[Senate Hearing 113-559]
[From the U.S. Government Publishing Office]



                                                        S. Hrg. 113-559

                      HIGH FREQUENCY AND AUTOMATED

                       TRADING IN FUTURES MARKETS
=======================================================================

                                HEARING

                               before the

                       COMMITTEE ON AGRICULTURE,
                         NUTRITION AND FORESTRY

                          UNITED STATES SENATE


                    ONE HUNDRED THIRTEENTH CONGRESS

                             SECOND SESSION


                               __________

                              MAY 13, 2014

                               __________

                       Printed for the use of the
            Committee on Agriculture, Nutrition and Forestry


        Available via the World Wide Web: http://www.fdsys.gov/




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20402-0001



            COMMITTEE ON AGRICULTURE, NUTRITION AND FORESTRY



                 DEBBIE STABENOW, Michigan, Chairwoman

PATRICK J. LEAHY, Vermont            THAD COCHRAN, Mississippi
TOM HARKIN, Iowa                     MITCH McCONNELL, Kentucky
SHERROD BROWN, OHIO                  PAT ROBERTS, Kansas
AMY KLOBUCHAR, MINNESOTA             SAXBY CHAMBLISS, Georgia
MICHAEL BENNET, COLORADO             JOHN BOOZMAN, Arkansas
KIRSTEN GILLIBRAND, NEW YORK         JOHN HOEVEN, North Dakota
JOE DONNELLY, INDIANA                MIKE JOHANNS, Nebraska
HEIDI HEITKAMP, NORTH DAKOTA         CHARLES E. GRASSLEY, Iowa
ROBERT P. CASEY, Jr., PENNSYLVANIA   JOHN THUNE, South Dakota
JOHN WALSH, MONTANA

             Christopher J. Adamo, Majority Staff Director

              Jonathan J. Cordone, Majority Chief Counsel

                    Jessica L. Williams, Chief Clerk

              Thomas Allen Hawks, Minority Staff Director

       Anne C. Hazlett, Minority Chief Counsel and Senior Advisor

                                  (ii)


                            C O N T E N T S

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                                                                   Page

Hearing(s):

High Frequency and Automated Trading in Futures Markets..........     1

                              ----------                              

                          Tuesday May 13, 2014
                    STATEMENTS PRESENTED BY SENATORS

Stabenow, Hon. Debbie, U.S. Senator from the State of Michigan, 
  Chairwoman, Committee on Agriculture, Nutrition and Forestry...     1
Cochran, Hon. Thad, U.S. Senator from the State of Mississippi...     2

                                Panel I

McGonagle, Vince, Director of the Division of Market Oversight, 
  Commodity Futures Trading Commission, Washington, DC...........     3
Duffy, Terrence, Executive Chairman and President, CME Group, 
  Chicago, Illinois..............................................     5
Kirilenko, Andrei, Ph.D., Professor of the Practice of Finance, 
  MIT Sloan School of Management, Cambridge, Massachusetts.......     6
                              ----------                              

                                APPENDIX

Prepared Statements:
    Thune, Hon. John.............................................    24
    Duffy, Terrence..............................................    27
    Kirilenko, Andrei............................................    31
    McGonagle, Vince.............................................    38
Document(s) Submitted for the Record:
Duffy, Terrence:
    CME Globex Risk and Volatility Mitigation Tools-Appendix A...    54
Question and Answer:
Duffy, Terrence:
    Written response to questions from Hon. Charles Grassley.....    62
    Written response to questions from Hon. John Thune...........    63
Kirilenko, Andrei:
    Written response to questions from Hon. Charles Grassley.....    67
    Written response to questions from Hon. John Thune...........    68
McGonagle, Vince:
    Written response to questions from Hon. John Thune...........    70


 
                      HIGH FREQUENCY AND AUTOMATED
                       TRADING IN FUTURES MARKETS

                              ----------                              


                          Tuesday May 13, 2014

                              United States Senate,
          Committee on Agriculture, Nutrition and Forestry,
                                                     Washington, DC
    The Committee met, pursuant to notice, at 10:03 a.m., room 
328A, Russell Senate Office Building, Hon. Debbie Stabenow, 
Chairwoman of the Committee, presiding.
    Present or submitting a statement: Senators Stabenow, 
Brown, Klobuchar, Gillibrand, Donnelly, Casey, Cochran, 
Chambliss, and Thune.

STATEMENT OF HON. DEBBIE STABENOW, U.S. SENATOR FROM THE STATE 
 OF MICHIGAN, CHAIRWOMAN, COMMITTEE ON AGRICULTURE, NUTRITION 
                          AND FORESTRY

    Chairwoman Stabenow. Good morning. This Senate Agriculture, 
Nutrition and Forestry Committee will come to order.
    Thanks very much to our witnesses today for their 
information, expertise. We thank all of our members being here 
at this very, very important hearing.
    For centuries, commodity markets have been about 
connections between buyers and sellers. But those connections 
have changed--the days of ``the pit'' as the main form of 
trading are gone.
    Today, the most important connections are fiber optic--
information can be transmitted at nearly the speed of light. 
Powerful computers with complex programming have the ability to 
execute many thousands of trades in the time it takes two 
traders to use hand signals.
    While advancements in technology have improved the markets 
in many ways, we are also faced with new challenges, which we 
are here today to discuss. As markets and trading change, so 
must the oversight. To put it simply: the men and women who 
have the public trust to oversee these markets must have the 
tools and resources to keep up with the markets they are 
overseeing.
    With high-frequency trading in the news lately, it is 
important to remember there are significant differences between 
the securities and futures markets--both structural and 
regulatory. While the markets are linked, as we saw during the 
Flash Crash, some of the concerns raised about equities markets 
are not applicable to the futures markets.
    Today's hearing will focus on some of the changes brought 
about by technology. Just as automated trading can take many 
forms, including algorithmic trading and high frequency 
trading--there are many different perspectives on the costs and 
benefits of these strategies. We will hear some of those 
perspectives today.
    We will also ask some questions: Has automated trading 
improved price discovery in futures markets? Does automated 
trading make it easier to manage risk for our farmers, ranchers 
and end users; or does it create risk? Are the regulators, 
exchanges, and other market participants sufficiently managing 
these new challenges?
    These markets have changed dramatically over the years. For 
a 21st Century market, we need a 21st Century regulator. That 
means the CFTC needs the right authority and the right tools to 
ensure that markets are working. That means they need enough 
people, and it means they need up-to-date technology.
    This hearing is not only a matter of oversight, but part of 
the effort to reauthorize the Commodity Futures Trading 
Commission, and affords us the opportunity to evaluate what 
changes might be necessary to protect our markets.
    Thank you to the witnesses who have come here today, who 
represent an important cross-section of views. As we move 
forward, we will continue to listen to the concerns of all 
market participants, including farmers and ranchers; pension 
funds and mutual funds; and proprietary firms and consumer 
groups, to best ensure stability in today's futures markets.
    Now, I will turn to my friend and the distinguished the 
Ranking Member of the Committee, Senator Cochran.

STATEMENT OF HON. THAD COCHRAN, U.S. SENATOR FROM THE STATE OF 
                          MISSISSIPPI

    Senator Cochran. Madam Chairman, thank you for convening 
the hearing.
    The Committee continues to explore today reauthorization of 
the Commodity Futures Trading Commission. It is an important 
opportunity for us, therefore, to hear from industry users of 
futures markets to get their suggestions, if there are needs 
that we should know about, to help improve the integrity of the 
process and the technology as well.
    Over the years, we have seen commodity trading evolve from 
a person-to-person transaction into sophisticated, complex 
trades that span the globe and take only fractions of a second 
to complete. Automated trading has allowed the marketplace to 
grow and become more efficient.
    But in light of these advances, it is important that we 
ensure the CFTC is discharging its responsibility as the 
primary regulator of futures markets.
    There have not been reports of rampant abuses in the 
futures markets relating to high frequency trading, but we need 
to be sure that we have a framework of regulations and legal 
provisions in the statutes that guards against abuses and 
protects the integrity of this important marketplace.
    Thank you.
    Chairwoman Stabenow. Thank you, very, very much, Senator 
Cochran.
    I am pleased to introduce our panel of witnesses that we 
have with us today. First, we have Vincent McGonagle, who is 
the Director of the Division of Market Oversight at the 
Commodity Futures Trading Commission where he oversees the 
registration and oversight of trade execution facilities.
    Since 1997, Mr. McGonagle has served as a variety of roles 
at the CFTC, most recently as a Senior Deputy Director of 
Enforcement in the Division of Enforcement. We thank you very 
much for your work.
    Our second witness is a familiar face to the Committee. 
Welcome back. Mr. Terry Duffy is the Executive Chairman and 
President of the CME Group. Mr. Duffy has been a member of CME 
since 1981, the Executive Chairman since 2006 and took on the 
Chairman's role in 2012, also served as Vice Chairman of the 
CME Group Foundation in 2003.
    Mr. Duffy was appointed by President Bush as a member of 
the Federal Retirement Thrift Investment Board, a position that 
he recently left. Welcome again. We are glad to have you.
    Finally, we have Dr. Andrei Kirilenko, Professor of the 
Practice of Finance at MIT's Sloan School of Management. Before 
joining MIT, Dr. Kirilenko served as the Chief Economist at the 
CFTC for four years until December 2012, and again, we were 
much appreciate your expertise and willingness to be with us 
today.
    We will move ahead. I think all of you know we welcome any 
written testimony. We will ask that your verbal testimony be 
limited to five minutes so we have enough time for questions, 
but we certainly welcome any additional written testimony you 
would like to leave with the Committee.
    Mr. McGonagle, your testimony please.

   STATEMENT OF VINCE MCGONAGLE, DIRECTOR OF THE DIVISION OF 
    MARKET OVERSIGHT, COMMODITY FUTURES TRADING COMMISSION, 
                        WASHINGTON, D.C.

    Mr. McGonagle. Good morning, Chairwoman Stabenow, Ranking 
Member Cochran and members on the Committee. Thank you for the 
opportunity to appear before you today.
    My name is Vincent McGonagle and I am the Director of the 
Division of Market Oversight at the Commodity Futures Trading 
Commission. I am pleased to appear before the Committee to 
provide an overview of the Commission's Concept Release on Risk 
Controls and System Safeguards for Automated Trading 
Environments.
    Together with a number of rules applicable to trading 
platforms and market participants adopted since passage of the 
Dodd-Frank fact, the Concept Release is a proactive effort to 
evaluate technology driven changes in derivatives markets.
    Over the past decade, automated order generating and trade 
matching systems have been enhanced. There has been a growth of 
interconnected automated markets and the role of humans and 
markets has changed.
    The Concept Release contains a range of best practices, 
existing commission regulations, and potential concerns around 
automated trading for comprehensive public discussion.
    The Commission solicited public comment on 124 separate 
questions what catalog existing industry practices. 
Fundamentally, the Concept Release asked whether existing risk 
controls are sufficient to match trading technologies of modern 
markets. We focused on the automated trading environment 
looking at the progression of orders generated by the automated 
trading system or an ATS to the clearing firms that guarantee 
customer orders and then on to execution by trading platforms.
    The Concept Release also addresses the big ATSs themselves. 
We sought comment concerning whether high frequency trading 
should be defined or otherwise classified as a registrant.
    The Concept Release grouped 23 potential risk controls and 
other measures into four general categories. Pre-trade risk 
controls, post-trade reports, design testing and supervision of 
standards for the automated trading systems, and other measures 
such as market structure.
    Pre-trade with controls are designed to prevent and 
minimize errors or disruptions from reaching trading platforms. 
This category addresses message rates, execution throttles, and 
maximum order sizes. Pre-trade risk controls could apply to 
some or all trading firms, the ATSs, clearing firms or trading 
platforms.
    Post-trade reports will confirm receipt of an order or an 
executed trade or otherwise report an error.
    The third category, system safeguards. We looked at 
safeguards for the design, testing, and supervision of 
automated trading systems. We also asked about kill switches 
effectively canceling all working orders that facilitate an 
emergency intervention in the case of a malfunctioning ATS.
    Turning to market function and structure, we asked whether 
exchanges should publish market quality indicators describing 
trading activity and other associated metrics.
    For market structure, we asked whether exchanges should 
amend their trade matching systems. An example listed includes 
whether trading should take place in a batch auction rather 
than the continuous trade matching system.
    We received 43 comments to the Concept Release which raised 
a range of opinions. Some commenters questioned whether certain 
risk controls could slow creation or transmission of orders, 
creating a competitive disadvantage for firms that adopt them 
unilaterally.
    Other commenters expressed concern about the speed of 
trading, including within exchange order books and suggested 
steps to reduce any potential advantages that come with speed.
    Other commenters suggested, however, that further 
regulation in this space would quickly become obsolete as 
technologies evolve. Some pointed to industry-led best 
practices and safeguards rather than Commission regulation as 
an appropriate response.
    The Commission has a responsibility to ensure preservation 
of price integrity within these critical markets. The Concept 
Release invited a public dialogue in order to make an informed 
recommendation to the Commission as to whether and what further 
role in the market, market participants, and the Commission 
should take in automated trading.
    I will be happy to answer any questions. Thank you.
    [The prepared statement of Vince McGonagle can be found on 
page 38 in the appendix.]
    Chairwoman Stabenow. Thank you very much.
    Mr. Duffy, welcome.

STATEMENT OF TERRENCE DUFFY, EXECUTIVE CHAIRMAN AND PRESIDENT, 
                  CME GROUP, CHICAGO, ILLINOIS

    Mr. Duffy. Thank you. Good morning, Chairwoman Stabenow, 
Ranking Member Cochran, members of the Committee, thank you for 
allowing me to express the views of the CME Group on a very 
important topic, high frequency trading. High frequency trading 
has been the focus of many negative comments, much of which has 
been based on misinformation when it comes to futures markets.
    First, let me say that I strongly agree with regulators, in 
both the futures and the equities markets, that the futures 
markets are not rigged. To the contrary, the futures markets 
today are more open and accessible than ever before.
    It is important to take a step back and discuss the market 
as a whole. Futures markets have evolved from a floor-based 
model to an electronic model at the demand of our customers who 
sought immediate execution and confirmation.
    CME Group responded to its diverse and global customer base 
including our banks, hedge funds, farmers and ranchers, 
commercial producers and merchandisers, and other constituents.
    Our innovative implementation of electronic trading opened 
the markets in a profound way. It increased liquidity and 
tightened bid/ask spreads to the benefit of our customers. They 
rely on deep liquid markets to achieve their risk management 
and investment objectives.
    Without doubt, the increased speed of electronic trading 
has challenged us to ensure that our markets operate with 
integrity and are fair and open to all customers.
    CME Group has been focused on this task for years. We have 
worked closely with this Congress, our regulators, and 
customers to maintain a level playing field.
    We use a central limit order book. The identity of traders 
and firms is protected from disclosure on all their bids, 
offers, and execution reports. No one can see an order prior to 
them hitting our match engine and being made available on the 
order book.
    Our market data is sent to everyone at once. While 
customers have several options in terms of how they can receive 
data from us, we do not restrict access. We maintain a complete 
and comprehensive audit trail of every message, every order, 
and every trade.
    Orders entered via automated systems and the traders who 
operate them are identified in the audit trail. This allows us 
to monitor our markets which we do through sophisticated 
surveillance and the monitoring technology backed by 
experienced investigators.
    CME promotes market stability through industry leading risk 
controls. These include pre-execution risk controls, price 
banding, stop-logic functionality, velocity-logic 
functionality, and messaging volume controls. These controls in 
all instances automatically reject irregular orders caused, for 
example, by an order entry or a malfunction of an algorithm.
    I would like to talk a little bit about co-location. It is 
a topic that has received a lot of attention lately. In many 
cases, the coverage includes misinformation about how these 
facilities actually operate.
    Co-location in our market provides equal access. It used to 
be that the benefit of speed from proximity was available only 
to traders who could buy real estate near an exchange or where 
he or she thought the server would be.
    Because of co-location facilities, every trader has access 
to co-location. This includes everyone from small retail 
participants to the largest of Wall Street banks. Everyone in 
our facility connects with the same length fiber, so there are 
no unequal location advantages. This is one of the true 
benefits of our co-location facilities.
    Finally, something that this Committee is deeply aware of, 
but has been largely ignored by the public, is that futures 
markets are very different from equities markets. Many of the 
complaints against high frequency trading in equity markets 
simply do not apply to the U.S. futures markets which have a 
completely different market structure.
    The multilevel protections I described a few minutes ago 
are specific to our markets at CME. We think this structure 
strikes the right balance of regulating the market without 
inhibiting true price discovery.
    The balance of regulation and market surveillance, along 
with deep pools of liquidity, give market participants the 
confidence they have come to expect as they rely on our markets 
to effectively manage their risk.
    I look forward to answering your question this morning. 
Thank you.
    [The prepared statement of Mr. Duffy can be found on page 
27 in the appendix.]
    Chairwoman Stabenow. Thank you very much.
    Dr. Kirilenko, welcome.

  STATEMENT OF ANDREI KIRILENKO, PROFESSOR OF THE PRACTICE OF 
      FINANCE, MIT SLOAN SCHOOL OF MANAGEMENT, CAMBRIDGE, 
                         MASSACHUSETTS

    Mr. Kirilenko. Thank you good morning, Chairwoman Stabenow, 
Ranking Member Cochran, Committee members. I am honored to 
appear before you today at the hearing on high frequency and 
automated trading in futures markets.
    It is not so long ago that futures were traded by human 
traders in face-to-face markets. An open outcry market was 
visible to the human eye. Traders had names, served designated 
functions, and occupied specific locations on the trading 
floor.
    It was in the last decade that trading floors have been 
replaced by server farms and the traitors have been replaced by 
anonymous algorithms. Automated markets came with the promise 
of using faster and cheaper technology to drastically lower 
execution costs and improved price discovery for fundamental 
market participants, farmers, ranchers, manufacturers and 
pension fund managers.
    For investors who want to buy or sell 100 shares or a 
couple of futures contracts, this process seems to have been 
realized. They can do it at narrow bid-ask spreads, greater 
market depths, and prices that can be discovered around the 
clock.
    Then on May 6, 2010 came the Flash Crash. The events of May 
6, 2010 were blamed on high-frequency traders, a new breed of 
secretive, hyperactive trading algorithms that take advantage 
of anyone trying to trade on size.
    Within hours after the Flash Crash, my colleagues at the 
CFTC and I began looking into the trading activity in the mini-
futures market which provides price discovery for the broad 
U.S. stock market.
    We discover that on May 6, 2010 HFTs, as defined by us, did 
not cause the Flash Crash but did contribute to the 
extraordinary systemic market event which was triggered by a 
large sell program in the mini-futures executed over a short 
period of time.
    Systemic implications of high-frequency trading in the 
mini-futures prompted us to study the inner workings of the HFT 
industry. We found that over a two-year period the HFT industry 
remained dominated by a small number of fast and aggressive 
incumbents.
    These incumbents earned high and persistent returns while 
taking little risk. For some reason, competitive market forces 
did not seem to fully work and benefits of automated markets 
may not have been fully realized for everyone.
    Instead of competing to provide best execution to 
customers, incumbent HFTs seemed to be engaged in a winner 
takes all arms race for smaller reductions in latency.
    This explains why many regulators and policymakers decided 
to focus on latency type measures to slow things down, to put 
in speed bumps, or to remove the speed advantage of HFTs.
    The subject of today's hearing, high-frequency and 
automated trading, lies at the intersection of four highly 
specialized fields, regulation, finance, technology, and data 
processing. I have specific recommendations for each of these 
areas.
    In terms of regulation, I recommend creating a broad 
definition of automated brokers and traders, similar to what 
used be called floor brokers and traders in human-based 
markets. Regulators need to regain the ability to be on top of 
all the active traders and their markets.
    In terms of finance, I recommend that regulators closely 
examine whether competitive market forces are eroding the high 
concentration of the HFT industry. The competitive market 
forces are not working among the black boxes. Regulators cannot 
continue to rely on industry-suggested solutions and need to 
step in.
    In terms of technology, I recommend that automated 
exchanges report latency measurements through the market feed. 
Latency has become as important as prices and quantities.
    In terms of data processing, I recommend that automated 
futures exchanges continue to broaden the use of short trading 
pauses and reopening auctions. This functionality is not 
without a cost but the benefits to public confidence especially 
for the slower public are worth it.
    For the public to remain confident in automated futures 
markets, federal regulators need to demonstrate that they have 
upgraded their operations accordingly. This requires not only a 
substantial investment in new technology but an equally, if not 
greater, investment in human talent.
    Regulators should also ask academia for help dealing with 
the new challenges that they face. We are here to be of use.
    Thank you very much for the opportunity to testify before 
you today.
    [The prepared statement of Mr. Kirilenko can be found on 
page 31 in the appendix.]
    Chairwoman Stabenow. Thank you very much to each of you.
    Dr. Kirilenko, let me start with you. You mentioned that 
some have said that we are now in an arms race as it relates to 
technology. When we look at these markets, on the one hand we 
do know it is different. It is not fragmented like the 
securities markets.
    On the other hand, we are talking about greater and greater 
technology, and speed, and the whole question of whether or not 
the risk associated with higher trading speeds outweigh the 
benefits both in terms of managing risk and price discovery.
    What would be your answer to that, looking broadly at the 
issue of speed versus what we are doing in these particular 
markets in allowing people to use these markets to manage their 
risk and for price discovery?
    Mr. Kirilenko. Senator, thank you very much for your 
question. It is a critical question in these markets.
    What we found empirically by looking at trading in 
particular, very important futures contract is the HFT 
industry, the HFT firms who operate in the industry is highly, 
highly concentrated.
    What happens when markets become concentrated like this is 
that it creates an environment, a winner takes all type of 
environment where instead of focusing on the needs of 
customers, intermediates start focusing on how they out compete 
their peers, if you will, because whoever is one nanosecond 
late is not going to get the trade.
    Therefore, what we might be witnessing is potentially 
socially inefficient investment in technologies that do not 
necessarily benefit the end users.
    Chairwoman Stabenow. Thank you. Would the smaller retail 
investor notice if the market slowed down the speed of trading 
by milliseconds or nanoseconds?
    Mr. Kirilenko. The thing that is very clear that automated 
markets are bearing the fruit of Moore's law, if you will. The 
technology, technological advances much, much faster and 
cheaper computing power is bearing the fruit of making these 
prices operate around the clock, of having the market quality 
indicators really improving across the board.
    The bid-ask spread is much tighter, the depth is deeper, 
the volume is higher. For smaller investors, that may be what 
it is, they may be able to reap the benefits of that.
    However, the issue is that it is not--the small investors 
when they execute a few contracts in futures may be benefitting 
but their pension fund managers who are trying to execute in 
the size to manage risks of their entire portfolio may be 
paying the cost that empirically could be higher.
    It is not necessarily clear how much higher. We need to do 
at additional work on it. But on the whole the benefits may be 
disproportionally sort of shifting towards smaller trades and 
the few people who are inside the markets instead of a much, 
much broader constituency.
    Chairwoman Stabenow. Thank you.
    Mr. Duffy, you have highlighted the importance of CME's 
risk controls and I congratulate you on what you have been 
doing, messaging controls to maintain market stability, and so 
on.
    Do you think the CFTC should require these standards for 
all market participants?
    Mr. Duffy. On the risk controls? For all market 
participants, it would be a little difficult to do, Madam 
Chairwoman. When you look at small participants trying to use 
these markets to hedge their crops, if you are going to put the 
same restrictions on them that you are going to do on a large 
participant, the cost to them is going to be extraordinary.
    That is why us as a good exchange, as a designated contract 
market, we oversee those markets for those smaller 
participants. That is why it is critically important.
    When you look at what is going on today and let me just 
counter to what the doctor said a little bit, futures markets 
are about risk transfer, not about capital formation. There is 
a complete difference in what they do.
    Chairwoman Stabenow. Right.
    Mr. Duffy. Risk transfer is critically important to keep 
the spreads in line so the participants can execute at the 
cheapest possible price including those that are using them for 
risk transfer.
    The people that are trading high-frequency which are 
trading for the bid-offer are keeping the spreads very tight 
does a service to the people that are doing the risk transfer.
    High-frequency traders for the most part are there to try 
to capture bid-offers. Risk transfers are buying bids and 
selling offers. That is what they do and they do it at the most 
cost-effective rates.
    As far as the risk controls, it is critically important 
that they are all in place. I agree with both the doctor here 
on that. But what is more important here is the cost of 
execution for the participants.
    Chairwoman Stabenow. Dr. Kirilenko recommended that CME 
build on its success and, quote, broaden the use of short 
trading pauses and other risk controls. Would you agree with 
his assessment on that?
    Mr. Duffy. On our risk controls, we, I mean the doctor said 
it in his testimony, the Flash Crash. He was correct that HFTs 
did not create the Flash Crash, and I think there is a little 
bit of miscommunication who actually did create the Flash 
Crash.
    As you know, there were major macro events going around 
Europe at a particular time. There were big issues facing this 
country. All of a sudden the market went down precipitously and 
somebody was trying to do a large hedge and then the market 
fell and that happens.
    It came back, and the person who supposedly caused this 
large Flash Crash actually sold on the way back up. I agree 
with the doctor it was not HFTs and it was not a large asset 
manager that caused it. It was factors from all over the world 
but our technology with the stop logic functionality, we 
stopped.
    In the securities world, Senator, you may know that 
Accenture went to a penny that day. We do not trade Accenture. 
Because of stub quoting, the Flash Crash allowed markets like 
that because of the market structure to go to a penny, we have 
what is called stop logic functionality which, after so much, 
the market stops were six seconds, replenishes liquidity.
    We have velocity logic functionality. If there is too much 
velocity at one time, we will stop the market. If there is a 
big directional change in the market, we will also slow down 
the market and pause it.
    We have multiple controls in place to make sure these 
things do not happen.
    Chairwoman Stabenow. Thank you. I have additional 
questions. I will wait for additional rounds.
    Senator Cochran.
    Senator Cochran. Madam Chair, thank you for convening this 
hearing. Let me ask Mr. Duffy. Are there any changes in the 
law, the underlying law, recommended by the Commission now to 
try to address any kind of activity that should be disciplined 
more tightly or supervised more closely to protect the 
interests of the users of the markets?
    Mr. Duffy. First, Senator, I am unaware of any particular 
issues or laws that have been changed from what has already 
been public recently that the Commission has put forth. But 
what I will say is critically important, the most important 
thing is that if somebody is acting nefariously in the market 
to the detriment of the participants, they should be punished 
to the degree, whatever the law will provide for.
    Senator Cochran. Well, does the law provide sufficient 
safeguards to achieve that goal?
    Mr. Duffy. Yes. It does.
    Senator Cochran. Thank you.
    Chairwoman Stabenow. Thank you very much.
    Senator Brown.
    Senator Brown. Thank you, Madam Chair, and thanks to the 
witnesses. Mr. McGonagle, nice to see you again. Thank you for 
your testimony earlier in our commodities issue.
    As we know, in the world of high-speed trading, time is 
measured in microseconds, millionths of a second or 
milliseconds, thousandths of a second. A significant portion of 
Dr. Kirilenko's testimony focuses on latency, and I want to ask 
Mr. Duffy a question on latency and recall some of your 
statements and ask you to sort of explain.
    The Wall Street Journal highlighted, quote-unquote, order 
latency when trade information is routed to the parties to a 
trade before they post to the rest of the market.
    This informational advantage, if you will, allows high-
speed trading firms to see which way prices are heading, as you 
know, and to trade ahead of the rest of the market on a 
different futures exchange, exploiting arbitrage opportunities 
in mere milliseconds.
    Your testimony today says that CME's market data quota is 
sent to everyone at once. On April 23, Mr. Duffy, you told 
Bloomberg that, quote, latencies have been shrunk dramatically, 
but I have heard they may remain important contracts like the 
crude oil complex.
    Has CME addressed latencies across all futures contracts or 
are these delays just shorter or are they gone completely?
    Mr. Duffy. All of our market data comes out of one pipe, 
sir, and then the way you decide to acquire that is up to you. 
There are multiple ways to receive market data. It does go out 
all at once.
    What you are referring to, sir, I believe in the Wall 
Street Journal article that was written over a year and a half 
ago is where a participant would receive his confirmation of 
the trade but the market data did not hit the tape yet.
    He knew he had the trade. He was the only one who knew he 
had the trade. The rest of the world did not know he had the 
trade yet. That was what the Wall Street Journal article cited.
    We have shrunk that latency dramatically about market data 
to market confirmation. You have to understand, sir, when you 
have multiple messages coming from multiple participants coming 
out at one price, it could slow that particular system down 
quite, not quite a bit, a millisecond, and we have shrunk that 
dramatically.
    In most cases, sir, the time of market trade and market 
data come out instantaneously. There are situations where there 
could be a lag of a millisecond depending on what the scenario 
of the market conditions are. But that is totally separate from 
the way we distribute our market data. Everybody gets their 
market data at the same, at one pipe. They decide how they 
receive it. There is no differences.
    Senator Brown. To clarify that, that microsecond or those 
few microseconds or a millisecond of delay, does that advantage 
one?
    Mr. Duffy. No, sir, because the only person that knows that 
he has gotten the trade is himself. Correct. In our world, if 
he was--it is not like securities where he can go to an exact 
market such as IBM stock being traded on 13 different venues 
and potentially see a different price than what he received to 
add to that benefit.
    We do not have that in that world, sir. If you are trading 
a Euro dollar futures contract on the CME Group, you get your 
price confirmation but the market data had a millisecond lag, 
yes, you could go to another market and execute. It does not 
mean you are going to be right because it is not the same exact 
market.
    Senator Brown. You had said earlier that CME had said that 
this issue would be addressed by the end of last year. You say 
you have addressed it?
    Mr. Duffy. Our issue with market confirmation and market 
data for the participants is down to a millisecond. In most 
situations, it actually comes out at the exact same time.
    Senator Brown. Mr. McGonagle, if you would comment on this. 
The CFTC was not in the process of examining this issue is my 
understanding when it came to light last year. Do you have 
comments on the back-and-forth of Mr. Duffy and me or CFTC's 
role? Dr. Kirilenko, if you would weigh in too and your 
thoughts about this.
    Mr. McGonagle. Thank you, Senator. In evaluating the 
concept or at least this conversation surrounding latency, 
Commission consideration could focus on sort of the quality of 
the information access, how much information about particular 
trading in particular contracts are their latency issues on a 
contract by contract, the Commission could certainly consider 
that.
    The Commission is also considering, as part of the Concept 
Release, the idea, this concept and regulation about impartial 
access. All market participants should have the same ability to 
access the markets equally.
    Whether or where the latency might cause some disruption in 
that ability of market participants to get information, I think 
could be something that the Commission could consider.
    Mr. Duffy is talking about the ability to trade. That 
information about the trade is important information and we 
want to make sure that in evaluating these markets that the 
information is readily available to all market participants 
without disadvantage.
    Senator Brown. Dr. Kirilenko, your thoughts.
    Mr. Kirilenko. Thank you very much, Senator, for an 
excellent question.
    Your concerns and the public concerns about latency are 
fully justified. That is why I recommend that instead of, 
either the public deserves much greater transparency about what 
is going on inside his market. I think the latency should be 
reported in some form.
    There are various types of latencies so that the automated 
exchanges which, as we know, measure it with great precision 
could be held accountable and the public could understand what 
is actually going on.
    It may or may not be an issue but at least the public would 
know. We could also see whether different policy measures that 
are being suggested and implemented actually do have an impact 
as people think they do.
    An automated exchange is a highly, highly complex automated 
system. It has latencies because any automated complex system 
has latencies in it. Latency is not a number. It is not a 
millisecond. It is typically a distribution and not a bell-
shaped one. The public needs to understand that and also needs 
to understand what to look for and how to measure what is being 
going on.
    Senator Brown. Thank you.
    Thank you Madam Chair.
    Chairwoman Stabenow. Thank you very much.
    Senator Chambliss.
    Senator Chambliss. Thank you very much, Madam Chair, and 
let me just say off the top that with respect to your concern 
about the difference in the risk that participants in the 
market taken as well as Senator Cochran's question, there is a 
major difference between one of our farmers and ranchers who is 
driving from field to field and during the course of that 
checks the market and wants to make a trade and the a major 
integrated company who is going to be trading hundreds of 
millions of dollars on contracts.
    We thought we had made the right kind of changes in Dodd-
Frank but frankly we did not. I am going to be dropping a bill 
today that we have worked with industry, with CFTC as well as 
members of this Committee on--and I will be talking to the 
chairman about it later--that seeks to correct the end-user 
exemption that needs to be granted particularly to our farmers 
and ranchers who they deal in a different world than a major 
integrated company. So we will talk more about that later.
    Mr. McGonagle, CFTC officials have stated in the past that 
high frequency trading firms should be required to register so 
that you know who they are. Now, what information specifically 
could be gathered from a registration regime that is not 
available to the Commission today?
    Mr. McGonagle. Thank you, Senator. Currently market may be 
registered to the extent that they are an automated trading 
system or fall within some definition of what people have for 
high-frequency trader but they might otherwise be registered 
with the Commission in some other capacity.
    In evaluating a new registration regime, we want to take 
into consideration whether we have already captured the types 
of traders that we are interested in terms of obligations that 
they might have for information reporting, the level of 
responsibility back to the agency.
    One proposal or suggestion that we have in the Concept 
Release is whether we should classify floor traders, use the 
floor trader definition for high-frequency traders. That is 
something we are considering at the staff level with respect to 
a recommendation back to the Commission.
    But if there is a registrant, they will have enhanced 
reporting responsibilities to the agency. We will have a better 
idea about who these entities are and the question is whether 
we already have that information in a usable form and whether 
this additional registration requirements, the benefits of 
those requirements otherwise fit within a regulatory structure.
    Senator Chambliss. Mr. Duffy, you just heard that answer 
and you talked a little bit about the information that CME 
Group collects on firm's identities. Would registration in and 
of itself generate more information than what you receive on a 
trader today?
    Mr. Duffy. No, Senator, it would not. I mean, today we have 
information on every market participant, every order; and every 
person is identified with all of their activity in CME Group.
    We tag traders in two different tags, basically what is 
called Tag 50 for a regular trader, and then for an automatic 
trading system we have another tag number for it. We have all 
that information today that is accessible today to the CFTC.
    Senator Chambliss. Okay. Again, Mr. Duffy, in your 
testimony, you stay, and I quote, ``many of the recent 
complaints against high-frequency trading and equity markets 
simply do not apply to the U.S. futures markets''. Would you 
elaborate a little bit on the differences.
    Mr. Duffy. Thank you, Senator, I would be happy to.
    As I said in my testimony, when you enter an order into the 
CME system, no one knows you entered that order but yourself 
until it hits our match engine, and then the order, the 
transaction is complete.
    In some of the allegations on 60 Minutes and in the book 
about Flash Boys, if you recall, the allegation was there was 
an order sent to a particular entity. Everybody could see it 
and then they race to the 13 other exchanges that traded in 
front of it and then offered a price a penny higher.
    Well, that would be literally impossible in our world the 
way the market structure handles it because no one knows about 
that order but us. Also in a vertical silo which is what we 
operate in the futures market, people do not have the ability 
to go outside of our walls to go race customers to different 
venues to beat them to that trade.
    As I said, what is critically important, if, in fact, that 
is going on in the securities world, that should be punished to 
whatever the law would allow people to punish them for because 
that is completely unacceptable.
    But in our world, we do not see how that possibly can 
happen. Now, someone says, could front running happen in your 
business? It can happen in the way they described it in 60 
Minutes. People can always act nefariously on behalf of a 
client and do something that we obviously police for on that 
activity.
    Senator Chambliss. If that did happen, if you had a front 
runner, if you do not pick it up on the front end, are you 
going to pick it up eventually?
    Mr. Duffy. We will pick it up through patterns. We will 
pick it up through many different surveillance systems, 
Senator, that we have put in place over the last several years. 
We feel very comfortable that type of activity is not going on 
in our marketplace.
    Senator Chambliss. Thank you.
    Chairwoman Stabenow. Thank you very much.
    Senator Donnelly.
    Senator Donnelly. Thank you Madam Chair, and thanks to all 
the witnesses who are here today.
    Mr. Kirilenko, are there latencies that continue today that 
you see in the markets on a constant basis?
    Mr. Kirilenko. Thank you very much, Senator, for this 
question.
    Again, I think that you are fully justified in thinking of 
latency as an important indicator that really needs to be 
measured and be made available to the public.
    There is some reason preliminary work that indicates that 
latency is not a number that it is a distribution of numbers, 
and there is a significant degree of randomness in the way 
latency accumulates within the system.
    Therefore, when we think of time priority, we need to think 
of it, this time priority being not as exact but somewhat 
random depending on how a message hit the exchange, depending 
on how long it took for risk safeguards to process it, 
depending on where it hit the bus and so forth. It may be delay 
even more or less. Latencies do accumulate within the system.
    Senator Donnelly. Mr. Duffy, in your markets, do you keep 
an eye out for latencies?
    Mr. Duffy. We do, sir. As I said earlier, we are down two 
microseconds on certain issues but there is also a speed of 
light issue that there is not much anybody can control.
    If your server is sitting in Chicago and you want to make a 
trade from Los Angeles, there is a difference between Los 
Angeles and Chicago as there is from New York to Chicago and 
conversely both places.
    There is a potential speed of light issue that I do not 
think anybody could overcome unless they figure, I do not know 
how they could figure that out. I think the doctor is right. 
There are inherent latencies in all technologies.
    Senator Donnelly. If you see a latency issue occur, is that 
then made public that everybody knows it or how does that work? 
Do you work to just fix it and keep it in effect within the 
house or does that then become public that, hey, we found that 
there is this latency here; this is what we are trying to do?
    Mr. Duffy. I can tell you, Senator, that when we took our 
systems from trading in minutes to seconds to milliseconds to 
microseconds, I do not think we put out press releases or 
anything else along the way. We just continued to make the 
market more efficient.
    You know, to tell you a quick story, when you look even at 
the insurance business, there are commercials on television 
today, you can get a quote from your insurance company for 15 
minutes or less and then the next commercial a guy says you can 
get it in two minutes or less.
    Speed is something that the American public and the world 
is very used to and wants more of it. There are certain 
limitations to all speed and I do not think there is anything 
you can do about it. We have narrowed it down to the smallest 
of millisecond.
    Senator Donnelly. Do those latencies that are there, does 
that create an opportunity for any of the HFT firms to get a 
market advantage?
    Mr. Duffy. No, I do not believe it does because if they, 
first of all, you have to be right a market regardless. You do 
not have anywhere else to run where the price is different. 
Where HFT's could potentially benefit, as I said earlier, is in 
a fragmented marketplace where there are 13 different venues of 
trade for the same product that might have an arbitrage 
inherently built in them, well, that is where their speed could 
actually have an advantage.
    But when you have a product that is traded all under one 
roof, it is very difficult to have an advantage.
    Senator Donnelly. When we talk about the equities market 
where it happened and you mentioned, hey, there are 13 
different markets, they can see and then try to get ahead of 
it. When the orders are placed in your markets, people from 
other firms and such cannot see that is happening before hand?
    Mr. Duffy. First, to be clear, I did not say that. 60 
Minutes and Michael Lewis said that.
    Senator Donnelly. All right. Understood.
    Mr. Duffy. In our markets, what I had said is that when you 
enter an order nobody knows who put that order in but yourself 
until it hits our match engine.
    Senator Donnelly. Okay. Mr. Kirilenko, when you look at 
these markets, what is the biggest danger that you see still 
now existing in his trading?
    Mr. Kirilenko. I think these markets are incredibly 
complex, interconnected, automated systems. Perhaps the biggest 
danger lies in this interconnectedness where a trade executed 
in one part of the market could be transmitted across the 
entire universe very, very quickly by automated technologies, 
by algorithms that police for a small price discrepancies and 
the whole system becomes affected by that.
    I think the interconnectedness and inter-linkages between 
these markets I think is what is the biggest issue. I think 
individually exchanges and regulators looking at them are aware 
of some of the things that they are facing. But I think this 
inter-linkage is something that requires a lot more attention.
    Senator Donnelly. Okay. Madam Chair, thank you and thanks 
to all the witnesses.
    Chairwoman Stabenow. Thank you very much. I do believe we 
have Senator Casey coming, but at this point, I am going to 
proceed and if Senator Cochran has questions as well.
    Mr. McGonagle, could you talk from the standpoint of the 
CFTC and what is next at this point? Are you considering 
proposing a rule on automated trading practices and how do you 
think that the CFTC will proceed?
    Mr. McGonagle. Thank you, Chairwoman. The Commission 
currently has taken, we have taken the comments back at the 
staff level. The staff is evaluating those comments in order to 
come up with a recommendation.
    While the Concept Release is not a rule writing, it can be 
a precursor to a rule. Our expectation is that we will evaluate 
each of these measures that we have put forward and become back 
to the Commission with a recommendation.
    But we need to do a thoughtful and diligent review of these 
issues to see whether or where the Commission action is 
warranted. A rule could be recommended but we are not at that 
stage at this moment.
    Chairwoman Stabenow. Mr. Duffy, interesting when you were 
saying the public wants higher speeds. I do not know if that is 
really true or not.
    This whole thing is quite extraordinary in terms of speed, 
and I do not know from a public standpoint if people really are 
asking for more speed. I think they want confidence and they 
want markets that they feel are stable and that they can use 
appropriately.
    But my question both to you and to Mr. McGonagle relates to 
the ability of the CFTC to keep up. If we are going to see this 
moving faster and faster at a time when the CFTC does not have 
the technology that is comparable to what is happening in the 
private sector. We have given tremendous responsibilities to 
the CFTC without adding the additional staff necessary to help 
with that.
    If we are going to say that this should be a model where it 
is not about direct regulation but more about working with the 
industry in a self-regulating mode, there has to be some 
capacity for oversight here that is equal to what is happening 
in the marketplace.
    I'm wondering, Mr. McGonagle, just from your standpoint, 
what would the agency do from a technology standpoint, what 
would you be able to do if you had additional funds?
    Mr. McGonagle. Speaking specifically to the automated 
trading system environment, additional technology funds could, 
for example, be used. We need to supplement the staff that we 
have. We have very well-qualified staff who are conducting 
examinations and surveillance. But we would need to increase 
those staff levels so they can perform the analytics on the 
data that we receive.
    We would increase the data that we do receive from the 
exchanges. The exchanges have a wealth of information that is 
available to them on a buy exchange basis. We pull in trade 
order data on a T+1 the day after basis. But we would look for 
messaging data, more discreet, nuanced information about these 
particular trades that could inform us on our regulatory 
obligations as well as how we conduct enforcement.
    We would see multiple benefits just in increasing 
technology in this one particular area. I mean, the 
Commission's resource needs I think have been pretty well 
documented. We do face substantial staff shortages within DMO 
and within other divisions that I have worked at, Division of 
Enforcement.
    We do appreciate consideration of our resources but I defer 
more to the Commission in terms of how we could allocate 
resources, additional resources, if provided. But we certainly 
have significant opportunities that we could address if we had 
more people and we had more technology.
    Chairwoman Stabenow. Mr. Duffy, you and I have talked about 
this before, about user fees and so on. I am wondering, from 
your standpoint, would you support using funds gathered from 
enforcement cases to pay for agency expenses like technology 
and staff?
    Secondly, what if the agency funded itself with broader-
based fees, not only on transactions but looking at other 
things, without harming the market?
    Mr. Duffy. A couple of things if you do not mind. From an 
enforcement issue, today I believe all of that money has to go 
into the general Treasury of the United States and then gets 
allocated through their appropriations process.
    I think that is to keep away from the conflicts of interest 
of any particular entity feeling that participants are only 
being pressured or fined in order to fund an agency. But I do 
believe that there could be a small portion of enforcement 
findings to help fund an agency which would make sense.
    Now, what that percentage is would be up for the government 
to always decide. But if you looked at 10 to 20 percent, in 
that neighborhood, you could probably fund the CFTC in full if 
you were to use that portion of the enforcements to do so.
    I am not suggesting it is a good idea or bad idea but I 
think that should be at least looked at.
    Second of all, on what Mr. McGonagle said, we do have a 
wealth of information that we could share with the Commission, 
which we do share with the Commission.
    To give you an example, when the doctor referenced the 
Flash Crash, I testified before a Committee here in the Senate 
and we had every trade broken down in three hours and gave it 
to the CFTC in the same night.
    I testify two months later. The SEC still did not have 
their information because they do not have a consolidated audit 
trail. That is a big problem for that world.
    We have done a lot to help with the enforcement and 
protection of our marketplace. What is the most important thing 
for us is to have the credibility and to have the public 
confidence in the marketplace.
    To give you an example why I think that not speed is 
important but market efficiency is important, in the 
agricultural community alone when you look at the marketplace 
over the last year when the price of corn almost went in half, 
we were able to provide deep, liquid pools of liquidity for 
farmers and ranchers and others to use that as a hedge vehicle.
    To protect that because their input costs are so high, 
because of land, fees, and other things. That was a great 
benefit these futures markets provide. I did not want to leave 
without saying that.
    I think that we do have a lot of the things in place to 
help the agency. I cannot put their budget together for them. 
You know, I think it is important for the CFTC to put forth a 
budget like everybody else does to see where monies are going 
to be appropriated, and then come to you to decide if you can 
get Congress to agree to give some enforcement funding so they 
do not have to rely on taxpayers alone.
    Chairwoman Stabenow. You would agree we have dramatically 
increased their responsibilities?
    Mr. Duffy. Yes.
    Chairwoman Stabenow. We have not dramatically increased 
technology?
    Mr. Duffy. Madam Chairwoman, as you know, I am a very big 
proponent of the Commodity Futures Trading Commission. I do not 
believe the CME has a credible business if we do not have 
credible regulator. I want to make sure that they are the envy 
of the world as far as regulation goes.
    Chairwoman Stabenow. Thank you, Senator Cochran, did you 
want to ask a follow-up? I know we have Senator Casey here.
    Senator Cochran. No, Madam Chair, and I do not have any 
other questions. Thank you very much for your cooperation with 
our Committee.
    Chairwoman Stabenow. Thank you, Senator Casey, welcome.
    Senator Casey. Madam Chair, thank you very much. We 
appreciate your testimony, sir. I am late for your individual 
testimony but grateful for the time you give us with questions.
    I guess I wanted to start with Mr. McGonagle. I want to ask 
you in particular about the recommendations and suggestions you 
would make for us. I know you may have already walked through 
this.
    What do you think we should be most concerned about with 
regard to the oversight responsibility of this Committee?
    Mr. McGonagle. Senator, particularly as it relates to the 
automated trading system environment, I think that it would be 
helpful to keep attention on CFTC as we evaluate these issues 
and come forward with a recommendation.
    Our responsibility is to ensure that our markets have 
integrity, and the interaction with this Committee about how we 
are fulfilling that responsibility I think is important. How we 
come about with our recommendation on the Concept Release, 
should we articulate that further rules are required, further 
communication with this Committee on those points I think would 
be helpful.
    Senator Casey. With regard to rules that are prescriptive 
in nature, would those kinds of rules leave some of these 
entities or some of the practices out of regulation? What is 
your sense of that?
    Mr. McGonagle. The concern that we have heard at least in 
comments is that prescriptive regulations in this area can be 
quickly outstripped by changes in technology.
    Proposals that have come back to the Commission are that we 
should have more of a principle-based approach. I think the 
challenge that we have is sort of flexibility versus clarity. 
Principles give flexibility but they could be challenged or 
subject to questions surrounding clarity.
    We want to make sure that our market participants have a 
level playing field and that they understand the rules on that 
field. I think that is just a challenge always.
    We have some prescriptive rules in our system of 
regulations; and we have some principle space, particularly 
supervision rules. I think evaluating how those applied in our 
past history and going forward and looking at where in this 
Concept Release recommendations would be helpful, would help 
dictate whether we should go principles versus prescriptive.
    Senator Casey. I know one of the things that we have to 
focus on here are best practices but I wanted to ask you. Often 
we have in our oversight responsibility, discharging that 
responsibility, we have a lot of ideas about what an agency 
should be doing and what we hoped they would be doing.
    But we do sometimes engage in what folks at the state and 
local level would say unfunded mandates, meaning thou shall do 
the following and good luck getting it done without resources. 
You may have already covered this and I just was not able to be 
here.
    But in order for you to do the job we would hope you could 
do in this area, what, if any, resource means do you have?
    Mr. McGonagle. Senator, if I can talk a little bit then 
about resources just to give some perspective where the 
Division of Market Oversight is, in 2011 the Division of Market 
Oversight had a staff of about a 126 staff people, responsible 
for registration obligations, enforcement of the rules, our 
examinations staff as well as surveillance.
    There were 16 designated contract markets within CFTC's 
jurisdiction that DMO had control over. Currently, we have 40 
registrants, 40 registered entities, a swap execution facility, 
designated contract market, swap data repositories, and foreign 
boards of trade that have some registration status.
    Another 30 applicants are seeking registration status. DMO 
could be responsible for upwards of 70 different registered 
entities comprising a much broader jurisdictional swap than we 
saw in 2011. My current staff load is about a 109.
    In evaluating what our responsibilities are like any 
agency, any business, we would look at our priorities, where do 
we get the most benefit, where can we have the most leverage.
    In looking at the Concept Release, I think of where there 
are areas if we were to make a recommendation that we believe 
would be the most impactful because again our goal here is 
market integrity and we want to make sure that we are doing our 
job and that the markets are doing their job.
    Senator Casey. I know I am out of time but maybe I will 
submit some questions for Mr. Duffy, for both witnesses because 
one question I have was about how we get the balance right 
between focusing on risky activities but also making sure that 
we are not over regulating so that hedger's, bona fide hedgers 
and end users are not adversely impacted. But I am out of time 
but I will submit that.
    Chairwoman Stabenow. Thank you. Important questions.
    Senator Donnelly.
    Senator Donnelly. Thank you, Madam Chair.
    Dr. Kirilenko and this is a little bit off of the direct 
topic--do you see the front running opportunity that has been 
talked about a lot recently in the equities markets, do you see 
that continuing in the equities market? What is the best way in 
your mind to correct that?
    Mr. Kirilenko. I think the equities market is really quite 
different in terms of fragmentation.
    Senator Donnelly. I understand I was just wondering if----
    Mr. Kirilenko. Whether or not it is continuing is an 
empirical question, Senator. I think it is a matter for the 
regulators to really understand how their markets are working 
to really get that consolidated audit trail to really get their 
staff to understand how it works and find the evidence of that.
    I have done little empirical work on securities markets. I 
am familiar with them but I would like my remarks to be based 
on experience and facts.
    Senator Casey. Sure. Well then, Mr. Duffy or Mr. McGonagle, 
both of you are extraordinarily experienced. Are there things 
that you look at and you say, if in a perfect world if they 
could change this or this it might make for more secure 
equities market as well.
    Mr. Duffy. You know, I will give you my opinion only 
because I cannot help myself.
    Senator Casey. That is why I asked you.
    [Laughter.]
    Mr. Duffy. I run a futures exchange.
    Senator Casey. Right.
    Mr. Duffy. I am 35 years running in the futures business. I 
am not a securities expert. But what I do understand is price 
discovery and how price discovery happens, what is the best way 
to get price discovery.
    When you have a fragmented marketplace and you have almost 
half of the U.S. equity market dark in nature, it is really 
difficult to find what is the actual value of it.
    When you have multiple exchanges trading the exact same 
product and you have Reg NMS requiring people to go to the best 
bidder offer, it is really difficult to say who has the best 
bidder offer at any given time, sir, because the markets are 
moving so quickly.
    One exchange could be showing IBM at a certain price plus a 
penny, another exchange that is the best bid and offer, a half 
a second later the other exchange is the best bid and offer, 
you have not done working your order at the first exchange yet.
    I think the system itself needs to be looked at, 
streamlined, and more efficient. I do not think it is HFTs that 
are the problem. I think market structure is the problem, sir.
    Senator Casey. Have you detected, Mr. Duffy, in your 
markets, you have indicated, look, it cannot happen or--I do 
not want to paraphrase for you. But you do everything you can 
to make sure it does not happen in your markets.
    Have you detected, do you see at times in your systems that 
some organizations have tried to figure out how to do that? I 
mean can you see that?
    Mr. Duffy. The only way it can happen, sir, and just to 
make sure we are perfectly clear on this. The only way it could 
happen is if someone is acting on your behalf. You have given 
them the ability to act on your behalf to enter an order.
    They decide to enter an order for themselves first, yours 
second. That is the way it can happen in our world, and that is 
against the law, and we rigorously police against that type of 
activity.
    But on an electronic system if you are to enter your order, 
Senator Donnelly enters an order into the CME system, you are 
the only person that knows about that order so it is impossible 
to front-run something that nobody else knows about.
    Senator Casey. Okay. Mr. McGonagle, in today's markets 
where millions of dollars can change hands in milliseconds, we 
have a system where if there are violations, the maximum 
penalty is $1.4 million? Do you think that is enough to deter 
manipulation?
    Mr. McGonagle. Thank you, Senator. The enforcement penalty 
standard looks at per violation and I think an evaluation of 
how many violations have occurred is part of the rubric that 
the Division of Enforcement has.
    From our perspective, we enforce authority that we have, 
and I would have to defer to others about whether more 
penalties are appropriate for deterrence or there are other 
mechanisms available. But looking at a penalty per violation 
increased recently to 1 million per violation, that is our 
current mandate.
    Senator Casey. Okay. Well, I want to thank the witnesses 
for being here.
    Thank you, Madam Chair.
    Chairwoman Stabenow. Thank you very much.
    As we close, I do have one other question as a follow-up to 
what Senator Donnelly was talking about, and this regards 
disruptive trading practices.
    Mr. McGonagle, if you could tell us as we are looking at 
the Commodities Exchange Act, as we are looking at CFTC 
reauthorization, we gave the CFTC more authority under Dodd-
Frank, to go after practices like spoofing and banging the 
close and in some cases changed the criminal standard from 
intent to reckless disregard.
    Do you think we need to revisit that? Do you think the CFTC 
has sufficient authority to go after market participants who 
are knowingly or recklessly disrupting the market?
    Mr. McGonagle. Thank you, Chairwoman. The CFTC recent 
increase in authorities through substantial manipulation 
authority as well as the new disruptive trading practices, 
those investigations and associated litigation are now starting 
to come on line.
    We see the mandate that the Division of Enforcement has. We 
take that very seriously and we think the markets do as well. 
We are prepared to work within the jurisdiction that we have. 
Further strengthening the manipulations standard would have 
costs on market participants. I think for clarity that they 
would have to be evaluated, and I am not in a position to sort 
of offer another proposed recommendation. I think the authority 
that we have is very useful to the agency and we are in the 
process of effectively utilizing it.
    Chairwoman Stabenow. Thank you.
    Mr. Duffy, did you want to respond to that?
    Mr. Duffy. No. I think that was well said.
    Chairwoman Stabenow. Okay. Well, thank you very much we are 
about to have a vote on the Senate floor. Let me thank each of 
you for coming. This is an incredibly important topic.
    As we consider all the benefits of technology, we have got 
to make sure that market oversight is keeping up. That is our 
job. We need to work together to ensure the markets are safe 
for trading and that the regulators have the resources 
necessary to keep them safe.
    Any additional questions for the record should be submitted 
to the Committee clerk five business days from today. That is 
five p.m. on Wednesday, May 21, and the meeting is adjourned. 
Thank you.
    [Whereupon, at 11:11 a.m., the Committee was adjourned.]
      
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                         QUESTIONS AND ANSWERS

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