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Thursday, July 19, 2012

Regulation: who’s in charge?

Posted by Richard Bentley

Exactly how can you enforce rules when there’s nobody in charge? This was a question that reared its head at the recent International Derivatives Expo (IDX) in London after a statement from David Lawton, Acting Director of Markets at the Financial Services Authority (FSA), who concluded his keynote address by imploring industry to ‘step up’ and take responsibility.

Traffic copThe clear inference from Mr. Lawton’s speech was that it’s the role of regulatory bodies such as the FSA to provide, in some cases, very detailed guidance, but the responsibility of those within the industry to implement it. To my mind this raises a number of questions – not least around how this should happen and, perhaps more importantly, whether or not these guidelines are actually enforceable without a regulatory body policing market activity?

If the onus is indeed placed on the industry to self-regulate, the first barrier that will need clearing is for all market participants to agree that it’s in their best interests to ensure the regulations are adhered to. Only then can we focus our attention on how guidelines such as those announced by The European Securities and Markets Authority (ESMA) regarding the systems and controls required in automated trading environments are followed.

That some form of self-regulation and enforcement is required is however not in doubt. Would you drive a car without brakes and then blame the traffic cops for not slowing you down when the inevitable crash occurs? Participants need to take responsibility for policing their own activities, by deploying the same kinds of real-time controls and surveillance capabilities as venues and the regulators themselves. Brokers and banks often have more visibility of their clients’ trading activities and positions than any one venue or indeed national regulator. (The recently announced plans for a Consolidated Audit Trail in the US will do nothing to change this, given the identity of the beneficiary end-point of each trade is not identifiable from the CAT.)

Increased use of pre- and post-trade surveillance tools will not only help the industry to, as Mr. Lawton suggests, ‘step up’, but could also restore some of the faith in the markets that has been lost in recent months and years. In the absence of any single authority capable of enforcing the rules, it is in the industry’s best interests that market participants fill the gap.


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