CFTC approves electronic trading and bankruptcy rulemakings in year’s final open meeting

By Brad Rosen, J.D.

The CFTC capped off its rulemaking for 2020 with a flourish at its final open meeting of the year held on December 8. The Commission finalized rules on electronic trading risk principles, as well as approving long-awaited Part 190 bankruptcy regulations. Prior to the meeting, the agency also approved six other final rules on a seriatim basis, which included measures relating to uncleared margin rules for swaps.

Electronic Trading Risk Principles. The electronic trading rule addresses risk controls related to automated trading systems and replaced the controversial Regulation AT proposal, which was withdrawn earlier in the year. That rule passed on a 4-1 vote, with Commissioner Behnam dissenting. Specifically, the final rule amended CFTC Regulation Part 38 and addressed the potential risk of a designated contract market’s (DCM) trading platform experiencing a market disruption or system anomaly due to electronic trading. The final rules set forth three principles applicable to DCMs relating to:

1. the implementation of exchange rules applicable to market participants to prevent, detect, and mitigate market disruptions and system anomalies associated with electronic trading;
2. the implementation of exchange-based pre-trade risk controls for all electronic orders; and
3. prompt notification to Commission staff of any significant market disruptions on their electronic trading platforms.

The Commissioners weigh in. Each of the Commissioners had their own take on the rule.

• Chairman Heath Tarbert lauded the rule’s flexible principle-based approach noting, "exchanges have the incentive and the ability to address the risks arising from electronic trading. Principles-based regulations in this area will ensure that exchanges have reasonable discretion to adjust their rules and risk controls as the situation dictates, not as the regulator dictates."
• Commissioner Brian Quintenz praised the rule as it is designed to respond to market developments, stating, "these continuous enhancements are made possible because exchanges and firms have the flexibility and incentives to evolve and hold themselves to an ever-higher set of standards, rather than being held to a set of prescriptive regulatory requirements which can quickly become obsolete."
• Commissioner, Rostin Behnam, the sole "no" vote, criticized the rulemaking, asserting that it did not adequately to recent market disruptions into account in its formulation. Behnam observed, "Being proactive means studying the incidents of the past, like the Flash Crash, Knight Capital, and most recently April 20 so that we can recognize the precursors of events to come. Instead of just reacting, we can predict, prepare for, and possibly prevent the next crisis event."
• Commissioner Dawn Stump enthusiastically supported the rule, noting, "This approach recognizes that the front-line responsibility for preventing, detecting, and mitigating material risks posed by electronic trading rests with the exchanges themselves. The exchanges are best positioned to execute this responsibility because they have the best knowledge of the trading that occurs on their own markets."
• Commissioner Dan Berkovitz also supported the rule yet expressed some disappointment that rule did not incorporate some of the features of Regulation AT, which had been withdrawn. Observing that elections had consequences, Berkovitz still saw the rule as a step in the right direction, noting that the "Final Rule addresses an issue that has remained open in the Commission’s books for far too long. Electronic trading is no longer a new technology in Commission-regulated markets, and it has not been new for many years." He added, "The Risk Principles are a circumscribed but important first step in ensuring that the Commission’s rules keep pace with technological changes underlying derivatives trading."

The rule will become effective upon publication in the Federal Register. DCMs must be in full compliance with the requirements of the rule within 180 calendar days after the effective date.

Part 190 Bankruptcy Regulations. Additionally, the Commission unanimously approved amendments to CFTC Regulation Part 190, which governs bankruptcy proceedings of commodity brokers. The amendments comprehensively update Part 190 to reflect current market practices and lessons learned from past commodity broker bankruptcies. These final rules are geared to improve clarity, reduce uncertainty, and increase transparency in FCM and clearinghouse bankruptcy scenarios. This rulemaking marks the first time these rules were revised in 37 years.

Chairman Tarbert, Commissioner Quintenz, Commissioner Behnam, Commissioner Stump, and Commissioner Berkovitz each issued statements commenting on the rule amendments. The rule will become effective 30 days after its publication in the Federal Register.

Other unanimous actions. Other final rules and matters approved unanimously prior to the open meeting included the following:

• Final rules for Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants (Minimum Transfer Amount) and Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants (Material Swap Exposure Definition and Initial Margin Calculation);
• Final rules for Swap Execution Facilities (Audit Trail, Financial Resources, and CCO Requirements), Exemptions from Swap Trade Execution Requirement, and Withdrawal of Unadopted Proposals in the 2018 SEF Proposed Rule: Swap Execution Facilities and Trade Execution Requirement; and
• Technical amendments to reflect organizational changes.

The meeting concludes. The CFTC’s last meeting of the year ended on an upbeat note. The chairman and commissioners noted their many accomplishments over the year despite the challenges and difficult circumstances presented by the COVID-19 pandemic. Moreover, they all expressed their appreciation for the collegiality and friendship permeating the Commission, despite engaging in vehement policy disagreements from time to time. Still, not a word was said, nor a hint suggested, about impending leadership changes at the Commission given the arrival of a Biden administration come January 2021. Time will tell.