WILLIAMS & JENSEN, PLLC
CONGRESSIONAL HEARING REPORT
Democrats: Senator Reed (RI), Senator Levin (MI), Senator Coons (DE)
Honorable Mary Schapiro - Chairman, Securities and Exchange Commission
Honorable Gary Gensler - Chairman, Commodity Futures Trading Commission
Dr. James Angel - Associate Professor of Finance, Georgetown University McDonough School of Business
Mr. Thomas Peterffy - CEO, Interactive Brokers
Mr. Manoj Narang - CEO, Tradeworx
Mr. Kevin Cronin - Global Head of Equity Trading, Invesco Ltd
Mr. Steve Luparello - Vice Chairman, Financial Industry Regulatory Authority
On December 8, the Senate Banking Subcommittee on Securities, Investment and Insurance held a joint hearing with the Senate Homeland Security Permanent Subcommittee on Investigations entitled “Examining the Efficiency, Stability, and Integrity of the U.S. Capital Markets.” Senate Banking Subcommittee on Securities, Insurance and Investment Subcommittee Chairman Reed (D-RI) stressed the need to understand the causes and implications of the May 6 flash crash. He expressed concern with the length of time needed to complete the report on the flash crash. He questioned whether regulators have adequate tools to oversee the market. He stressed the need for coordination across markets. He stated that on May 6, a CFTC regulated product caused problems in SEC regulated markets. He stated that the trading algorithm used by one mutual fund interacted with those of other traders, particularly high frequency traders (HFTs), to create a vicious cycle. He questioned how Reg NMS needs to be updated. He stated that the SEC has implemented a stock-by-stock circuit breaker program in response to the flash crash. He stressed the need provide the SEC and CFTC with adequate technology to keep up with the markets they regulate.
Senate Homeland Security and Government Affairs Permanent Subcommittee on Investigations Chairman Levin (D-MI) stated that U.S. capital markets are fractured, open to abuses and littered with regulatory blind spots. He stated that today less than 25 percent of NYSE listed stocks are traded there. He stated that the U.S. stock market has fractured with stock trading occurring on 13 exchanges and multiple off-exchange venues. He stated that electronic communication networks (ECNs) allow participants to post public quotes without going through a formal exchange. He stated that dark pools allow participants to trade without revealing who they are. He argued that these off-exchange venues escape a great deal of regulation and oversight. Levin stated that trading competition has lowered costs, but has also led to systems failures like the May 6 flash crash. He stated that the flash crash was set off by a futures order which led to a cascade effect. Levin noted that mini-flash crashes, where the value of one stock suddenly drops without explanation, now occur regularly. He noted that the NASDAQ has experiences single stock flash crashes about five times per week. He suggested that many investors are fleeing the U.S. markets because of concerns over these system failures and because of trading abuses. He stated that high speed traders are submitting and cancelling “phony orders” in order to affect prices. He stated that traders are now analyzing trades in all three markets at once. Levin noted that Karl Denninger recently stated publicly that the market is out of control and that traders have far faster technology than regulators. Levin pointed to four key challenges facing regulators: (1) no regulatory agency has a complete picture of all of the trading venues; (2) current data systems fail to identify key information, including the names of the executing broker and customer making the trades; (3) the SEC has no minimum standards for the automated market surveillance systems of SROs; and (4) the SEC and CFTC have not set up procedures to coordinate their screening of market data to see if trades in one agency’s markets are affecting prices in the other’s markets. He noted that over the last few years there have been few cases brought against market manipulators. He expressed concern that overseas traders are attempting to manipulate U.S. markets and that regulators are unable to deal with them. He argued that the SEC’s proposed consolidated audit trail will take years to set up and does not go far enough. He stressed the need to move more urgently to improve oversight.
Topics discussed in the first panel included, but were not limited to: (1) Resources; (2) Surveillance; (3) Consolidated Audit Trail; (4) Market Manipulation; (5) Algorithmic Trading; (6) Market Structure; (7) Arbitrage; and (8) Evolution of Markets.
Topics discussed in the second panel included, but were not limited to: (1) Audit Trails; (2) Sponsored Access; (3) High Frequency Trading; (4) The IPO Crisis; (5) Cross-Market Trading; (6) Foreign Owned Accounts; and (7) the Order Protection Rule.