Citing a significant increase in retail investor interest in derivatives trading as well as widespread evidence of misconception and misunderstanding among retail traders, CFTC Commissioner Dawn Stump called on industry and infrastructure providers to "step up and educate the public about our markets."
Customer education is a "shared responsibility" with industry, said Stump, noting the dangers that misinformed retail customers can pose to markets, as evidenced by recent market volatility triggered by posts on online message boards and social media platforms.
The commissioner also touched on many other topics in her broad-ranging keynote address at the ISDA Derivatives Trading Forum. Stump discussed how to approach regulation of new products including DeFi, upcoming compliance dates for uncleared swaps margin requirements, and a need to revisit Dodd-Frank reforms relating to clearing access, swap dealer capital, and data reporting. The commissioner also discussed operational issues and the LIBOR phaseout.
Need for retail customer education. According to Stump, the number of smaller, non-institutional participants in certain derivatives markets has increased significantly in recent years. CFTC-registered exchanges have responded to that interest by listing "micro" and "micro e-mini" futures and options contracts that allow participants to gain exposure to the futures markets at much lower cost and capital requirements compared to standard futures contracts.
In addition, last year the CFTC granted designations to four new futures exchanges whose business models focus on retail traders., one of which is listing contracts that have seen "modest—but steady—participation." Moreover, the markets the CFTC oversee are being impacted by retail interest in certain exchange-traded funds.
With uniformed retail investors moving into markets in large numbers, it’s possible they might jeopardize the utility of these markets to the detriment of others, said Stump.
This volatility and potential for manipulation has caught the attention of other regulators as well. Recently the company GameStop revealed it is the subject of an SEC probe after its stock price skyrocketed and began to swing wildly after posters on the online platform Reddit appeared to coordinate trading to drive up GameStop stock.
While the CFTC has issued customer advisories about the dangers of trading based on Internet hype and about recent scams, there is a need and an opportunity for the industry and infrastructure providers to also step up their customer education efforts, said Stump.
"I am hopeful that we all will step up our educational efforts and undertake new initiatives to help assure that retail traders are properly informed about how the derivatives markets operate and are fully aware of the degree of risk that such trading inherently entails," said Stump.
Dodd-Frank issues. Turning to market and intermediary issues, Stump sees a need to revisit certain Dodd-Frank reforms.
- Clearing access. According to Stump, the CFTC should have long ago revisited its policies to allow U.S. persons to access clearing services at non-U.S. CCPs that are subject to a regulatory structure comparable to the CFTC’s, without requiring those CCPs to register with the CFTC.
- Swap dealer capital requirements. Stump said she is pleased that staff of the Market Participants Division has been addressing substituted compliance issues in advance of an October 2021 compliance date. Staff has been working with swap dealers, trade associations, and regulatory counterparts in other countries to assess the comparability of capital adequacy and financial reporting requirements in other jurisdictions.
- Data refinement. Stump said that the CFTC and regulators globally have spent significant time and energy working to re-think, update, and better coordinate their swap data reporting rules. She hopes this will enable the CFTC to assess the comparability of the reporting requirements in other jurisdictions "in the near term."
- Uncleared swaps margin. However, one issue that will not be revisited is the phase-in schedule for uncleared swaps margin requirements. Stump stated that while extensions have been granted in the past for phase-in deadlines for smaller entities to comply with uncleared swaps margin requirements, no further extensions will be granted.
A principles-based approach avoids one-size-fits-all regulation and positions the CFTC well to adapt to the innovations inevitably coming to derivatives markets due to developments in digital assets, financial technology (FinTech), and decentralized finance (DeFi), said Stump. Other areas where a principles-based approach is beneficial include the emergence of derivatives involving cryptocurrencies, event contracts, and Environmental-Social-Governance (ESG).
"When I am contemplating the sometimes-difficult question of applying our legacy regulatory structure to modern applications, I often remind myself that many before me have struggled with the same questions, and had to get out of their comfort zone in order to permit previously unheard-of market advancements to develop into essential elements of the modern market structure," said Stump.
Operational curveballs and Libor phaseout. Stump noted that the Covid-19 pandemic and its follow-on effects have thrown a curveball at regulators and the markets. While the country appears to be entering into the recovery and the clearing system performed as designed and expected, the CFTC should consider any necessary adjustments and improvements. In particular, the CFTC’s Global Markets Advisory Committee (GMAC), which Stump sponsors, has held two meetings in which the committee discussed the impact of the pandemic on global clearing, and offered suggestions for improvement to the global clearing system.
Finally, Stump said she is pleased to see "some voluntary adoption" of, and transition to, alternative reference rates to replace Libor, and the process has made good progress. The CFTC will continue playing a coordinating role with other regulators, as well as participating in public-private partnerships like the Alternative Reference Rate Committee (ARRC). In addition, the CFTC is interacting continuously with market participants to discuss the impact on listing, trading, and clearing with new reference rates, as well as educating and informing market participants about the implications of the transition. Stump lauded the work of the Market Risk Advisory Committee (MRAC), sponsored by Commissioner Rostin Behnam.
"We have walked a fine line of supporting industry discussions around Libor transition, without unnecessarily inserting ourselves as regulator into what is already a complex and challenging undertaking," said Stump.