Introduction

Thank you for that very kind introduction.  I am honored to join you today at the Institute of International Bankers Membership Luncheon.  Let me congratulate Sally Miller on her distinguished tenure with this organization as well as congratulate Briget Polichene on taking the reins.  I look forward to continuing to work with you on important issues facing the global financial markets.  Before I begin, let me quickly say that the views contained in this speech are my own and do not represent the views of the Commission.

Deference for Different Approaches

The European Union (EU) and the United States share an interest in fostering a liquid, competitive, well-functioning global derivatives market.  Although we frequently share the same goals—for example preventing a buildup of systemic risk or prosecuting manipulation and fraud—this does not mean that we must each approach every regulatory solution identically.  There are many different means by which to achieve a shared goal, and regulators should have the discretion to adopt the framework that works best for their markets.  In my opinion, the expectation should not be that our rules are identical, but rather that they seek to establish comparable standards to prevent undesirable outcomes.

However, I recognize that when regulatory requirements differ across jurisdictions, market participants may face costs and inefficiencies.  In order to operate in a global marketplace, participants have to comply with multiple jurisdictions’ requirements, which takes time, money, and talent away from their core missions.  This is why a deference-based approach to regulation is so important for a global marketplace like the swaps market.  It allows a participant to access other countries’ markets, but be exempted from their regulations, if the participant already complies with its home country’s rules which achieve similar regulatory outcomes.

A troubling argument that I have heard recently attacking such a deference-based approach focuses on “regulatory arbitrage,” and postulates that market participants move to the jurisdictions with the least onerous regulation, thereby incentivizing jurisdictions to participate in a regulatory “race to the bottom” to win market share for their countries and economies.  Let me be clear – I completely reject this disingenuous claim.

Market participants seek neither the least nor the most regulated marketplaces, but rather marketplaces that have the best balance of sensible, objective, and reliable regulation.  The more we as regulators are forced into a mindset of minimizing regulatory arbitrage as an end unto itself, the more we empower the most restrictive and most punitive regimes to be the standard-bearers.  It is those regimes who will complain the loudest about their lost economic opportunities, liquidity and participants, and it is they who will demand that other countries also implement their “higher,” “stronger,” or “safer” standards.

As I have said before, there is a fine line between protecting the financial system and punishing it.^[1]  Financial regulations which are more punitive do not necessarily offer more protection.  Other jurisdictions may pursue a punitive approach if they believe it is best for their markets.  However in my capacity as Commissioner, I will not be persuaded to follow their course purely for the sake of harmonization and will remain adamant that we judge comparability by outcomes.

Moreover, in order to achieve an appropriate regulatory balance, different jurisdictions must have the flexibility to adopt the approaches that fit best within their existing regulatory frameworks and market structures.  An added benefit of this approach is that regulators can learn from other jurisdictions’ choices and make improvements to their domestic regulations if an alternative approach has worked better elsewhere.  If every jurisdiction is forced to adopt the same, one-size-fits-all mandate, there is no opportunity to tailor the requirements to the needs of particular markets or to learn from experience what approach works best.

In particular, today I would like to discuss two different areas of regulation where the CFTC is continuing to consider regulatory approaches, and ultimately may not follow in lockstep with EU regulatory authorities, before moving on to an important area of deference-based regulation – overseeing cross-border clearinghouses. 

Algorithmic Trading Regulations

The EU’s Markets in Financial Instruments Directive (MiFID) II took effect January 2018 and includes rules for entities involved in algorithmic and high frequency trading (HFT).^[2]  A European algorithmic or HFT firm must comply with numerous requirements, including: notifying its national regulator that it is involved in this type of trading,^[3] potentially disclosing its trading “source code” to its national regulator,^[4] and maintaining particular risk controls that are subject to certain testing requirements.^[5]  These firms must organize themselves according to a certain governance framework, including designating certain senior management responsible for authorizing the use or update of trading algorithms.^[6]

An HFT firm must also keep a sequenced record of all its placed orders, including cancellations, executed orders, and quotations, for five years.^[7]  Even a day’s worth of such trading records represents a huge volume of data for a firm to collect and store, let alone five years’ worth, and the costs of such data storage can be quite significant.^[8] Additionally, if the firm is a market maker, it must comply with additional rules, including entering into an agreement with the trading venue outlining the trading firm’s market making obligations to provide liquidity during a specified portion of the venue’s trading hours.^[9]

In 2015 and 2016, the CFTC proposed and re-proposed rules in this area but has not finalized them.^[10]

Although Europe has instituted an algorithmic and high frequency trading regime, this does not mean that the CFTC should automatically adopt comparable regulatory requirements, at least not until the CFTC has more appropriately considered what would be the best policy.  Indeed, some MiFID II concepts are ones which Chairman Giancarlo and I have specifically rejected, such as allowing for a regulator to access a firm’s source code without a subpoena.^[11]  Additionally, the CFTC must give further consideration to several topics, including:  judging the imposition of any potential requirement from a market protection versus an investor protection perspective, the balance between mandating requirements through government agency rulemaking versus more flexible controls designed and enforced by trading platforms, and scope considerations, such as whether requirements should apply only to market intermediaries or to end-user traders as well.

However, just because the CFTC has not acted on an algorithmic or automated trading regulation does not mean that we are not focused on the impact of such activity on the market.  The CFTC’s Market Intelligence Branch, a new group formed by Chairman Giancarlo to study market dynamics, has been researching the causes of volatility and sudden price swings in the futures markets.  This research suggests that recent price swings are attributable not to HFT activity but rather to world events, economic releases, and market fundamentals.^[12] 

I have the honor of sponsoring the CFTC’s Technology Advisory Committee (TAC) at the agency, which brings in outside experts to advise the Commission on technological innovations, potential risks, and whether any regulatory response is appropriate. The TAC recently formed a subcommittee on algorithmic trading and market structure, and I look forward to its discussion and recommendations on the true risks and challenges of the modern trading environment and algorithmic trading activity.^[13]

It is not just the CFTC that is taking a measured approach.  Earlier this year, the International Organization of Securities Commissions (IOSCO) solicited public input about best practices used by trading venues to manage extreme volatility and preserve orderly trading.^[14]  I look forward to learning from any public comments and reading IOSCO’s final report.  As we gain additional insight into the impact algorithmic and high frequency trading have had on our markets, we will be better positioned to assess what, if any, additional regulatory requirements may be appropriate. 

Position Limits

Similarly, MIFID II’s requirement for member states to implement position limits on commodity derivatives also went into effect in January 2018.  The purpose of these position limits is to prevent market abuse and to support orderly pricing and settlement conditions.^[15]  Under the European position limits regime, each member state must impose limits on the net position which a person can hold in commodity derivatives traded on one or more EU trading venues and in economically equivalent over-the-counter contracts.  This means that firms must develop the technological infrastructure to monitor their aggregate trading activity across multiple exchanges and in the OTC markets to ensure they remain below any applicable limits. 

It is interesting to note that around the time MiFID II’s position limits went into effect, ICE Futures Europe transferred 245 futures and options contracts in oil and natural gas to ICE Futures U.S.^[16]  In addition, some brokers reported customers switching from ICE Futures Europe to contracts traded on CME.^[17]  Did this happen because, all of a sudden, the U.S. market in comparison became a regulation-free haven for excessive speculation?  The answer, quite obviously, is no.   

Of course, the CFTC has its own position limits framework for exchange-traded futures contracts.  Currently, CFTC regulations apply position limits on nine agricultural futures contacts, with U.S. futures exchanges applying position limits on other types of commodity futures contracts.  The Commission is currently considering how and to what extent it should establish CFTC-set position limits on certain enumerated contracts. 

In addition to position limits, the Commission also has a suite of other regulatory tools that have been implemented to address issues of excessive speculation and manipulation, including the special call powers of the agency, market surveillance capabilities, large trader reporting obligations, and exchange-set accountability levels in various contract months.  The exchanges have proved to be strong partners in the CFTC’s efforts to promote and protect vibrant, liquid, well-functioning derivatives markets.^[18] 

I have heard some argue that the CFTC should move to quickly implement position limits requirements similar to the European regime.  They express concerns that the United States is providing a regulatory haven to those seeking to avoid the requirements of MiFID II.  I disagree.  I believe the current CFTC position limits regime, in conjunction with the agency’s other extensive reporting and recordkeeping requirements for futures, swaps, and related cash transactions, allows for fulsome oversight by the Commission.  Although the Commission may ultimately decide to augment its position limits regime, it should not feel pressured to do so under an artificial time frame or in order to align itself with another jurisdiction’s requirements.  Instead, any new policy should be carefully considered and appropriately tailored to complement existing CFTC regulations. 

Although the CFTC’s and EU’s position limits and oversight regimes differ, they both are designed to diminish the possibility of market manipulation and facilitate orderly trading and settlement.  There are legitimate reasons why our respective regulatory approaches may differ and I hope that through deference and communication, we can each learn from the other’s implementation experiences. 

CCP Equivalency

While we are on the topic of deference, I want to spend a few moments now discussing an issue of paramount importance to both the EU and CFTC – the supervision of cross-border central counterparties (CCPs or clearinghouses).  I have spoken at length about this issue previously, but it is worth spending a few minutes reviewing how we arrived at the current state of affairs.  Over two years ago, the EU and the CFTC agreed to a common approach to the regulation and supervision of cross-border CCPs.^[19]  The 2016 CCP equivalence determination has two components. 

First, the CFTC issued a comparability determination for EU-domiciled clearinghouses registered with the CFTC.^[20]  Those clearinghouses are deemed compliant with certain CFTC requirements if they satisfy corresponding European laws, lessening the regulatory burden on EU CCPs.  The comparability determination also reduces the burden on EU-domiciled clearinghouses seeking to register with the CFTC.  Currently, four European clearinghouses benefit from the CFTC’s determination.^[21] 

The second component is the European Commission’s equivalence determination for U.S. clearinghouses registered with the CFTC.^[22]  European recognition is required for any non-European clearinghouse – a “third-country CCP” – to operate in the EU.  Today, five CFTC-registered U.S. clearinghouses are recognized to provide clearing services directly to EU market participants.^[23]

The 2016 CCP equivalence determination was the result of three years of intense negotiations between the CFTC and EU.  In my opinion, the agreement promoted the vibrancy and liquidity of our global derivatives markets.  It sought to avoid the fragmentation of those markets and reflected both sides’ commitment to regulatory deference and to ensuring that CCPs on both sides of the Atlantic are held to rigorous standards. 

However, just over a year ago, the European Commission introduced legislation that would unilaterally abandon the “recognition conditions” set forth in the 2016 equivalence agreement.  Under the proposed legislation, CFTC-registered U.S. clearinghouses that are deemed to be systemically significant would be required to adopt all of EMIR and accept enhanced oversight by the European Securities and Markets Authority (ESMA) and the European Central Bank (ECB). 

Moreover, despite the repeated efforts of Chairman Giancarlo, my fellow Commissioner Rostin Behnam, and myself to explain our concerns to European authorities and the European Commission, the European Parliament recently voted on amendments to the legislation that failed to reaffirm the 2016 equivalence agreement.  Of particular concern, the amendments modify the criteria by which ESMA should evaluate if a third-country CCP is systemically important to the EU.  Unfortunately, the proposed criteria do not provide a clearly delineated standard requiring that a third-country CCP’s systemic importance to the EU be evaluated based only on its nexus to the EU.  Instead, the amendments provide that ESMA should consider the extent of a CCP’s business outside of the EU in evaluating whether the CCP is systemically important to the EU.^[24] 

In my view, any EU systemic risk determination of a CCP should only focus on that CCP’s EU impact.  A CCP whose clearing members and activities are predominantly located in the EU, or that has a substantial business in clearing euro-denominated contracts, would be a reasonable candidate for such a determination. However, other clearinghouses whose overall activities may be globally significant, but do not have a direct systemic connection to the EU, should be handled differently.  I believe any jurisdiction’s regulatory concerns over these types of entities can be addressed through robust information-sharing agreements on supervisory procedures and open dialogue with the CCP’s home country regulator.  There is no reason why the ultimate legislative text could not create a middle tier or category for CCPs who are not independently systemic to the EU, but whose reach and complexity warrant a robust dialogue and data sharing arrangement with the home country regulator that can provide continued confidence in a deference-based approach.

If the EU continues to ignore the 2016 equivalence agreement, then I hope that the legislation, at the very least, can be revised so that third-country CCP systemic risk determinations focus solely on the CCP’s activities in, and impact on, the EU.  

Without such a middle tier, aspects of the proposed legislation could create troubling outcomes for U.S.-based CCPs.  For instance, the legislation now proposes a direct and independent supervisory role for the ECB and the central banks of EU member states over any third-country CCP, including a U.S. clearinghouse, deemed systemically significant.  The rationale behind this expansive role for European central banks is that the risks of a malfunctioning CCP could “affect the instruments and counterparties which are used to transmit monetary policy.”^[25] 

In my opinion, it would be a grave mistake to introduce central bank monetary policy or liquidity perspectives into the supervision of clearinghouses generally, and it would be an unacceptable outcome in the regulation of U.S.-domiciled CCPs specifically.  This is especially true during times of crisis or stress, where a CCP’s interest in maintaining its financial integrity may conflict with a foreign central bank’s interest in easing the money supply and protecting the health of its domestic banks.

This is a good time to reaffirm to all concerned parties why CCPs exist:  as a stability mechanism to ensure the integrity of their members’ transactions – not as a monetary policy transmission vehicle and not as a regulatory tool to help manage foreign banks’ liquidity and balance sheets during times of stress.

Further, I also believe that a U.S. clearinghouse should not be forced to adopt risk management measures decreed by a European central bank for the benefit and well-being of EU financial markets if such measures would adversely impact the integrity, stability, and well-being of a U.S. clearinghouse.  In fact, I find such a scenario to be alarming.

In line with the above concept of creating an additional tier of status in the proposed legislation, I would suggest that an alternative, more appropriate approach would be to establish a consultative role for central banks.  This is the approach we follow at the CFTC in working collaboratively with the Federal Reserve to promote the financial integrity of the swaps and futures markets CCPs.^[26] 

Earlier this year, I explained that given the EU’s decision to renege on the 2016 equivalence agreement, I would not support the CFTC granting additional equivalence determinations or any relief requested by EU authorities until a satisfactory outcome had been achieved on this issue.^[27]  I felt this position was warranted in light of the EU’s violation of our trust and cooperation.  I remain steadfast in my position given the lack of progress, and Chairman Giancarlo is well aware of my stance.  Indeed, the Chairman and Ranking Member of the CFTC’s oversight committee in the U.S. Senate have expressed support for the CFTC’s reconsideration of existing accommodations to EU firms, exchanges, and CCPs doing business in the U.S. markets in response to this proposal.^[28]  I hope that is not necessary, but I am open to such measures in order to ensure an acceptable and appropriate outcome.  Until European authorities commit to honoring their current agreement with the U.S. and reaffirm an appropriate deference-based approach to CCP oversight, I do not believe the CFTC should make additional accommodations to EU authorities.

Once a home country regulator implements a comprehensive supervisory framework, it should have primary authority over its domestic CCPs, and other foreign regulators should defer to its expertise.  This is the approach that Chairman Giancarlo has championed, and I support his efforts to establish a global regulatory framework that is appropriately deferential to domestic regulators.^[29]  It is my hope that the EU will reaffirm its commitment to the 2016 equivalence agreement so that we can continue to work together to minimize cross-border burdens and market fragmentation to our mutual benefit. 

Let me close by stating that I continue to believe that the optimal approach toward the cross-border regulation of our global derivatives market is to defer to comparable foreign regulatory frameworks.  Failure to do so will ultimately lead to fragmented liquidity, less hedging, more volatility, higher costs, and fewer market participants.

Thank you for having me today; I am honored to be with you.

^[1]      See Remarks of Commissioner Brian Quintenz before the Structured Finance Industry Group Vegas Conference (Feb. 26, 2018), https://www.cftc.gov/PressRoom/SpeechesTestimony/opaquintenz7.

^[2]     Directive 2014/65/EU of the European  Parliament and of the Council of 15 May 2014 on markets in financial instruments and amending Directive 2009/92/EC and Directive 2011/61/EU  (MiFID II), https://ec.europa.eu/info/law/markets-financial-instruments-mifid-ii-directive-2014-65-eu_en.  Article 17 prescribes requirements for algorithmic and high frequency trading.  See also Hogan Lovells, MiFID II, Algorithmic and High-Frequency Trading for Investment Firms (Dec. 2016), https://www.hoganlovells.com/~/media/hogan-lovells/pdf/mifid/new_mifid_update_31_dec_2016/5466119v1mifid-ii-algorithmic-trading-29122016lwdlib01.pdf; Megan Woodward, The Need for Speed: Regulatory Approaches to High Frequency Trading in the U.S. and the E.U., 50 V and. J. Transnat’l  L. 1359 (2017).

^[3]     MiFID II, Article 17(2).

^[4]     Id.

^[5]     MiFID II, Article 17.  

^[6]     MiFID II, Article 17.  See also Commission Delegated Regulation (EU) 2017/589 of 19 July 2016 supplementing Directive 2014/65/EU of the European Parliament and of the Council with regard to regulatory technical standards specifying the organisational requirements of investment firms engaged in algorithmic trading, Articles 1-4, http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32017R0589&from=EN (RTS 6).

^[7]     MiFID II, Article 17(2); RTS 6, Article 28.

^[8]      FIA EPTA Responds to MiFID II Consultation at 59 (Aug. 1, 2014), https://epta.fia.org/file/136/download?token=uZ_D-4QD.

^[9]     MiFID II, Article 17(3)-(4).

^[10]    Regulation Automated Trading, 80 Fed. Reg. 78,824 (Dec. 17, 2015) and 81 Fed. Reg. 85,334 (Nov. 25, 2016).

^[11]     Remarks of Commissioner Brian Quintenz before the Symphony Innovate 2017 Conference (Oct. 4, 2017), https://www.cftc.gov/PressRoom/SpeechesTestimony/opaquintenz1; Gregory Meter, US regulator declares ‘dead’ moves to seize HFT code, Financial Times, Oct. 4, 2017, https://www.ft.com/content/068ce050-a922-11e7-93c5-648314d2c72c. 

^[12]    Remarks of CFTC Chairman J. Christopher Giancarlo before the Women in Derivatives Forum, Washington, DC June 12, 2018, available at, https://www.cftc.gov/PressRoom/SpeechesTestimony/opagiancarlo48;
Prop Traders, HFTs Do Not Make Markets Less Stable – CFTC, by Louisa Chender, Futures & Options World (June 13, 2018).

^[13]     CFTC Commissioner Quintenz Announces TAC Subcommittees (June 4, 2018), https://www.cftc.gov/PressRoom/SpeechesTestimony/quintenzstatement060418a.

^[14]  Mechanisms Used By Trading Venues To Manage Extreme Volatility And Preserve Orderly Trading, IOSCO Consultation Report (March 2018), available at https://www.iosco.org/library/pubdocs/pdf/IOSCOPD594.pdf.

^[15]    MiFID II, ¶ 127 of Recitals.

^[16]    Gregory Meyer and Philip Stafford, Commodity traders gain relief on position limits under Mifid, Financial Times (Feb. 7, 2018), https://www.ft.com/content/f50a9630-0c25-11e8-8eb7-42f857ea9f09.

^[17]    Id.

^[18]    Since 2015, NYMEX, COMEX, CME, CBOT, and ICE Futures U.S. have brought over 50 exchange enforcement actions for violations of position limits or position accountability levels.  See CME Group, Market Regulation Enforcement, http://www.cmegroup.com/market-regulation/enforcement.html; ICE Futures U.S., Disciplinary Notices, https://www.theice.com/futures-us/notices.  This is in addition to the exchanges’ regular market surveillance activity that enables them to detect and investigate potential trade practice violations.  See also NYMEX-COMEX Market Surveillance Rule Enforcement Review, Division of Market Oversight 6-10 (Oct. 11, 2016), http://www.cftc.gov/idc/groups/public/@iodcms/documents/file/rernymex_comex101116.pdf; Ice Futures U.S. Market Surveillance Rule Enforcement Review, Division of Market Oversight 10-11 (July 22, 2014), http://www.cftc.gov/idc/groups/public/@iodcms/documents/file/rericefutures072214.pdf.   

^[19]    Joint Statement from CFTC Chairman Timothy Massad and European Commissioner Jonathan Hill, CFTC and the European Commission: Common approach for transatlantic CCPs (February 10, 2016).

^[20]    Comparability Determination for the European Union: Dually-Registered Derivatives Clearing Organizations and Central Counterparties, 81 Fed. Reg. 15260 (March 22, 2016).  

^[21]    Eurex Clearing AG, ICE Clear Europe Ltd., LCH.Clearnet Ltd., and LCH.Clearnet SA.

^[22]    Commission Implementing Decision (EU) 2016/377 (March 15, 2016), https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32016D0377&from=EN.

^[23]    CME Inc., ICE Clear Credit LLC, ICE Clear US Inc., Minneapolis Grain Exchange Inc., and Nodal Clear LLC.

^[24]    Report on the proposal for a regulation of the European Parliament and of the Council amending Regulation (EU) No 1095/2010 establishing a European Supervisory Authority (European Securities and Markets Authority) and amending Regulation (EU) No 648/2012 as regards the procedures and authorities involved for the authorisation of CCPs and requirements for the recognition of third-country CCPs (COM(2017)0331 – C8-0191/2017 – 2017/0136(COD)), proposed ¶2b amending Article 25. 

^[25]  Report on the proposal for a regulation of the European Parliament and of the Council amending Regulation (EU) No 1095/2010 establishing a European Supervisory Authority (European Securities and Markets Authority) and amending Regulation (EU) No 648/2012 as regards the procedures and authorities involved for the authorisation of CCPs and requirements for the recognition of third-country CCPs (COM(2017)0331 – C8-0191/2017 – 2017/0136(COD)), ¶7.

^[26]    See Title VIII of the Dodd-Frank Wall Street Reform and Consumer Protection Act, Public Law 111-203, 124 Stat. 1376 (2010); Derivatives Clearing Organization General Provisions and Core Principles; Final Rule, 76 Fed. Reg. 69334, 69335 (Nov. 8, 2011).

^[27]     See Keynote Address of Commissioner Brian Quintenz before FIA Annual Meeting, Boca Raton, Florida (March 14, 2018), https://www.cftc.gov/PressRoom/SpeechesTestimony/opaquintenz9. 

^[28]    Letter from Senators Roberts and Stabenow to CFTC Chairman Giancarlo, dated Jan. 8, 2018.

^[29]    See Remarks of CFTC Chairman J. Christopher Giancarlo before the Eurofi Financial Forum, “Future of CFTC-EU Regulatory Coordination in the Financial Sector,” (Sept. 14, 2017), http://www.cftc.gov/PressRoom/SpeechesTestimony/opagiancarlo-28.