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Vol. 78 Thursday,No. 177 September 12, 2013Part IV
Commodity Futures Trading Commission
17 CFR Chapter IConcept Release on Risk Controls and System Safeguards for AutomatedTrading Environments; Proposed Rule
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Federal Register
/Vol. 78, No. 177/Thursday, September 12, 2013/Proposed Rules
RIN 3038–AD52
Concept Release on Risk Controls andSystem Safeguards for AutomatedTrading Environments
Commodity Futures TradingCommission.
Concept release; request forcomments.
U.S. derivatives markets haveexperienced a fundamental transitionfrom human-centered trading venues tohighly automated and interconnectedtrading environments. The operationalcenters of modern markets now residein a combination of automated tradingsystems (‘‘ATSs’’) and electronic tradingplatforms that can execute repetitivetasks at speeds orders of magnitudegreater than any human equivalent.Traditional risk controls and safeguardsthat relied on human judgment andspeeds, and which were appropriate tomanual and/or floor-based tradingenvironments, must be reevaluated inlight of new market structures. Further,the Commission and market participantsmust ensure that regulatory standardsand internal controls are calibrated tomatch both current and foreseeablemarket technologies and risks. ThisConcept Release on Risk Controls andSystem Safeguards for AutomatedTrading Environments (‘‘ConceptRelease’’) reflects the Commission’scontinuing commitment to the safetyand soundness of U.S. derivativesmarkets in a time of rapid technologicalchange. The Concept Release serves asa platform for cataloguing existingindustry practices, determining theirefficacy and implementation to date,and evaluating the need for additionalmeasures, if any. The Commissionwelcomes all public comments.
Comments must be received onor before December 11, 2013.
You may submit comments,identified by RIN 3038–AD52, by any of the following methods:
CFTC Web site, via CommentsOnline: http://comments.cftc.gov. 
Follow the instructions for submittingcomments through the Web site.
Melissa D. Jurgens, Secretaryof the Commission, Commodity FuturesTrading Commission, Three LafayetteCentre, 1155 21st Street NW.,Washington, DC 20581.
Hand Delivery/Courier: 
Same as‘‘mail,’’ above.
Federal eRulemaking Portal: http://  www.regulations.gov. 
Follow theinstructions for submitting comments.Please submit comments by only onemethod. All comments should besubmitted in English or accompanied byan English translation. Comments will be posted as received to
You should submit onlyinformation that you wish to makeavailable publicly. If you wish theCommission to consider informationthat may be exempt from disclosureunder the Freedom of Information Act(‘‘FOIA’’), a petition for confidentialtreatment of the exempt informationmay be submitted according to theprocedures established in 17 CFR 145.9.The Commission reserves the right, butshall have no obligation, to review,prescreen, filter, redact, refuse, orremove any or all of your submissionfrom
that it maydeem to be inappropriate forpublication, such as obscene language.All submissions that have been redactedor removed that contain comments onthe merits of the rulemaking will beretained in the public comment file andwill be considered as required under theAdministrative Procedure Act and otherapplicable laws, and may be accessibleunder FOIA.
Sebastian Pujol Schott, AssociateDirector, Division of Market Oversight,
or 202–418–5641; MarileeDahlman, Attorney-Advisor, Division of Market Oversight,
or 202–418–5264; Camden Nunery,Economist, Office of the Chief Economist,
or 202–418–5723; or Sayee Srinivasan,Research Analyst, Office of the Chief Economist,
or 202–418–5309.
I. IntroductionA. Design of Concept Release and Requestfor CommentsII. BackgroundA. Characteristics of Automated TradingEnvironments1. Automated Order Generation andExecution2. Advances in High-SpeedCommunication Networks andReductions in Latency3. Rise of Interconnected AutomatedMarkets4. Manual Risk Controls and SystemSafeguards in Automated TradingEnvironmentsB. The Commission’s Regulatory Responseto DateC. Recent Disruptive Events in AutomatedTrading EnvironmentsIII. Potential Pre-Trade Risk Controls, Post-Trade Reports, System Safeguards, andOther ProtectionsA. Overview of Existing Industry Practices1. Existing DCM Risk Controls2. Existing Trading and Clearing Firm RiskControlsB. Overview of Risk Controls Addressed inThis Concept ReleaseC. Pre-Trade Risk Controls1. Message and Execution Throttles2. Volatility Awareness Alerts3. Self-Trade Controls4. Price Collars5. Maximum Order Sizes6. Trading Pauses7. Credit Risk LimitsD. Post-Trade Reports and Other Post-Trade Measures1. Order, Trade, and Position Drop Copy2. Trade Cancellation or AdjustmentPoliciesE. System Safeguards1. Controls Related to Order Placement2. Policies and Procedures for the Design,Testing and Supervision of ATSs;Exchange Considerations3. Self-Certifications and Notifications4. ATS or Algorithm Identification5. Data Reasonability ChecksF. Other Protections1. Registration of Firms Operating ATSs2. Market Quality Data3. Market Quality Incentives4. Policies and Procedures To Identify‘‘Related Contracts’’5. Standardize and Simplify Order TypesG. General Questions Regarding All RiskControls Discussed AboveIV. List of All Questions in the ConceptReleaseV. Appendices (Specific Measures in BoldFont)A. Pre-Trade Risk ControlsB. Post-Trade Reports and Other Post-Trade MeasuresC. System SafeguardsD. Other Protections
I. Introduction
U.S. derivatives markets haveexperienced a fundamental evolutionfrom human-centered trading venues tohighly automated and interconnectedtrading environments. Traditionally,traders and market participants directlyinitiated, communicated and executedorders, while other personnel provideda range of order, trade processing and back office services. In contrast,automated trading environments arecharacterized precisely by their highdegree of automation, and by the widearray of algorithmic and informationtechnology systems that generate, riskmanage, transmit and match orders andtrades, as well as systems used toconfirm transactions, communicatemarket data and link related systemsthrough high-speed communicationnetworks. Automated tradingenvironments have conferred a numberof benefits upon market participants,including an expanded range of potential trading strategies, and a surgein the speed, precision and tools
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Federal Register
/Vol. 78, No. 177/Thursday, September 12, 2013/Proposed Rules
‘‘Findings Regarding the Market Events of May 6, 2010, Report of the Staffs of the CFTC andSEC to the Joint Advisory Committee on EmergingRegulatory Issues,’’ September 30, 2010[hereinafter, the ‘‘CFTC and SEC Joint Report on theMarket Events of May 6, 2010’’], available at
 Jenny Strasburg & Jacob Bunge, ‘‘LossSwamps Trading Firm,’’ Wall St. J. (Aug. 2, 2012),available at
On October 2, 2012, the Securities and ExchangeCommission (‘‘SEC’’) conducted a roundtableentitled ‘‘Technology and Trading: PromotingStability in Today’s Markets’’ (‘‘SEC Roundtable’’).
SEC, Notice of Roundtable Discussion:Technology and Trading Roundtable, 77 FR 56697(Sept. 13, 2012). A transcript of the SEC Roundtable[hereinafter, the ‘‘SEC Roundtable Transcript’’] isavailable at
At the SECRoundtable, then-SEC Chairman Schapiro raisedthe Knight Capital incident and noted that ‘‘[e]ventslike these demonstrate the core infrastructure andtechnology issues that can be problematic in anymarket structure.’’
SEC Roundtable Transcriptat 11.
Dodd-Frank Wall Street Reform andConsumer Protection Act of 2010, Public Law 111–203, 124 Stat. 1376 (2010).
Many of these concepts are in harmony withevolving views of groups responsible for settingstandards and developing regulations for othermarkets around the world.
See, e.g.,
IOSCOTechnical Committee, ‘‘Regulatory Issues Raised bythe Impact of Technological Changes on MarketIntegrity and Efficiency: Consultation Report’’ (July2011) [hereinafter ‘‘IOSCO Report on RegulatoryIssues Raised by Technological Changes’’], availableat
See also
ESMA, ‘‘Final Report: Guidelines onSystems and Controls in an Automated TradingEnvironment for Trading Platforms, InvestmentFirms and Competent Authorities’’ (December 2011)[hereinafter, ‘‘ESMA Guidelines on Systems andControls’’], available at
available to execute such strategies. Inaddition to these benefits, however,automated trading environments havealso presented challenges unique totheir speed, interconnectedness andreliance on algorithmic systems.In recent years, a number of high-profile system events associated withautomated trading have raised public,Commission and industry awareness.For example, on May 6, 2010, majorequity indices in both the futures andsecurities markets lost more than 5% of their value in a matter of minutes whenan automated order led to extremedownward price movement and aliquidity crisis in the ChicagoMercantile Exchange’s (‘‘CME’’) E-minifutures contract.
In August 2012, atrading firm in the securities markets—Knight Capital Group—submitted asignificant number of errant proprietaryorders to the New York Stock Exchange(‘‘NYSE’’), causing price swings innearly 150 securities and costing thefirm approximately $440 million in theprocess.
Most recently, in August 2013,trading on the Nasdaq stock market wasdisrupted for three hours due tomalfunctions in quote disseminationsystems and potential connectivityissues between it and another tradingplatform’s systems. These and otherrecent events in automated tradingenvironments are discussed in greaterdetail in section II.C., below.The Commission has taken steps toaddress the transition to automatedtrading and require appropriate riskcontrols for designated contract markets(‘‘DCMs’’), swap execution facilities(‘‘SEFs’’), futures commissionmerchants (‘‘FCMs’’), swap dealers(‘‘SDs’’), major swap participants(‘‘MSPs’’) and others. In April 2012, itadopted final rules requiring FCMs, SDsand MSPs that are clearing members toestablish risk-based limits based onposition size, order size, marginrequirements, or similar factors, andrequiring those entities to useautomated means to screen orders forcompliance with the risk limits whensuch orders are subject to automatedexecution. Further, in June 2012, theCommission adopted final rules withrespect to DCMs, includingrequirements that DCMs establish andmaintain risk control mechanisms toprevent and reduce the potential forprice distortions and marketdisruptions. Relevant controls cited inthe rule include trading pauses andhalts under conditions prescribed by theDCM. The Commission adopted similarrequirements in its final rules for SEFsin 2013. Finally, the DCM final rulesalso require risk control requirementsfor exchanges that provide direct marketaccess (‘‘DMA’’) to clients.The Commission has also adoptedrules related to trading practices,including trading in automatedenvironments. In July 2011, theCommission adopted final rulescodified in 17 CFR Part 180 that, amongother things, (i) broadly prohibitmanipulative and deceptive devices,
fraud and fraud-based manipulativedevices and contrivances employedintentionally or recklessly, regardless of whether the conduct in question wasintended to create or did create anartificial price; and (ii) codify theCommission’s long-standing authority toprohibit price manipulation by makingit unlawful for any person, directly orindirectly, to manipulate or attempt tomanipulate the price of any swap, or of any commodity in interstate commerce,or for future delivery on or subject to therules of a registered entity. Further,section 747 of the Dodd-Frank WallStreet Reform and Consumer ProtectionAct (the ‘‘Dodd-Frank Act’’)
amendedthe Commodity Exchange Act (‘‘CEA’’ or‘‘Act’’) to make it unlawful for anyperson to engage in disruptive tradingpractices, and the Commission hasprovided guidance on the scope andapplication of the new statutoryprohibitions. The Commission’smeasures to date are summarized ingreater detail in section II.B., below.With respect to these measures andothers discussed in this ConceptRelease, the Commission requestspublic comment regarding anyadditional steps, guidance orrulemaking that it should undertake.Derivatives market participants,including DCMs, FCMs, clearingmembers and others, have themselvestaken a number of steps to manage risksassociated with automated trading. TheCommission acknowledges these efforts,and, through this Concept Release, seekspublic comment on the extent to whichmeasures already in place may besufficient to safeguard markets inautomated trading environments. Inparticular, section III below summarizesrelevant risk controls implemented byone or more market participants;requests comment regarding the extentof their implementation to date; andseeks input regarding whether existingcontrols would benefit from additionalgranularity or regulatorystandardization.
A. Design of Concept Release and Request for Comments
This Concept Release provides anoverview of the automated tradingenvironment, including its principalactors, potential risks, and preventativemeasures designed to promote safe andorderly markets.
The Concept Releasewas informed by controls already in usetoday by one or more marketparticipants or exchanges, and bestpractices, recommendations andconcepts developed by the CFTC’sTechnology Advisory Committee(‘‘TAC’’); the Futures IndustryAssociation’s (‘‘FIA’’) Principal TradersGroup and Market Access WorkingGroup; the International Organization of Securities Commissions (‘‘IOSCO’’); theEuropean Securities and MarketsAuthority (‘‘ESMA’’); and by existingCFTC regulatory requirements. It beginswith an overview of automated trading,including the development of automated order generation andexecution systems; advances in high-speed communication networks; thegrowth of interconnected automatedmarkets; the changed role of humans inmodern markets; and a discussion of 
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