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19 May 2015

Wall Street Journal: Regulators point to risks from rapid-fire trading, clearing


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The rise of computerized trading and the changing roles of big banks are reshaping financial markets and potentially raising new vulnerabilities, US regulators said in their annual report on financial-system threats.


The Financial Stability Oversight Council—a group of senior officials including the heads of the Federal Reserve and the Securities and Exchange Commission—also pointed to emerging risks from clearinghouses, a group of middlemen firms that have become a crucial part of market infrastructure. The concerns about market structure and what are known as central counterparties were new to the council’s annual report, and they reflected officials’ focus on how technology and regulations are changing the functions and vulnerabilities of financial markets.

“We must continually look ahead to new risks,” Federal Reserve Chairwoman Janet Yellen said. While the council’s report “documents the continued improvement in the strength and resiliency of the US financial sector,” she said, “Our job is not done.” Ms Yellen and other regulators said they were aware of concerns among market participants that liquidity, or the ability of investors to buy and sell securities quickly, could deteriorate in today’s markets, given changes like the rise of electronic trading and new regulations that affect banks’ willingness to buy and sell securities. Regulators will publish a report in the coming weeks on unusual volatility in US Treasury markets Oct. 15 of last year—an event they have been examining for months.

The oversight council also cited the rise of rapid-fire electronic trading as a potentially destabilizing factor, saying it has tied disparate parts of financial markets more closely to one another, “possibly amplifying price movements in periods of market stress.” More broadly, SEC Chairman Mary Jo White has expressed concern that the complex, fragmented nature of financial markets can fuel instability.

The council didn’t recommend any specific action in response to its concerns about liquidity or market structure other than recommending regulators collect and share more data. Treasury Secretary Jacob Lew, who heads the council, said, “regulators must remain vigilant and work to better understand potential effects on market functioning and the provision of liquidity.”

Mr Lew said regulators looking at central counterparties should focus on cybersecurity,

The report said the council is examining how bond mutual funds and exchange-traded funds, whose holdings have grown in recent years, would react to market stress. Separately, the council is examining risks from the asset-management industry on a broad scale, though it hasn’t drawn any conclusions, and Tuesday’s report didn’t contain any recommendations on that front. The fund industry has said concerns that they pose a risk to financial stability are unfounded.

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