Tuesday, September 10, 2013

CFTC: Concept Release on Risk Controls and System Safeguards for Automated Trading

By Tim Dulaney, PhD, FRM and Tim Husson, PhD

Yesterday, the Commodity Futures Trading Commission (CFTC) produced their concept release on "Risk Controls and System Safeguards for Automated Trading Environments" (PDF).  The CFTC is hoping to evaluate the efficacy of currently implemented risk control mechanisms that may have been sufficient for "human judgment and speeds" but may no longer be sufficient in the present environment of automated and interconnected high-frequency trading.

After reviewing the present status of automated trading and the CFTC's regulatory actions to date (application of risk-based limits on customer and proprietary accounts, oversight and supervision of trading automated trading programs, etc.), the release mentioned market events that demonstrate the need for additional risk controls.  The examples included the 2012 Knight Capital Group incident, the May 2010 flash crash, as well as recent incidents such as the Goldman debacle and the NASDAQ trading suspension.

The scope of this release is very broad.  The CFTC identifies 124 questions related to high-frequency trading, including whether certain limits should be set, what types of messaging should be allowed between exchanges, and even questions regarding the definition of high-frequency trading.  Some of the CFTCs questions seem to relate to potential solutions to high-frequency trading issues proposed by others, such as minimum time period for which orders must stay active.  The breadth of questions raised by the CFTC shows just how complicated automated trading issues have become.

The CFTC is seeking public comment on their catalog of existing industry practices and the need for additional measures.  After the release is published in the Federal Register, the public will have 90 days to comment.  The CFTC will post responses to the concept release on their website as they become available.

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