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Chair: Matt Simon, Senior Analyst, Tabb Group
Speakers:
Ben Ernest-Jones, Senior Product Manager, Apama Capital Markets, Software AG Apama
Michael Grecoff, Head of Sales, Scila Surveillance, Cinnober Financial Technology
Michael Karbouris, Head of Business Development, Broker Technology, NASDAQ OMX
Jim Moran, Executive Director & Global Head, Strategic & Technology Initiatives, CME Group
Trading across different asset classes presents new challenges for market surveillance, a panel at FIA in Chicago last week concluded. Equities and options are quite simple -- you look to see what is happening in one and if there is manipulation in the other, but in other assets systems are limited and human intelligence is needed. In swaps, for example, a surveillance officer would determine the underlying and bring in data from historical trend patterns or real-time monitoring to look for abnormal activity. The surveillance officer could work for a regulator, an exchange or a participant; indeed, panelists said, many brokers now have their own surveillance departments.
Jim Moran, executive director and global head of strategic and technology initiatives at CME Group said it has been working on surveillance since its trading started moving to electronic in the 1990s.
“It is in our interest to make sure the market is safe and people feel confident using the market,” he said. The exchange looks at price banding.
“The order must operate within a certain band. Every order is essentially a limit order. A market order has protection points, adds some ticks and acts like a limit order.”
CME also has some computer-driven stop price logic, he added.
“The engine senses when market is moving in a way that humans can’t interact. That causes a pause to go in. During the flash crash, our market paused and that was pretty much the end of flash crash.” Well, at the CME anyway.
“Volatility logic -- when it senses certain abnormal volatility can pause 5 to 20 seconds.” He asked whether the CFTC should require some of the practices and safeguards the CME has in place in other markets as well.
“When things start to break in one group of markets it can have an effect in other markets as well.” The CME Group is responding to a concept release the CFTC has put out raising some of these questions.
The FIA has put out a number of best practices documents which describes steps a market participant can take to mitigate risk, such as internal checks before putting an algorithm into the market. (In an October 2012 letter the Chicago Fed reported that some firms were putting modified algorithms into production without testing them.)http://www.chicagofed.org/digital_assets/publications/chicago_fed_letter/2012/cfloctober2012_303.pdf
Surveillance is an interesting part of the market, and not necessarily an area of competition, noted Ben Ernest-Jones, senior product manager at Apama Capital Markets.
“Firms don’t want to share algorithms but I have seen more cooperation between risk and compliance departments, sharing ideas and what makes sense for everyone to be doing to protect themselves. People need to share idea and tools [and share] what are they looking at.”
You don’t know what is going to go wrong, but it probably won’t be the same thing that went wrong last time, since that got fixed.
“The number of moving parts to take into account continues to grow,” said Michael Karbouris, head of business development for broker technology at NASDAQ OMX in Asia, “email, social media and phone surveillance on top of the others.”
The concern in Asia is that the relatively low levels of electronic trading are growing. Everbright Securities was fined $85 million for market abuse and four of its top executives were banned for life.
“That has caused a lot of inbound queries about what are we going to do about risk surveillance in Asia.”
Canada has an approach to market improvement that others could learn from, said Michael Grecoff, head of sales, Scila Surveillance, Cinnober Financial Technology.
“Canada has a very good way of bringing guidance to the regulations and rules they have in place for the markets, so the community knows what is important to look at. They are bringing out guidance into the rules and legislation they are passing so it is truly understood by the participants.” Regulators are moving away from the “gottcha” approach.
“They used to sit back and monitor trading, look for patterns and then build a case and go after a participant. That is probably the worst way to regulate a market. It is better to give guidance and help them get to that pattern. Canada is reaching that level of regulatory harmony. There is still a lot of enforcement happening -- that will never go away, but the fine balance of enforcement and mentoring the market in the right direction of integrity [is growing].”
Compliance is not a money making area, said Ernest-Jones, so firms will only do what they have to.
“They want to protect themselves but it is hard to justify a huge amount of investment in it unless you are forced to.”
Market forces and big fines perk up interest, said Nasdaq’s Karbouris.
Cinnober’s said that the price of reputational risk is often overlooked.
The cost of putting in a proper system will always be there -- this is a cost system. And then you have to feed the systems with information. The cost of bringing information into the system has to be reduced to as close to zero as possible. Exchanges make a lot of money selling this information and the vast majority of users use it to make money, there there is another aspect -- this information is needed for integrity purposes.”
The CME’s Moran said the number of new rules makes compliance very expensive but necessary since exchanges and firms face not just reputation risk but CFTC action.
“Firms have a lot of incentives to make sure they are in compliance and it is putting a lot of pressure on firms in terms of cost.”
Swaps trading introduces a whole new mix of complexity because swaps data looks very different from futures data.
“We have a lot of participants who have no idea what futures data looks like. How do we get all that data in and the mix it with our futures data? If we are looking at risk across platforms we want to know swaps and futures positions.”
What’s their Wish List for 2014?
“We want to stop people blowing up,” said NASDAQ’s Karbouris.
Ernest-Jones said the industry needs more flexible tools, integrated systems and integrated platforms like in-memory databases..
More of the work should be automated, said CME’s Moran.
“We are looking at more visualization of data. For presentation or detection it can be more efficient to see the data in visualization.” The exchange also needs to make its people more efficient, he added.
Several of the panelists said their firms are running educational programs in financial centers around the world.
Karbouris at NASDAQ said the SMARTS group has run client summits with clients and exchanges.
“The uptick this year by the regulators and exchanges has been huge. We are seeing a lot more dialogue in some countries.”
