdividing rules in such a way that none of the subdivided rules are considered “major”. A perfect example of the problem is the CFTC’s cross-border guidance, which is now the subject of litigation, and which should have been subject to a formal rulemaking procedure.

By way of a further and, arguably, even more significant example of how low the GAO’s bar was set, below is an excerpt from CFTC Commissioner O’Malia’s dissent from the CFTC’ adoption of the Volcker Rule:

“Throughout the Commission’s rulemakings under the Dodd-Frank Act, I have urged the Commission to faithfully act in accordance with the applicable statutory authorities and the Administrative Procedure Act (“APA”). However, in the implementation of one of the most important mandates issued by Congress in response to the financial crisis, the Commission seems to have forgotten the basics of agency rulemaking. I am deeply troubled by the egregious abuse of process in this rulemaking. Without a doubt, it far surpasses all other previous transgressions to date.

“The first opportunity each Commissioner had to review a partial draft of the nearly 1,000-page final rule came only three weeks prior to today’s vote. Further, because the Commission was operating in an information vacuum, the fact that the Commissioners were not reviewing the working interagency draft – but instead had the “CFTC-preferred” version of the rule – only came to light a few days later. The Commission did not receive a near-final draft of the rule (with language agreed to by all five agencies) until just six days prior to the vote, despite repeated requests by Commissioners for a version of the draft then in circulation amongst the responsible agencies. This six-day draft was not even accompanied by the courtesy of a summary or term sheet in order to aid the Commission in digesting, at the last minute, this incredibly complex and dense final rule.

“I am disappointed that today’s vote on the final rule is besmirched by the purposeful circumvention of measured review by each Commissioner’s office. It is simply not possible to carefully weigh a final rule – particularly one with as much detail and consequence as the Volcker Rule – in the briefest of timeframes. Accordingly, I am concerned that the lack of meaningful participation by the full Commission in the rulemaking process has therefore seriously impaired the ability of the Commission, as a deliberative body, to engage in reasoned decision-making.”

See: Dodd-Frank Regulations: Agencies Conducted Regulatory Analyses and Coordinated but Could Benefit from Additional Guidance on Major Rules (GAO Report).

The Federal Reserve Board (“FRB”), FDIC, Officer of the Comptroller of the Currency (“OCC”), SEC and CFTC (the “Agencies”) issued final rules implementing Section 619 of the Dodd-Frank Act, commonly known as the “Volcker Rule.” In addition to the final rules, the FRB issued an order further extending the conformance period provided under Section 619, which was previously set to expire this coming July, for one additional year. As a result, covered banking organizations will have until July 21, 2015, to fully conform their activities and investments to the Volcker Rule’s requirements. Notwithstanding this extension, the order makes clear that banking entities with stand-alone proprietary trading operations will be expected to terminate or divest those operations “promptly.” Additionally, with respect to the largest banking entities that engage in covered trading activity, the final rules require various quantitative metrics to be reported to the Agencies beginning on June 30, 2014.

See: Text of the Final Volcker Rule; Preamble to the Final Rule; Fact Sheet of the Final Rule; Volcker Rule Board Memo; SEC Press Release.
See also: Opening Statement by FRB Chairman Bernanke; Opening Statement by FRB Governor Tarullo; Statement of FDIC Chairman Gruenberg; Statement of Support by FDIC Vice Chairman Hoenig; Statement of SEC Chair White; Statement of SEC Commissioner Aguilar; Dissenting Statement by SEC Commissioner Gallagher; Dissenting Statement by SEC Commissioner Piwowar; Statement of SEC Commissioner Stein; Statement of Support by CFTC Chairman Gensler; Statement of Support by CFTC Commissioner Wetjen; Dissenting Statement by CFTC Commissioner O’Malia; Statement by CFTC Commissioner Chilton; SIFMA Comment Letter.

Click here to watch the full video of the Open Board Meeting.

SEC Commissioner Michael S. Piwowar delivered remarks at a London conference, stating that, in order to maintain fair, orderly, and efficient markets, the SEC must conduct a comprehensive review of equity market structure.

Commissioner Piwowar noted that, in 1961, Congress mandated that the SEC undertake the study and investigation of the adequacy of rules of national securities exchanges and national securities associations. This resulted in a 19-month analysis and a five-part report titled “Report of Special Study of Securities Markets of the Securities and Exchange Commissioner.” The study revealed that the market is a complex interaction of “causes and effects” among numerous stakeholders. Piwowar found it troubling that the SEC has still not conducted a comprehensive review of market structure in light of the 2010 flash crash. He went on to state that the SEC has “effectively abandoned its Concept Release on Equity Market Structure” that was published for public comment in early 2010. He noted that, as the market swiftly evolves, the SEC’s regulatory structure must evolve with the market in order not to conflict with how markets operate.

Furthermore, Piwowar noted, the way in which the 1961 study was conducted can serve as a useful framework for the current market structures to be analyzed. Piwowar explained that the study was the result of broad participation, not only by SEC staff, but also including input from individuals in private law practice, academia and the industry. Piwowar said that, moving forward, the SEC should obtain this broad input to try to determine the incentives that underlie the current market structure. Finally, he stated, the views and perspectives of the public are essential for any market structure debate, and the SEC will benefit the most from data and research.

In closing, Commissioner Piwowar stated that the SEC needs a comprehensive, multi-year equity market structure review program, with “the benefit of hindsight and the promise of foresight.”

See: SEC Commissioner Piwowar’s Speech.