The Financial Report - Volume 3, No. 7 • April 2014 (Global)

by DLA Piper



Discussion and Analysis

News from the Americas

News from Asia and the Pacific

News from Europe

Global Regulators

US Securities and Exchange Commission Developments

US Commodity Futures Trading Commission Developments

US Banking Agency Developments

US Judicial Developments

US Exchanges and Self-Regulatory Organizations

Discussion and Analysis

I am always intrigued by the odd similarities of seemingly unrelated but contemporaneous newsworthy events. In Wednesday’s Wall Street Journal, there was a brief news item that a large financial institution may have a problem with “La Cucaracha.” The item explains the so-called “cockroach theory of investing”: a company discloses one piece of bad news, which is often followed by additional pieces of bad news, “just as the discovery of one cockroach usually means others are nearby.”

This week, stories about high-frequency traders are dominating the financial media. Michael Lewis, author of Liar’s Poker, The Blind Side and Moneyball, appeared on a recent episode of 60 Minutes to promote his new book, Flash Boys: A Wall Street Revolt. Mr. Lewis argues that the stock markets are “rigged” in favor of high-frequency traders who use dedicated data cables and specialized algorithms to trade milliseconds ahead of the rest of the market.

Concerned that Mr. Lewis may have spotted a cockroach, the FBI, the SEC, the CFTC, the New York Attorney General, and other regulatory and self-regulatory authorities suspect that there may be others. Each reportedly has launched investigations of high-speed traders. The FBI, in particular, is trying to determine whether high-speed traders are trading on material non-public information in fast-moving markets before such information becomes available to other market participants.

On Tuesday, SEC Chair Mary Jo White asked a US House of Representatives subcommittee for additional funding to support her agency’s oversight of high-speed computerized trading and rapidly changing markets in general.

On Wednesday, the Wall Street Journal also reported that Virtu Financial Inc., a New York-based high-speed trading firm, has decided to delay the start of its roadshow in connection with its planned IPO, presumably due to the growing media and regulatory clamor about the role of high-frequency trading in the markets.

Of course, it is entirely possible that an isolated cockroach sighting does not signify a plague-like infestation. There are very strong arguments suggesting that high-frequency traders provide liquidity to the markets and more efficient and equitable pricing than would be possible without such professional traders. This, in turn, actually aids smaller market participants, including retail investors. To mix metaphors, anybody who has ever boarded a commercial airplane understands that those who are able and willing to pay for first-class seats get priority boarding and disembarkation privileges as well as other perks. Minor and reasonable jealousies aside, is anybody truly offended that certain professionals enjoy a several millisecond advantage for their capital outlay?

Mr. Lewis has become an adept writer and his books make for an interesting and enjoyable read. But, at the end of the day, the question is whether the existence of institutional investors who are willing and able to pay millions of dollars to computer technicians, puzzle solvers and data transmission experts, and millions more for dedicated data licenses and computer trading algorithms for the ability to trade a few microseconds ahead of other investors creates a fundamental unfairness in the markets and an un-level playing field. Mr. Lewis’ outrage likely will help him sell books. Unfortunately, it also likely will contribute further to the erosion of trust in the markets and will force multiple regulators to spend enormous resources in their quest to find and eradicate additional cockroaches. Sometimes the ramifications of the solution are, indeed, worse than the problem.

News from the Americas

SEC Chair Discusses the Robust Use of Civil and Criminal Actions to Police the Markets. In a speech at the Securities Industry and Financial Markets Association Compliance & Legal Society Annual Seminar, SEC Chair Mary Jo White discussed current trends in the use of civil and criminal actions to police the markets. In her speech, Chair White emphasized the importance of all-encompassing securities law enforcement -- the appropriate, but vigorous, use of criminal, civil, and regulatory tools to enforce the securities laws. She explained that there are no tools more powerful than a criminal conviction and the prospect and reality of imprisonment. She also noted that in most criminal securities fraud prosecutions, SEC Enforcement works closely with the Department of Justice, the FBI, and state and local law enforcement. (3/31/2014)

OSC report on cross-border implementation. The Ontario Securities Commission published a report by the OTC Derivatives Regulators Group on cross-border implementation issues. The report identifies the current list of remaining cross-border implementation issues, a summary of their status, and a timetable for addressing each issue. (3/31/2014) OSC news release.

News from Asia and the Pacific

ASIC reports on the second half of 2013. The Australian Securities & Investments Commission published its seventh report on the supervision of Australian financial markets and market participants. The report highlights the volume of market and participant-related outcomes achieved by ASIC in the second half of 2013. (3/19/2014) ASIC press release.

FSA publishes English translation of financial market infrastructures guidelines. Japan’s Financial Services Agency published an English translation of its Comprehensive Guidelines for Supervision of Financial Market Infrastructures. (3/27/2014) Guidelines.

Singapore proposes additional revisions to the Risk-Based Capital framework for insurers. The Monetary Authority of Singapore published draft regulations including introduction of a matching adjustment, recalibration of risk requirements to a consistent target criterion, and recognition of diversification benefits in the aggregation of the risk requirements, among others. Comments should be submitted by June 30, 2014. (3/26/2014)

News from Europe

Bank of England consultation paper on bonus clawback. The Bank of England announced that it is consulting on proposals to require all firms authorized by the Prudential Regulation Authority to amend employment contracts to ensure bonus awards that have been vested can be clawed back from individuals where necessary. The Bank already has powers to require firms to stop payment of unvested bonuses, called malus; the proposals in the new document would represent a further strengthening of the remuneration code. (3/31/2014) BOE news release.

FCA consultation paper on fee proposal. The UK’s Financial Conduct Authority will consider comments on its proposed 2014-15 fees and levies rates and plans to publish a Policy Statement, including feedback on those comments and final rules, at the end of June 2014. (3/31/2014) Consultation paper.

FCA investigates benchmark manipulation. The UK’s Financial Conduct Authority announced plans to look into how firms can reduce the risk of traders manipulating key benchmarks as a central part of its Business Plan for 2014/15. The review will assess whether firms have learned lessons from the LIBOR and other recent controversies, and determine whether adequate controls on trader behavior and activity are now in place.(3/31/2014) FCA press release.

Bank of England Financial Policy Committee statement. The Bank of England’s Financial Policy Committee reviewed its assessment of risks to financial stability and progress against its existing set of policy recommendations, in light of that assessment. (3/27/2014) BOE news release.

ESMA consults on major shareholders disclosures. The European Securities and Markets Authority launched a consultation on draft Regulatory Technical Standards under the revised Transparency Directive, relating to the notification of major shareholdings and the indicative list of financial instruments subject to notification requirements. (3/21/2014) ESMA press release.

Global Regulators

Basel Committee finalizes standard on counterparty credit risk exposures. The Basel Committee on Banking Supervision issued a final standard on the treatment of derivatives-related transactions in its capital adequacy framework. (3/31/2014) BIS press release.

US Securities and Exchange Commission Developments

Selected Enforcement Actions

Pre-IPO fund manager settles fraud charges. The SEC announced settled civil charges against a fund manager, brokerage firm, and affiliated investment adviser. The complaint in the matter alleged that the fund manager and the firms defrauded investors in funds created to purchase pre-IPO shares of Facebook and other tech companies. Without admitting or denying the allegations, the manager and brokerage agreed to pay US$500,000 in disgorgement, prejudgment interest, and civil penalties. The manager also agreed to be barred from the securities industry. (3/20/2014) SEC Litigation Release.

Other Developments

Staff analysis of money market reform released. The SEC has made available certain analyses of data and academic literature related to money market fund reform, to allow the public to consider and comment on this supplemental information. The analyses examine the spread between same-day buy and sell transaction prices for certain corporate bonds; the extent of government money market fund exposure to non-government securities; academic literature reviewing recent evidence on the availability of “safe assets”; and the extent various money market funds are holding in their portfolios guarantees and demand features from a single institution. (3/24/2014) SEC press release.

Cybersecurity concerns. At the SEC’s Cybersecurity Roundtable, Commissioner Luis A. Aguilar expressed concern regarding the risk to capital markets of market disruptions and investor harm in the wake of a cyber attack. Aguilar recommended establishing a cybersecurity task force. (3/26/2014) Cyberthreats.

Bond pricing differences. The SEC has launched a probe into why dealers show different prices for the same bonds to different customers. The SEC is concerned that smaller investors are being penalized. Much of the relevant trading is still conducted via email or phone, complicating the availability of complete transparency. (3/20/2014) Bond prices.

US Commodity Futures Trading Commission Developments

Regulatory Relief

CPO registration relief. The Division of Swap Dealer and Intermediary Oversight took a no-action position with respect to the operation of certain collective trading vehicles by either of two corporations (A and B) entirely controlled by a non-profit corporation (C) that is the coordinating organization for a denomination’s churches. The collective trading vehicles would commingle assets of church plans (within the definition of Regulation 4.5), together with endowments and other assets of certain non-profit corporations entirely controlled by C. Although the collective trading vehicles would be pools, the Division believed that requiring commodity pool operator registration would serve no substantial regulatory purpose. (3/19/2014) CFTC Letter No. 14-28.

Registration relief for educational purposes. The Division of Swap Dealer and Intermediary Oversight confirmed the availability of CFTC Letter 00-10, which provides commodity pool operator registration relief to a university’s cooperative extension service, its agents and employees, permitting them to offer courses that would allow certain students to trade commodity interests through participation in a trading club.(3/18/2014) CFTC Letter No. 14-29.


Auditor guidance. The CFTC has released new guidance interpreting and explaining the auditor independence requirements under regulation 1.16 of the CFR. The regulations, published last November, require futures commission merchants holding customer funds to implement greater customer protection standards. (3/28/2014) CFTC press release.

Other Developments

Request for public comment. The CFTC issued a request for public comment on swaps data recordkeeping and reporting requirements. Part 45 of the CFR requires reporting entities to submit swap transaction data via electronic reporting to the agency for analysis. (3/19/2014) Request.

US Banking Agency Developments

Federal Reserve will continue extraordinary support. Federal Reserve Chair Janet Yellen addressed a community development conference in her first public address as Chair. Yellen did not mention economic growth, instead focusing on the “slack” in the labor market and lingering effects of the Great Recession. (3/31/2014) Speech.

US Judicial Developments

Debit card rules upheld. The DC Circuit substantially upheld the Federal Reserve Board’s regulations imposing a cap on the per-transaction debit card fees that banks receive and requiring that at least two networks owned and operated by different companies be able to process transactions on each debit card. The Court found that the Board’s rules were reasonable and within the Board’s discretion, and remanded one minor issue, treatment of so-called transactions-monitoring costs, to the Board for further explanation. (3/21/2014) NACS v. Board of Governors of the Federal Reserve System.

US Exchanges and Self-Regulatory Organizations

FINRA supervision rules approved. The SEC has approved the Financial Industry Regulatory Authority’s new consolidated rules governing supervision. The new rules become effective on December 1, 2014. FINRA Regulatory Notice 14-10.

FINRA proposes rule changes. FINRA has proposed a change to amend Rule 2210, to exclude research reports concerning only securities listed on a national securities exchange and Rule 2214, to correct a rule cross-reference. (3/25/2014) SEC Release 34-71792.

FINRA proposes recruitment practices rule. The SEC has published the proposed rule change to adopt FINRA Rule 2243 regarding FINRA members’ recruitment practices of registered persons (“representatives”). The proposed rule would make more transparent the recruitment package received by the representative from the new firm. (3/24/2014) SEC Release 34-71786.

SEC approves NYSE proposal. The SEC granted approval of NYSE Arca’s proposal to list and trade shares of the SPDR SSgA Risk Aware ETF; SPDR SSgA Large Cap Risk Aware ETF; and SPDR SSgA Small Cap Risk Aware ETF under NYSE Arca Equities Rule 8.600. (3/21/2014) SEC Release 34-71767.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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