Thank you for the kind introduction and the opportunity to express my personal views, which, as you know, are not necessarily those of the other Commissioners or staff. I am delighted to be here and want to say a few words about the Institute of International Economic Law. Founded in 1999 by the late John Jackson, the Institute has grown beyond its initial focus on international trade. Professor Chris Brummer, the Director of the Institute, is focused on the next phase of the Institute’s growth. In doing so, under Professor Brummer’s leadership, the Institute is proactively addressing crucial challenges facing international legal and policy affairs before us. These range from “globalization and its backlash, sanctions, sustainable economic growth, and financial technology, data and automation.”1 I have no doubt that Professor Brummer is ready to meet and address those challenges. On a personal note, I want to thank Chris for his leadership and commitment in addressing these critical issues. And I thank the Institute for the work it does and for providing such an impactful platform for discourse.
As you know, I have had the privilege of being a Commissioner at the Commodity Futures Trading Commission (CFTC) for over three years. And it has truly been an honor and pleasure to do so. But now that I’ve come to the end of my tenure, I’m looking back at the last three years. In many respects, I am reminded of a relay race. I ran the 440-relay many years ago, which is now known as the 4 X 100 meters relay. I can’t remember which leg I ran; maybe it even changed from one track meet to another. But the image most burnished in my mind is the necessity and beauty of passing the baton.
As a Commissioner, so many before me have passed the baton, giving the next person the opportunity to turn her leg of the race into a better position for the next person receiving the baton. Dropping the baton isn’t really an option. At least not a winning one. So I think about today, where I stood when I received the baton and where I will stand soon in passing the baton to a fellow Commissioner.
At my inaugural speech, I stated “If, at the end of my time as Commissioner, the average investor or end-user says that markets were far more stable and protected from when she left than when she arrived, that will be more than enough praise.”2 So I must ask myself that question today: Are the markets more stable and protected today as I depart than they were when I arrived? Did I make a successful pass? The answer to that question is what I am here to discuss today. My basic conclusion is that while there are definitely significant improvements, there is still unfinished business to be done. In essence, I feel good about the pass I’m making, but the race is far from over.
First let’s talk about the areas where we have had good momentum – there are a number of ways in which we have improved the safety and soundness of our markets in the last three years, including the expansion of clearing, the U.S.-European equivalence agreement on the regulation of transatlantic central counterparties (CCPs), and international data harmonization.
Expansion of Clearing
We made great strides in the expansion of CCP clearing of standardized derivatives. This is an achievement because the clearing of standardized derivatives increases the safety and soundness of the system by allowing CCPs to appropriately manage collateral requirements while also providing regulators with clear, timely visibility into these markets. Now, every swap does not need to be cleared – swaps that are bespoke and therefore have uncertain risk profiles do not need to be at CCPs. In fact, it is in the CCPs’ and their members’ best interest not to absorb this kind of risk at the CCP. But for standard products, clearing shines much needed light on this formerly dark sector of the market. In 2012, the Commission finalized a rule requiring the mandatory clearing of certain types of credit default swaps, and interest rate swaps in the four major denominations.3 Then, during my tenure, in September 2016, we passed a rule to expand that clearing requirement further to include interest rate swaps denominated in nine additional currencies. Importantly, all nine currencies were already, or soon would be, subject to clearing mandates from their respective jurisdictions. Thus, this was an important step to not only increase transparency and collateralization in our markets, but to harmonize across jurisdictions.4
Another successful advance was reaching a decision on clearinghouse equivalence with the European Commission on February 10, 2016.5 This decision came after many years of negotiation and was a significant step forward in creating international regulatory consistency, and minimizing arbitrage.
We also successfully collaborated with regulators in Europe and Asia to establish consistent margin rules for uncleared swaps with a coordinated rollout in March of this year.6 Now while I voted against these margin rules because I did not think that they were robust enough,7 I was in favor, and still am, of a coordinated approach to regulation. And when compared to the time prior to my arrival, having a standard margin rule is definitely an improvement.
Another area where we have historically cooperated well with our international counterparts is in enforcement. We need to continue that trend. It is in our best interest to share information with each other about bad actors that are moving from market to market harming customers, lessening efficiency and bringing otherwise functional markets into disrepute. It is still all too easy today for a malfeasant in one jurisdiction, who is dismissed, to pick up and move to another jurisdiction and continue working. As you know, I call it the “whack-a-mole” problem.
Thus, I would encourage our fellow regulators around the globe to continue the cooperation that we have begun. With our mutual legislative acts, we have all endeavored to create transparent, functioning markets with strong foundations. With continued global regulatory coordination on enforcement, we can better achieve our shared purpose which is to incentivize the formation of efficient, transparent, well-collateralized markets that are safe for our citizens.
Reporting and Data Harmonization
Another area where we have made meaningful strides in the last three years is in data harmonization. In the U.S., as in many of your jurisdictions, all swaps transactions must be reported to a trade repository.8 This information is then aggregated and sorted, so that we have transparency into the markets under our purview. While we still have much to do to make this data more usable, our staff has a much better view of our markets now than before the reporting requirement. In December 22, 2015, after an interdivisional group spent a month in a data “war room” hammering out refinements to our data specifications, our staff sought out comments on draft technical specifications.9 Moreover, within the last three years, our staff has continued to engage internationally to harmonize data, including as participating in meetings with the CPMI-IOSCO Data Harmonization group and co-chairing an FSB Working Group focusing on governance of data elements.
I have been a consistent supporter of the staff’s efforts to harmonize data internationally because these are global markets. Thus, in order for any regulator to properly police them, we need to understand them from a global perspective. In 2008, we did not know the extent of our market participants’ exposure to derivatives, or their degree of under-collateralization. We thought we knew our markets, but we had no idea what they were really like. We thought we were in a house made of bricks, when it was actually made of straw; a reality we only understood after the storm came. We cannot afford to make that mistake again. We need a much more realistic picture of the markets we oversee. For that we need data, all of the data; and in order to achieve that, we have to work with our international partners. I would urge the next Commission to continue to do so.
Market Risk Advisory Committee
And last but not least, I am very proud of the contribution made to these issues, and to many others, by the advisory committee that I sponsored – the Market Risk Advisory Committee (MRAC), which held its first meeting in April 2015. The purpose of MRAC is two-fold:
1) To advise the Commission in its efforts to detect, analyze and mitigate market risk; and
2) To provide information and analysis to the Commission on the evolving market structure.
To meet these tasks, we assembled a diverse and impressive group of market participants from end-users, exchanges, clearinghouses, market-makers, intermediaries, academic institutions, swap execution facilities, swap data repositories, service providers, public interest groups, and regulators.
Within the last three years, in its eight meetings, the MRAC has tackled significant market risk and market structure issues including cybersecurity, inter-regulatory cooperation in CCP resolution, market liquidity and volatility, use of swap execution facilities, and portfolio compression.
The MRAC has also tackled multiple aspects of CCP risk management, as typified by the outstanding set of recommendations presented at our November 2016 meeting.10 These recommendations are a culmination of two years’ worth of work on CCP default management starting with the first MRAC meeting in April 2015, where CCP members presented their default plans, and the MRAC discussed the strengths and weaknesses of those plans.11 Our members noted that it was highly likely that the default of a significant clearing member would occur in an environment where multiple CCPs and clearing members are affected. This discussion led to a more in-depth review of CCP coordination, which resulted in these excellent recommendations. It is no small task to bring together market participants from such diverse backgrounds to agree on complicated policy issues like CCP resilience. But this group of dedicated and thoughtful individuals got the job done! There is no doubt that through these recommendations, and its other excellent work, the MRAC has left an indelible impression on our markets. And I am extremely proud to have been its sponsor.
This is not, by any means, an exhaustive list of the achievements that the agency has made in the last three years to improve our markets, but just a few that I wanted to highlight. So, we have made gains, but are we finished? Certainly not – there is much unfinished business that the next Commission should address. And as I noted in my inaugural speech, “[T]he progress we have made trying to fix the problems that caused the last crisis does not mean we are yet prepared to address future potential threats. We cannot become complacent.”12 As I pass the baton, I want to focus on a few of them.
One area where we have made strides in the last three years, but where there is still much work to be done is cybersecurity. Here, the problem is clear – our firms are facing an unrelenting onslaught of attacks from hackers with several motives ranging from petty fraud to international cyberwarfare. In September 8, 2016, the Commission released two rules on this subject which I was proud to support. Under the rules, our main financial market infrastructures (FMIs) – clearinghouses, exchanges, trade repositories and swap execution facilities – must comply with healthy cyber practices, including penetration testing.13Clearly, however, this is only a first step since, given the formidable threat of ongoing and future attacks, all registrants, not just our FMIs, need to have clear and effective cybersecurity measures in place.
Another area where we have unfinished business is high-frequency trading, a form of algorithmic trading. Algorithms can coordinate and execute the trading of millions of dollars’ worth of assets within seconds. As such, it is not hard to imagine the resulting detriment to the markets caused by an algorithmic trading system gone unchecked. To address this, in November 2015, we unanimously approved the proposal of automated trading rules requiring, among other things, the registration of heretofore unregistered entities directly using these systems on our exchanges, and the establishment of pre-trade risk controls.14 Then in November 2016, after industry feedback, we issued a supplemental rule proposal where we proposed a more targeted approach – focusing on the firms responsible for substantial amounts of automated trading in our markets, while still ensuring that there were multiple layers of pre-trade risk controls.15
I believe that this proposal strikes the appropriate balance between encouraging innovation and competition on one hand, while providing much needed protection to the markets from the disastrous effects of market shocks on the other hand. Moreover, since MiFID II, the European regulation, which will be triggered next year includes robust oversight of algorithmic firms, including authorization of HFT firms, we should establish similarly robust rules in the interests of harmonization and avoiding regulatory arbitrage.16 I am very concerned that if we do not respond in kind, we would incentivize unregulated high-speed traders to move more of their risky practices to our shores. I therefore urge the next Commission to finalize this rule so that the public can rest assured that their derivatives regulator has all the information necessary to identify and, if necessary, call to the account all the HFT entities that directly influence our markets.
I have frequently highlighted our unfinished rules on governance.17 The Commission proposed rules on governance for our clearinghouses and trading platforms over five years ago.18 These rules have never been finalized. At this point, they need to be re-proposed. In reviewing these rules, there are many elements that I think are significant, including the requirement to:
1) establish a Board committee that would report to the Board, called a Regulatory Oversight Committee to monitor and oversee the regulatory program of the entity, and supervise its Chief Compliance Officer;
2) submit an annual report for the Commission and the Board, assessing the entity’s self-regulatory program;
3) report to the Commission if the Board rejects any recommendation by the Regulatory Oversight Committee; and
4) ensure that the Board is composed of qualified, diverse, and independent directors that represent a diversity of viewpoints.19
These are just a few of the good, thoughtful, common sense suggestions in these proposals. At this point, what was one of the first rules we proposed, is now one of the last rules to be finalized. And this subject is essential to financial reform. We cannot hold the market to standards that we have not defined for them. As I have noted on several occasions,20 we need to finalize these rules.
And finally, there is the issue of the Commission’s budget allocation. When I joined the agency a little over three years ago, we were already underfunded, and unfortunately that problem persists to this day. Our agency is working hard to protect the derivatives markets, and it carries out mammoth tasks despite its small size. But if our staff had more people, better technology, more administrative support, and other resources, we could do a better job of policing this vast and systemically significant market. Two-hundred and fifty million dollars for an agency that oversees a $400 trillion swaps markets does not add up. Chairman Giancarlo deserves credit for pushing for a higher budget, but it is still not enough to meet the task. Some lawmakers may think that they are saving money now, but I shudder to think what will it cost us when the next crisis hits.
So in answer to the question with which I began: “Are the markets more stable and protected today upon my departure than they were when I arrived?” Can I successfully pass the baton? My answer is yes, we have made significant strides. We are, without question, better protected today than we were in 2014: we have expanded clearing of standardized derivative products, established important multinational agreements on CCPs and margin, and continued to refine and harmonize our data. Moreover, the committee that I sponsored, the MRAC has fostered an excellent dialogue on these important issues and published well-regarded recommendations for CCP coordination. These are solid gains in a successful and continuing relay race.
Yet we have so much more to do to give the American people the economy that they deserve. For instance, we need to continue to improve cyber-health of our market participants, register HFT firms, establish long-awaited governance rules, and fund this agency at the level necessary to fully get the job done. In my wonderful time here, I, and my fellow Commissioners, have worked consistently to protect and further stabilize our derivatives markets. And I have every confidence that the thoughtful Commissioners recently confirmed, and Chairman Giancarlo together, with the hardworking staff, will continue that effort. I am forever grateful to President Obama for giving me the opportunity to serve. Wherever I am, as usual, my door is always open. And I wish you all the best!
1 See 2017 Annual Report of Institute of International Economic Law, p. 2, available at http://iielaw.org/wp-content/uploads/2015/08/2017-IIEL-Annual-Report.pdf.
2 See “Speech of Commissioner Sharon Bowen before the Futures Industry Association Expo 2014
November 5, 2014,” available athttp://www.cftc.gov/PressRoom/SpeechesTestimony/opabowen-1.
3 See “Clearing Requirement Determination Under Section 2(h) of the CEA,” 77 FR 74284 (Dec. 13, 2012).
4 See “CFTC Expands Interest Rate Swap Clearing Requirement,” available athttp://www.cftc.gov/PressRoom/PressReleases/pr7457-16.
5 See “The U.S. Commodity Futures Trading Commission and the European Commission: Common Approach for Transatlantic CCPs,” available athttp://www.cftc.gov/PressRoom/PressReleases/cftc_euapproach021016.
6 See “Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants – Cross-Border Application of the Margin Requirements,” 81 FR 636 (Aug. 1, 2016).
7 See “Dissenting Statement of Commissioner Sharon Y. Bowen Regarding Final Rule on Margin for Uncleared Swaps,” available at http://www.cftc.gov/PressRoom/SpeechesTestimony/bowenstatement121615a.
8 See “CFTC Approves Final Rule on Swap Data Recordkeeping and Reporting Requirements for Pre-Dodd-Frank and Transition Swaps,” available at http://www.cftc.gov/PressRoom/PressReleases/pr6259-12.
9 See “CFTC Staff Issues Request for Comment on Draft Technical Specifications for Certain Swap Data Elements,” available athttp://www.cftc.gov/PressRoom/PressReleases/pr7298-15.
10 See “Recommendations of the CCP Risk Management Subcommittee of the Market Risk Advisory Committee,” voted on at the November 17, 2016 meeting of the MRAC, available athttp://www.cftc.gov/About/CFTCCommittees/MarketRiskAdvisoryCommittee/mrac_meetings.
11 See “Market Risk Advisory Committee,” available athttp://www.cftc.gov/About/CFTCCommittees/MarketRiskAdvisoryCommittee/mrac_meetings.
12 See supra note 5.
13 See “CFTC Approves Final Rules for System Safeguards Testing Requirements and a Comparability Determination for Japan Uncleared Swap Margin Rules for Substituted Compliance Purposes,” available at http://www.cftc.gov/PressRoom/PressReleases/pr7442-16.
14 See “CFTC Unanimously Approves Proposed Rule on Automated Trading,” available at http://www.cftc.gov/PressRoom/PressReleases/pr7283-15.
15 See “CFTC Approves Supplemental Proposal to Automated Trading Regulation,” available at http://www.cftc.gov/PressRoom/PressReleases/pr7479-16.
16 See “High frequency trading: MiFID,” available athttps://www.fca.org.uk/markets/mifid-ii/changes/high-frequency-trading.
17 See e.g., “Remarks of Commissioner Sharon Y. Bowen before the Managed Funds Association Forum 2016, available athttp://www.cftc.gov/PressRoom/SpeechesTestimony/opabowen-9; “Remarks of Commissioner Sharon Y. Bowen at the FIA BOCA 2017 International Futures Industry 42nd Annual Conference,” available athttp://www.cftc.gov/PressRoom/SpeechesTestimony/opabowen-14.
18 See “Governance & Conflicts of Interest,” available athttp://www.cftc.gov/LawRegulation/DoddFrankAct/Rulemakings/DF_9_DCOGovernance/index.htm
20 See “Remarks of Commissioner Sharon Bowen before the Managed Funds Association’s 2015 Compliance Conference,”
(May 5, 2015), available atwww.cftc.gov/PressRoom/SpeechesTestimony/opabowen-4; Keynote Speech of CFTC Commissioner Sharon Y. Bowen before the Quadrilateral Meeting at the European Central Bank, (Jun. 24, 2015), available atwww.cftc.gov/PressRoom/SpeechesTestimony/opabowen-5.