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February 20, 2013

Chairman Walter Outlines Key Technology Efforts

By Mark S. Nelson, J.D.

SEC Chairman Elisse B. Walter spoke to students at American University School of Law yesterday about technology initiatives that will enable the SEC to better visualize modern financial markets data. The SEC, said Ms. Walter, is working to deploy the Market Information Data Analytics System (MIDAS), to propose Regulation SCI, and to improve filings reviews and other core functions.

MIDAS and CAT. The MIDAS program would enable the SEC to sift massive amounts of public market data for regulatory purposes, as well as more academic goals. Specifically, MIDAS can aggregate all national exchange orders, including modifications, cancellations and executions, and off-exchange data. Said Ms. Walter: "…For the growing team of quant types now employed at the SEC, MIDAS is becoming the world's greatest data sandbox. And the staff is planning to use it to make the SEC a leader in its use of market data."

Near-term MIDAS uses may include analysis of "mini-flash crashes" and the detection of suspicious market behavior, but MIDAS also may shed light on market dynamics. MIDAS, for example, could reveal if minimum time-in-force rules would achieve regulatory goals for rapid quotes and cancellations. MIDAS also could improve the SEC's understanding of depth of book in liquid and illiquid securities and may offer clues about the effects of intraday volatility.

Additionally, the Consolidated Audit Trail (CAT) is expected to provide the SEC reams of nonpublic trading data. This data may be used to ferret out illegal activities and to better understand market operations. According to Ms. Walter, "I can't overestimate the importance of CAT — comprehensive public and non-public data about the market, coming from a single system, could be the most important regulatory development in my lifetime."

Regulation SCI. Ms. Walter said she has instructed the SEC staff to "accelerate" proposed Regulation SCI. This regulation would seek to aid market stability by focusing on the root causes of automated trading failures. Ms. Walter said the proposal likely would set technology standards for alternative trading systems and clearing agencies, require business continuity testing, and provide notice of system problems.

Filings Review. The SEC is developing new tools for staff to use during filing reviews. Ms. Walter noted that today the high volume of public company filings limits staff reviews. Ms. Walter said that the Division of Risk, Strategy and Financial Innovation (RSFI) is working to develop a quantitative filings review tool that is focused on key disclosure issues.

Ms. Walter said one possible use of RSFI analytics would be to look at earnings management by sifting firms' SEC filings for "risk indicators" and "risk inducers." Many off-balance sheet transactions might serve to identify an existing risk. By contrast, underperformance may serve as a risk inducer that may cause a firm's managers to run afoul of securities regulations.

Other initiatives. Ms. Walter said the SEC continues to employ a variety of tools to police securities markets. The National Examination Program uses risk-based algorithms to select firms for closer scrutiny. Similarly, the Aberrational Performance Inquiry looks at hedge fund advisers to identify Ponzi schemes. Ms. Walter also said the SEC continues to improve enforcement and retail investor protection.

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