Bates Research - 10-18-17

New CFTC Commissioner Proposes “21st Century” Approach

At the CFTC a line has been drawn: the regulator will shift away from focusing on “regulating the last crisis” to ensure that they remain relevant in modern markets. Rather than reacting to market innovation, the CFTC sees a role for itself in advancing and promoting innovation. This new viewpoint was prominently discussed in the first public address of Brian Quintenz, newly sworn in as Commissioner of the CFTC. Mr. Quintenz challenged the entire approach undertaken by his predecessors toward regulating the activity of the sector.

Asking the Right Questions

At his speech before the Symphony Innovate 2017 Conference, Commissioner Quintenz framed the regulatory challenge as a balance between the benefits of innovation and technology versus risks that may jeopardize market stability. On one side he sees the “power of data analytics and machine learning, algorithmic trading, movement of data to the cloud” and digital ledger technology as advances which all contribute to “a world that moves faster, at lower cost, more transparently, and with greater efficiency.” On the other side he acknowledges how speed in trading can “trigger events that undermine market stability” and how “increased movement and importance of data demands heightened and careful attention to data integrity and cyber-security.”

Algorithmic Trading

Mr. Quintenz saved some of his harshest words for Regulation Automated Trading, calling the proposed regulation of algorithmic trading “a top level disregard for the enormity of the trading method spectrum and, therefore, a disregard for the proper assessment of market risk posed throughout the broad spectrum,” and labeled it a “registration scheme” that would have forced many entities to register as automated trading persons who were not a market disruption risk in nearly the same way as high frequency traders (for example). He also declared the proposal to build a source code repository “D-E-A-D,” calling it a “highly concerning” overreach. Mr. Quintenz then went on to make the case for a “reset” in both process and policy as it relates to understanding and managing the risks posed by the modern trading environment.

In framing the challenge this way, Commissioner Quintenz poses provocative questions. He asks, for example, “how do we think about [enforcement concepts like] intent when looking at computer code?” and “How does a firm prove a ‘diligent review’ over AI trading strategies?” By posing these and other fundamental questions, Commissioner Quintenz may be setting the stage for a wholesale reconsideration of the regulatory regime set up by his predecessors.

Greater Engagement with FinTech

Commissioner Quintenz argues that the only way to strike the correct balance between the benefits and the risks of FinTech market challenges is by (1) “having regulatory leadership which prioritizes a consistent and engaging dialogue with the FinTech community,” and (2) “fully utilizing existing avenues and creating new structures to empower those conversations.” By this formulation, Commissioner Quintenz is endorsing Chairman Christopher Giancarlo’s approach for “creating a 21st century regulator.” Mr. Quintenz emphasizes the need to send “a coherent message” to the FinTech community that “beneficial innovation will be encouraged and is viewed as vital to the health and vibrancy of our markets.”

As a practical matter, Mr. Quintenz says, this approach takes two forms. LabCFTC, an initiative of the Chair, was created to better inform the Commission of FinTech developments and to facilitate market-enhancing FinTech innovation. Specifically, the initiative is directed to foster thoughtful engagement with innovators; educate regulators as to how new technologies can help make the Commission more effective and efficient; and serve as a mechanism by which the CFTC can collaborate with external organizations, including domestic and international regulators.

Second, under the direction of new “sponsor” Commissioner Quintenz, the existing Technology Advisory Committee will continue to engage with the FinTech community to provide the CFTC with formal guidance on existing or emerging technological advances and associated potential regulatory issues.

Looking Ahead

Chairman Giancarlo has found a kindred spirit in Commissioner Quintenz. As the Chair stated earlier this year:

"Regulators must engage in a constant and evolving dialogue with innovators precisely because we need to understand the impact they are having on the very marketplaces we are charged to supervise. We must partner with them, experiment with them, learn from them and innovate alongside them, if we are ever to keep pace with the digitization of modern markets and protect their 21st century participants."

As sponsor of the TAC, Commissioner Quintenz will be in a position to have significant influence over this regulatory approach. Bates will keep you current with news and updates on this issue. 


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