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CFTC Approves New Rules on Automated Trading

The US Commodity
Futures Trading Commission (CFTC) has unanimously approved proposed rules in
response to the evolution of automated trading on US designated contract
markets (DCMs). 

The proposed rules,
known collectively as Regulation Automated Trading or Regulation AT, represent
a series of risk controls, transparency measures, and other safeguards related
to automated trading.

Regulation AT will
propose risk control through a multilevel approach. The proposed rules are
intended to reduce potential risks arising from algorithmic trading activity,
by requiring the implementation of risk controls such as maximum order message
and maximum order size parameters, and the establishment of standards for the
development, testing, and monitoring of ATSs, among other requirements

AT persons and
clearing member FCMs will also be required to submit reports on their risk
controls to DCMs, and maintain books and records regarding their risk controls
and other algorithmic trading procedures for review by DCMs. 

“A key principal of
this proposed rule is to have risk controls at three levels – the exchange
level, clearing member level and trading firm level,” says Timothy Massad,
chairman of the CFTC, in a statement. “Market participants generally
supported this multi-level approach in response to the concept release, and I
believe it is important to achieving a sound framework. But in doing so,
we must seek efficiency, and avoid conflicting or unnecessary requirements at
multiple levels.”

The new rules extend
the regulatory burden for automated trading from the trading firms themselves
to service and market infrastructure providers.

“Up until now it’s
been the traders who were being engaged about alleged wrongdoing but in fact
these rules would clearly increase the risk to the FCM and potentially the
markets themselves,” says Gary DeWaal, special counsel, financial services
practice at Katten Muchin Rosenman. “Because they now have specific obligations
in connection with monitoring and ensuring that there is robust risk system out
there by the direct market accessers.”

Regulation AT also
proposes to require the registration of certain proprietary traders that, while
responsible for significant trading volumes in key futures products, are not
currently registered with the Commission. The proposed registration
requirement would be applicable specifically to proprietary traders engaged in
algorithmic trading through direct electronic access to a DCM.

Again, this could place
a greater burden on FCMs. “The big issue is it’s going to require registration
from some ATS’ who are today not registered. And its going to put enhanced
burden on future commissions merchants to basically monitor and produce a
compliance report that they have to certify that they’re keeping track of the
risk controls of other ATS’,” says DeWaal. “Moreover it puts burden on the NFA
to put new rules and regulations around the registration of ATS’. And for the
people who aren’t registered today its going to increase their record keeping
requirements.”

The proposed rules
would also require the use of self-trade prevention tools by market
participants on DCMs, while permitting trades originating from accounts with independent
decision makers.  The CFTC intends for
this to help increase transparency.

The CFTC is also
proposing that all AT persons become members of a registered futures
association, in order to aid in keeping Regulation AT current as markets and
trading technologies evolve.

The rules were
welcomed by the FIA Principal Traders Group which released a statement
following the meeting. 

“FIA PTG has been
engaged in the public policy dialogue on automated trading for years now, and
we appreciate the significant amount of time and effort the CFTC staff put into
this rule,” says Rob Creamer, chairman of FIA PTG. “The commissioners have
emphasised a data-driven approach and have referenced standards that follow
industry best-practices, including pre-trade risk controls. 

“We’re hopeful that
the rules issued today reflect those ideals,” he continues. “We will be working
with FIA to carefully review the proposed rules and analyze their potential
implications. We’ll pay particularly close attention to the issue of access to
proprietary algorithms and the intellectual property concerns raised by
Commissioner Giancarlo.”

paul@profit-loss.com    Twitter @Profit_and_Loss 

Colin Lambert

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