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From Securities Regulation Daily, October 20, 2015

White shares thoughts on reform of the Treasury market

By Jacquelyn Lumb

SEC Chair Mary Jo White believes certain key features of equity market regulation may be useful when considering enhanced regulation for the Treasury market. She reviewed those features during a market structure conference at the Federal Reserve Bank of New York. White said the regulators that participated in the report on the October 15, 2014 volatility in the Treasury market view enhancements to the market as a shared obligation.

October 15 volatility. The October 15 report reviews the fundamental changes that had occurred in the Treasury market before that day’s volatility, many of which are familiar to equity market participants and regulators, such as high-speed electronic trading, she said. The events of October 15 made clear the need to fully understand the Treasury market and to optimize the current market structure, just as the May 6, 2010 flash crash was a catalyst for reform of the equity markets.

Equity market structure reform. White described her ambitious plans to enhance the equity market structure, which include strengthening the risk controls for firms that use trading algorithms; addressing the use of destabilizing trading strategies during vulnerable market conditions; reviewing the regulatory status of active proprietary trading firms; and enhancing the operational transparency of non-trading platforms.

Operational integrity. While some of the SEC’s initiatives may help inform improvements to the Treasury markets, White acknowledged that the regulations cannot simply be transferred given the differences in financial products and market participants. However, operational integrity is an essential foundation for electronic markets, and White said the industry should work together to develop a consensus on best practices and risk controls. The working group should consider additional risk controls to help ensure the market continues to function smoothly.

Volatility moderators. White also talked about volatility moderators for transitory events, in which extreme price movements cannot be fully explained. These events can raise questions about the integrity and stability of a financial market, she explained. In response, the SEC and the self-regulatory organizations have adopted a number of measures, including a circuit breaker that triggers a short pause in trading and facilitates a more balanced aggregation of liquidity supply and demand.

In addition to the SEC and CFTC market-wide circuit breakers, the SEC has a pilot limit-up/limit-down plan which is under evaluation. White said the events of August 24 are providing useful data as the staff assesses the effectiveness of this mechanism. In addition, she has directed the staff to develop an anti-disruptive trading rule to focus on the demand side of a liquidity imbalance. The regulatory response to the use of aggressive, destabilizing trading strategies in vulnerable market conditions must be carefully tailored, she said, which will be a complex task.

Reassess exclusion from regulation. The Treasury market event on October 15th appears to raise concerns similar to those that would be addressed by an anti-disruptive trading rule, according to White, so it should help inform the regulatory response. She also called for a reassessment of whether trading platforms that trade solely in government securities should continue to be excluded from registration and regulation.

The SEC is considering whether to expand publicly available information about alternative trading system operations, White added, and regulators should similarly consider whether primary trading platforms in the Treasury market provide sufficient information about their operations. In addition, she said regulators should reevaluate the extent to which unregistered firms which represent a significant portion of the cash Treasury volume should be subject to an appropriate regulatory regime.

Post-trade transparency. White also said that any review of Treasury market structure and regulation must address whether post-trade transparency in the dealer-to-customer segment would be beneficial and how to achieve that objective. The answer is likely yes, she said, but how best to accomplish it is the more difficult task.

Data sharing. Finally, White emphasized the importance of access by regulators to trading data and of cooperation in sharing data. She mentioned the size, scope, time and investment in the Consolidated Audit Trail Initiative being undertaken by FINRA and the exchanges, and said that a similar investment would be required in the Treasury market to provide for comprehensive data sharing among regulators.

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