CFTC Weighs Tighter Rules on Algo Traders

This article first appeared on Bloomberg Professional by Nathan R Dean and Elliott Z Stein. It appeared first on the Bloomberg Terminal. 

Algorithmic trading rules set to hit U.S. derivatives markets
Algorithmic traders may see restrictions under a rule that could be finalized in 2016 from the Commodity Futures Trading Commission. The proposal would codify risk controls already in place, set registration requirements and compel firms to hand over source code if asked. Several market participants asked the CFTC to drop the registration and source code provisions and focus on less controversial measures. If the agency fails to finish the rule soon, it could be overturned by a new president in 2017.

High-frequency trading derivatives rules coming
Firms that use algorithmic trading in derivatives markets would be required to have pre-trade risk controls under a proposal from the Commodity Futures Trading Commission. Algorithmic traders would also have to make the source code of their programs available to the government, if requested. Exchanges will also be required to limit self-trading and increase transparency in their market making and incentive programs. High-frequency trading probably wouldn’t be overly restricted under the rule.

Algo traders set to debate registration rules before regulator
The CFTC is expected to host a roundtable on June 10 to give market participants more opportunities to opine on Regulation AT. The agency is also expected to reopen the comment period until June 24. Many commenters have expressed concern about the proposal’s registration requirements that may be too broad, and about a provision that would require a trading company to hand over its source code to the agency. Both provisions are areas in which the CFTC has said it’s seeking more information.

Algo traders’ source code handover contemplated under new rules
Algorithmic trading firms may be more susceptible to enforcement actions and criminal investigations under a proposal requiring a firm to make its source code, which may include intellectual property and business strategies, available to the CFTC or Justice Department upon request. Many firms are hesitant to release its code due to privacy and cybersecurity concerns. The source code provision received considerable criticism from the industry and is the most likely to be changed by the CFTC.

High-frequency traders will likely push CFTC on source code rule
Principal trading firms affected by the Commodity Futures Trading Commission proposal on algorithmic trading will likely try to stop the provision that requires a source code to be supplied to the government upon request. It was heavily criticized during the comment period and stands a good chance of being eliminated in a final rule. Yet the bulk of an eventual final rule may look similar to the proposed, as many provisions codify industry best practices already put in place.

Automated trading rules may be split in order to be finished
In order to finalize the rule before a new administration takes the White House, the CFTC may entertain a suggestion to split the rule and re-propose controversial items, such as registration requirements and source-code provisions. Non-controversial regulations, such as risk controls, would then be finalized. Finalizing a smaller rule soon would allow the CFTC to avoid the risk of a Republican president and Congress overturning the rule in 2017 via the Congressional Review Act.