COMMODITY

EXCHANGE ACT

Issues Related to the

Regulation of

Electronic Trading

Systems

United States General Accounting Office

GAO Report to Congressional Requesters

May 2000

GAO/GGD-00-99

United States General Accounting Office

Washington, D.C. 20548

General Government Division

Page 1 GAO/GGD-00-99 Regulation of Electronic Trading Systems

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May 5, 2000

The Honorable Richard G. Lugar

Chairman

Committee on Agriculture, Nutrition

and Forestry

United States Senate

The Honorable Thomas W. Ewing

Chairman

Subcommittee on Risk Management,

Research, and Specialty Crops

Committee on Agriculture

House of Representatives

As part of your deliberations on the Commodity Futures Trading

Commission’s (CFTC) reauthorization, you expressed an interest in

exploring concerns related to the application of technology to derivatives1

trading. The application of technology has resulted in the development and

use of electronic systems that are changing the way derivatives are traded.

While these systems have benefited derivatives markets and their

participants, they have also raised regulatory concerns. In various forums

during 1999 and 2000, including congressional hearings, concerns were

raised about the appropriate regulation of electronic trading systems for

exchange-traded futures2

and over-the-counter (OTC) derivatives.3To

assist you in your deliberations related to these concerns, we agreed to

answer the following questions:

• How is technology being used in the exchange-traded futures market,

and what concerns does this use raise under the Commodity Exchange

Act (CEA)?

1

Derivatives are contracts that have a market value determined, in part, by the value of an underlying

asset, reference rate, or index (called the underlying). Underlyings include stocks, bonds, agricultural

and physical commodities, interest rates, foreign currency rates, and stock indexes.

2

Exchange-traded futures are derivatives contracts that are transacted on organized exchanges and

that obligate the holder to buy or sell a specific amount or value of an underlying asset, reference rate,

or index at a specified price on a specified date. These contracts may be satisfied by (1) delivery or

cash settlement if held to expiration or (2) offset prior to expiration.

3

OTC derivatives traditionally have had negotiable terms, including price, maturity, and quantity, and

have been transacted outside of an organized exchange.
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• How is technology being used in the OTC derivatives market, and what

concerns does this use raise under the CEA?

• What alternatives have been suggested for addressing the concerns

raised under the CEA by the use of technology in the exchange-traded

futures and OTC derivatives markets?

The application of technology is changing the way that exchange-traded

futures are traded. Automated order routing systems (AORS) have been

used for over 10 years to route orders from futures commission merchants

(FCM)4 to and within futures exchanges. However, FCMs are extending the

use of AORS to customers, enabling them to use their computers instead of

telephones to place orders. AORS can now transmit orders from the

customer’s computer to the FCM’s computer, and then to the exchange for

execution. To the extent that AORS provide for enhanced trade monitoring

and control, more precise trading records, and more direct market access,

their use can benefit the exchange-traded futures market and its

participants and can reduce some regulatory concerns. Nonetheless,

according to some futures market participants, the use of AORS without

adequate controls can also raise regulatory concerns about, among other

things, the adequacy of system capacity and security as well as

opportunities to engage in unauthorized trading. The National Futures

Association (NFA),5

a self-regulatory organization (SRO),6along with the

Futures Industry Institute (FII),7 is developing best practices for order

routing systems that will, according to NFA officials, help address these

concerns.

Introduced in the United States in the early 1990s, electronic tradematching systems are being used in place of or in addition to open

outcry—a method of public auction that occurs on an exchange floor—to

execute orders. Similar to AORS, electronic trade-matching systems can

offer many benefits and reduce some regulatory concerns. Futures market

participants have also said that the use of these systems without adequate

4

An FCM is an individual, corporation, association, partnership, or trust that solicits or accepts orders

to buy or sell futures contracts and accepts payment from those whose orders are accepted.

5

NFA is responsible, under CFTC oversight, for qualifying commodity futures professionals and for

regulating the sales practices, business conduct, and financial condition of firms that are not members

of exchanges.

6

SROs play an extensive role in the regulation of the U.S. securities and futures industries. They

include all of the U.S. securities and futures exchanges, the National Association of Securities Dealers,

NFA, and the Municipal Securities Rulemaking Board. In addition, state agencies also oversee banking,

securities, and insurance activities.

7

FII is a non-profit educational foundation established by the board of directors of the Futures

Industry Association, the national trade association of the futures industry.

Results in Brief
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controls can raise regulatory concerns. CFTC officials told us that they

review electronic trade matching systems for compliance with

international standards as part of their exchange-designation process.

These standards generally address futures market participants’ concerns.

Operating in the United States since at least 1994, electronic trading

systems for OTC derivatives more directly link buyers and sellers that

previously interacted through telephones and faxes. To the extent that

these systems enhance trader monitoring and control and interface with

risk management software, they can reduce both firm-specific and

systemic risk.8

Moreover, to the extent that these systems link multiple

participants and transmit contract execution details electronically, they

can improve market transparency9 and reduce the time and cost of trade

execution and reporting. Nonetheless, without adequate controls, these

systems can raise concerns about inadequate system security and

unauthorized customer trading. In addition, uncertainty exists over

whether the use of electronic trading systems for OTC derivatives may

cause transactions that are otherwise excluded or exempted from the CEA

to fall under its provisions. According to CFTC and market participants,

this uncertainty could call into question the legal enforceability of

electronically traded OTC derivatives and inhibit the development and use

of electronic trading systems. For example, the potential for an electronic

trading system for OTC derivatives to be classified as a board of trade or a

multilateral transaction execution facility (MTEF)10 could prevent OTC

derivatives traded through the system from qualifying for an exclusion or

exemption from the CEA.

General agreement exists among regulators and market participants that

the current approach to regulation needs to be revised to better

accommodate electronic trading systems for exchange-traded futures and

OTC derivatives. Market participants have suggested three approaches for

accomplishing this objective: drafting a separate section of the CEA to deal

8 Systemic risk is the risk that a disruption—at a firm, in a market, or from another source—will cause

difficulties at other firms, in other markets, or in the financial system as a whole.

9

Market transparency is the availability of information about a market, such as bid, offer, and

execution prices and amounts.

10 Although CFTC has not defined MTEF by rule, CFTC has defined an MTEF in the preamble to the

final rule on the Exemption of Certain Swap Agreements as a physical or electronic facility in which all

market makers and other participants have the ability to execute transactions and bind both parties by

accepting offers that are made by one member and open to all members of the facility. In this release,

CFTC also said that a computer-based system for swap agreements is beyond the scope of the rules

regarding the exemption of certain swaps but may be the proper subject of CFTC’s authority at a later

time. Exemption for Certain Swap Agreements, 58 Fed. Reg. 5587, 5591 (1993) (codified at 17 CFR Part

35).
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with electronic trading, developing core principles to which all electronic

trading systems must adhere, and developing a flexible regulatory

structure under which electronic systems are regulated based on the

extent to which they raise specific public policy concerns under the CEA.

In addition, a November 1999 report11 of the President’s Working Group on

Financial Markets (Working Group)12 included several recommendations

designed, in part, to enhance legal certainty concerning the use of

electronic trading systems for OTC derivatives that do not involve

nonfinancial commodities with finite supplies. The Working Group

acknowledged that its recommendations, if implemented, would not only

blur distinctions between exchange-traded futures and OTC derivatives

but also create differences in the level of regulation between OTC

derivatives that are electronically traded and cleared and exchange-traded

products with similar characteristics. Recognizing that some exchangetraded futures would have characteristics similar to the excluded OTC

derivatives, the Working Group has supported CFTC efforts to provide

appropriate regulatory relief for the exchange-traded futures market.

CFTC has proposed actions and taken others that, in aggregate, could

provide significant regulatory relief to this market. In addition, House and

Senate committees are considering actions that would address issues

related to electronic trading systems in the OTC derivatives and/or

exchange-traded futures markets.

Continued progress in addressing the regulatory concerns raised by

electronic systems could be critical to the ability of the U.S. exchangetraded futures and OTC derivatives markets to remain innovative and

globally competitive. Such progress requires that the federal financial

market regulators remain aware of how rapidly changing technology is

affecting the derivatives markets. In particular, regulators need to know

whether existing regulations are impeding the development of electronic

trading systems in the United States, and whether additional regulations or

different regulatory approaches are needed to protect the U.S. markets and

their users. Recognizing the difficulty of ensuring that regulations

appropriately address market risks in stable periods, and the additional

challenges that are likely to be presented by ongoing and rapid advances in

technology, we are recommending that the Working Group monitor and

report to Congress, as appropriate, on regulatory concerns related to the

11 See Over-the-Counter Derivatives Markets and the Commodity Exchange Act, the President’s

Working Group on Financial Markets (November 1999).

12 The Working Group was created following the October 1987 stock market crash to address issues

concerning the competitiveness, integrity, and efficiency of the financial markets. The Secretary of the

Treasury chairs the Working Group, and the other members are the chairmen of CFTC, the Federal

Reserve System, and the Securities and Exchange Commission.
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application of technology in the derivatives markets. We are also making a

separate but similar recommendation to CFTC. The federal financial

regulators and derivatives industry officials that reviewed a draft of this

report generally agreed with our conclusions and recommendations.

Since the mid-1980s, the exchange-traded futures and OTC derivatives

markets have experienced substantial growth. Exchange-traded futures

and OTC derivatives have similar characteristics and economic functions

but traditionally have differed in some ways. Futures are regulated by

CFTC under the CEA, which provides for specific exclusions and

exemptions from its provisions. In comparison, OTC derivatives—

including options13 and swaps14—generally are not subject to direct federal

regulation. General agreement exists that any regulation of the derivatives

markets should serve to protect market integrity, financial integrity, and

customers.

The U.S. exchange-traded futures market has experienced significant

growth over the last decade. Between December 1989 and September 1998,

the annual trading volume on U.S. futures exchanges increased

approximately 93 percent, from 323 to 625 million contracts.

Notwithstanding this decade of growth, from September 1998 to

September 1999, the annual trading volume decreased by approximately 2

percent, from 625 to 614 million contracts.

Worldwide, the notional amount outstanding of exchange-traded futures

and options has also grown, but not at the same pace as has the OTC

derivatives market. The June 1999 total estimated notional amount15

outstanding of exchange-traded financial futures and options worldwide

was $15.1 trillion, an increase of approximately 6 percent from June 1998

and an increase of approximately 583 percent from December 1989. In

comparison, the June 1999 estimated total notional amount of the OTC

derivatives market worldwide was $81.5 trillion, an increase of

13 Option contracts (American style) give the purchaser the right, but not the obligation, to buy (call

option) or sell (put option) a specified quantity of a commodity or financial asset at a specified price

(the exercise or strike price) on or before a specified future date. Options can be transacted on an

organized exchange or OTC.

14 Swaps traditionally are privately negotiated contracts that typically require counterparties to make

periodic payments to each other for a specified period. The calculation of these payments is based on

an agreed-upon notional amount that is not typically exchanged.

15 The notional amount is the amount upon which payments between parties to certain types of

derivatives contracts are based. When this amount is not exchanged, it is not a measure of the amount

of risk in a transaction.

Background

The Derivatives Markets

Have Experienced

Significant Growth
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approximately 17 percent from June 1998 and an increase of

approximately 4,075 percent from December 1989.16

Exchange-traded futures and OTC derivatives have similar characteristics

and can serve similar economic functions but traditionally have differed in

some ways. The market values of both types of contracts are determined,

in part, by the value of an underlying asset, reference rate, or index. The

economic uses of both contracts include providing users a means of

hedging (i.e., shifting the risk of price changes to those more willing or

able to assume this risk) and speculating (i.e., investing with the intent of

profiting from price changes). In some cases, both contract types can also

serve a price discovery function.17 However, this function is more typically

associated with exchange-traded futures, and according to the Working

Group, prices established in OTC derivatives transactions do not serve a

significant price discovery function.

Exchange-traded futures and OTC derivatives differ in the ways they are

transacted and cleared. As discussed below, all futures must be traded on

a CFTC-designated exchange, unless otherwise excluded or exempted

from the CEA. As such, futures have traditionally been traded in central

locations on the floors of organized exchanges, with clearinghouses

assuming responsibility for daily clearance18 and settlement19 of all trades.

Clearinghouses manage credit risk,20 in part, by substituting themselves as

the buyer to every seller and the seller to every buyer. They also guarantee

daily settlement, thereby eliminating the need for the original

counterparties to monitor each other’s creditworthiness. In contrast, OTC

derivatives contracts traditionally are privately negotiated between

counterparties, also called principals. These negotiations have typically

occurred outside of centralized trading facilities. Because OTC derivatives

are entered into on a principal-to-principal basis and are not typically

settled through a clearinghouse, each counterparty is exposed to credit

risk, which is addressed through the negotiation of contract terms.

16 These data were reported by the Bank for International Settlements, which was established in 1930

to, in part, provide a forum for cooperative efforts by the central banks of major industrial countries.

17 Price discovery is the process of determining a price level based on supply and demand factors.

18 Clearance is the process of capturing trade data, comparing buyer and seller versions of the data, and

guaranteeing that the trade will settle once the data are matched.

19 Settlement is the process of determining the daily closing price for each contract and marking all

open positions to that price—that is, collecting losses from clearing members carrying losing positions

and making payments to clearing members carrying gaining positions.

20 Credit risk is the risk of loss resulting from a counterparty’s failure to meet its financial obligation.

Similarities and Differences

Exist Between ExchangeTraded Futures and OTC

Derivatives
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Finally, exchange-traded and OTC derivatives typically differ in their

degree of standardization. Exchange-traded futures generally have

standardized terms, except for price,21 which the market determines. In

contrast, the terms of OTC derivatives contracts—such as price, maturity,

and quantity—generally are negotiated to meet the specific economic

needs of the counterparties. However, according to the Working Group, as

OTC markets have developed, the extent to which market participants

engage in large numbers of transactions with similar terms has increased.

For example, while the opportunity to negotiate the terms of an OTC

contract may exist, this opportunity may not be used to a great extent for

certain types of instruments, such as “plain vanilla,” or relatively

standardized and uncomplicated interest rate swaps.

Congress created CFTC as an independent agency by amending the CEA in

1974 and gave CFTC exclusive jurisdiction over all futures and commodity

options, except options on securities and options on foreign currencies

traded on a national securities exchange.22 The CEA establishes a

regulatory structure that was historically designed to ensure that all

futures on regulated commodities are traded on self-regulated exchanges

and through regulated intermediaries. The act does not define the term

futures contract but broadly defines commodity to include virtually

anything. Although the CEA generally requires futures to be traded on an

exchange, it excludes certain transactions from CFTC regulation under the

Treasury Amendment.23 As amended in 1992, the CEA also provides CFTC

with the authority to exempt certain transactions from all but one of its

provisions.

21 For example, the futures markets have developed products, such as flexible options, in which terms

other than price can be negotiated.

22 CEA section 2(a)(1)(B), which codified the Shad-Johnson Jurisdictional Accord, excludes these

options from CFTC’s jurisdiction. The accord, reached between the Chairmen of the Securities and

Exchange Commission and CFTC in 1981, resolved a dispute concerning jurisdiction over exchangetraded securities-based derivatives. Under the accord, the Securities and Exchange Commission was

given jurisdiction over options on securities and options on foreign currencies traded on a national

securities exchange. We reviewed issues related to the Shad-Johnson Jurisdictional Accord in a

separate report. See CFTC and SEC: Issues Related to the Shad-Johnson Jurisdictional Accord

(GAO/GGD-00-89, Apr. 6, 2000).

23 The CEA also provides an exclusion for forward contracts to facilitate the movement of commodities

through the merchandizing chain. Forward contracts are privately negotiated, cash transactions in

which commercial buyers and sellers agree upon the delivery of a specified quantity and quality of

goods at a specified future date. A price may be agreed upon in advance or determined at the time of

delivery. CFTC has distinguished forwards from futures on the basis of whether the contract serves

primarily as a vehicle for deferred delivery or for risk shifting. Delivery is typically expected under a

forward contract.

Futures Are Generally

Regulated Under the CEA
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In 1974, Congress adopted the Treasury Amendment to exclude from

CFTC regulation certain transactions in, among other things, foreign

currency and government securities, unless conducted on a board of trade.

As part of the legislative history accompanying the 1974 amendments to

the CEA, Congress noted that the interbank market, also called the

interdealer market,24 was more properly supervised by bank regulators

and, thus, regulation by CFTC under the CEA was unnecessary. That is,

unlike some participants in the exchange-traded futures markets who

might need the protection provided by the CEA, foreign exchange market

participants were sophisticated and informed institutions not requiring

such protection.

To address the legal risk faced by many OTC derivatives, Congress gave

CFTC broad authority under the Futures Trading Practices Act of 199225 to

exempt any contract from all but one CEA provision.26 Congress required

that the exemption must be consistent with the public interest, and the

contract must be entered into solely between appropriate persons, as

defined in the act.27 Under its exemptive authority, CFTC can change the

conditions of an exemption or eliminate the exemption. In providing CFTC

exemptive authority, Congress responded to industry concerns that

because of their similarities to exchange-traded futures, swaps and other

OTC derivatives faced the possibility of falling within the judicially crafted

definition of a futures contract. This possibility posed a legal risk for many

OTC derivatives because of the CEA requirement that futures be traded on

an exchange to be legal and, thus, enforceable.28

24 The interbank market is an informal network of banks and dealers that serves the needs of

international business to hedge risk stemming from foreign exchange rate movements. It includes not

only banks but also other financial institutions and industrial corporations.

25 Pub. L. No. 102-546.

26 The Futures Trading Practices Act of 1992 did not authorize CFTC to exempt swaps and other OTC

derivatives from CEA section 2(a)(1)(B)—the Shad-Johnson Jurisdictional Accord.

27 Appropriate persons, as defined in the Futures Trading Practices Act (7 USC § 6(c)(3)), include

banks, savings associations, certain employee benefit plans, insurance companies, investment

companies, commodity pools, broker-dealers, FCMs, and government entities. A corporation or

partnership may be an appropriate person if it has a net worth exceeding $1 million or total assets

exceeding $5 million. CFTC may determine that the inclusion of other persons is appropriate based on

financial or other qualifications or on the applicability of appropriate regulatory protections.

28 In 1989, to reduce the legal risk facing swaps, CFTC issued a swaps policy statement that clarified the

conditions under which it would not regulate certain swaps as futures. In part, CFTC predicated its

policy statement on the rationale that swaps lacked certain elements that facilitated futures trading on

exchanges, such as standardized terms and a clearinghouse.

The Treasury Amendment

CFTC Exemptive Authority
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In January 1993, CFTC exempted a broad group of swaps from virtually all

CEA provisions, including the exchange-trading requirement.29 CFTC

retained the CEA’s antimanipulation and antifraud provisions, but these

are applicable only to the extent that swaps are determined to be futures.

In granting the swaps exemption, CFTC was not required to, nor did it,

determine that the OTC derivatives covered by its exemptions were

futures.

CFTC established four conditions that swaps are required to meet to

qualify for an exemption. First, they must be entered into solely by eligible

swap participants.30 Second, they may not be part of a fungible class of

agreements that are standardized as to their material economic terms.

Third, the creditworthiness of the parties to the swap must be a material

consideration in entering into and determining the terms of a swap

agreement. Under this third condition, exempted swaps could not be

cleared through clearinghouses similar to those used to clear exchangetraded futures. However, CFTC noted in issuing the swaps exemption that

it would consider the terms and conditions of an exemption for a swaps

clearinghouse in the context of a specific proposal.31 Fourth, the swap may

not be entered into and traded on or through an MTEF. According to

CFTC, these four conditions were intended to reflect the way that swaps

transactions occurred when the exemption was granted and to describe

the conditions under which such transactions would not raise significant

regulatory concerns under the CEA.

29 Swap Exemption, 17 C.F.R. 35.2.

30 Eligible swap participants include banks, securities firms, FCMs, insurance companies, commercial

firms with a net worth exceeding $1 million, and individuals with total assets exceeding $10 million. 17

C.F.R. § 35.1(b)(2) (1999).

31 In March 1999, CFTC approved a petition by the London Clearing House to exempt certain swaps

submitted for clearing through its clearinghouse, called SwapClear, from most CEA provisions and

CFTC regulations.
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In contrast to exchange-traded futures, OTC derivatives generally are not

subject to direct regulation by a federal financial market regulator.32 They

may be indirectly regulated, but only to the extent that their users or

dealers33 are regulated. Most U.S. OTC derivatives dealers are banks or

affiliates of broker-dealers34 or FCMs. U.S. banks are overseen by federal

bank regulators and subject to supervision and regulation that includes

minimum capital, reporting, and examination requirements. Affiliates of

broker-dealers and FCMs are generally unregulated, although SEC and

CFTC have limited authority to obtain information about the activities of

such affiliates. In addition, these affiliates may be subject to an industry

SRO. Recognizing the limits of these approaches to oversight, SEC has

instituted an alternative regulatory scheme for OTC derivatives dealers

that conduct limited securities activities.35 However, participation in this

scheme is voluntary and has been very limited. According to the Working

Group, a small number of OTC derivatives dealers are not affiliated with

entities subject to direct or indirect banking, securities, or futures

regulation. Such dealers include insurance, finance, and energy companies.

OTC derivatives have generally been viewed by the federal financial

market regulators as presenting limited regulatory concerns. For example,

OTC financial derivatives have been viewed as presenting limited market

integrity concerns because they are considered to be less susceptible to

price manipulation and are not viewed as serving a significant price

discovery function. They have also been considered less susceptible to

price manipulation because the vast majority are settled in cash, based on

a rate or price determined by a separate, highly liquid market with a very

large or virtually unlimited deliverable supply. Finally, they have been

generally viewed as presenting limited customer protection concerns

because participation is limited to eligible participants acting for their own

accounts.

32Although OTC derivatives generally are not subject to direct regulation by a federal financial market

regulator, CFTC has authority to regulate certain commodity options that are traded off-exchange, and

SEC has authority to regulate OTC options on securities.

33 Dealers stand ready to act as buyers, sellers, or counterparties for end-users and other dealers.

34 Broker-dealers are agents that handle public orders to buy and sell securities. They also act as

principals that buy and sell securities for their own accounts.

35 See various sections of 17 C.F.R. part 240.

OTC Derivatives Generally

Are Not Subject to Direct

Federal Regulation
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General agreement exists that the public policy goals of federal financial

market regulation are to protect market integrity, financial integrity, and

customers. Protecting market integrity requires that controls be in place to

prevent price manipulation and to provide for accurate price discovery.

The prevention of price manipulation and the provision of accurate price

discovery are two primary goals of the CEA. Protecting financial integrity

requires that controls be in place to address both credit and systemic risks.

CFTC regulations focus on, among other things, ensuring the financial

integrity of futures exchanges, clearinghouses, and FCMs, in part, to

protect the financial system from systemic risk. Protecting customers

requires controls to ensure that customers are treated appropriately by

intermediaries and that their orders are fairly executed. The need for

customer protection is implicit throughout the CEA.

To address our three objectives, we interviewed officials of CFTC; the

Securities and Exchange Commission (SEC); the Office of the Comptroller

of the Currency (OCC); and the Federal Reserve Board; two futures

exchanges that are SROs (the Chicago Board of Trade (CBT) and the

Chicago Mercantile Exchange (CME)); two additional futures exchanges

(the Cantor Financial Futures Exchange (CFFE) and FutureCom); a third

SRO (NFA); four electronic trading systems (Altra Energy Technologies;

Derivatives Net, Inc.; E-Foreign Exchange.com; and Interactive Brokers);

and three industry associations (the Foreign Exchange Committee,

Futures Industry Association (FIA), and International Swaps and

Derivatives Association). In addition, we reviewed the November 1999

Working Group report, Federal Register notices, comment letters on CFTC

concept releases and rule proposals, transcripts of congressional hearings

and CFTC roundtable discussions, as well as journal articles and studies

by industry experts. We also attended Senate and House hearings, a CFTC

roundtable discussion, two futures industry conferences, and

congressional briefings by market participants in which electronic trading

systems for derivatives were discussed.

In addition, to learn how technology is being used in the exchange-traded

futures and OTC derivatives markets, we reviewed documentation of the

electronic trade-matching systems of four futures exchanges (the New

York Mercantile Exchange’s (NYMEX) Access, CFFE, CME’s Globex, and

CBT’s Project A) and observed demonstrations of the electronic trading

systems operated by three companies (Derivatives Net, Inc.; E-Pit; and

Interactive Brokers). We also interviewed two users of the Interactive

Brokers electronic trading system.

Regulation Serves to

Protect Market Integrity,

Financial Integrity, and

Market Participants

Scope and

Methodology
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We requested comments on a draft of this report from the heads, or their

designees, of CFTC, SEC, the Federal Reserve Board, the Department of

the Treasury, and OCC. We also requested comments from CBT, CME, FIA,

the International Swaps and Derivatives Association, and NFA. In

discussions held in April 2000, the Director of the Office of Legislative and

Intergovernmental Affairs, CFTC; the Chief Counsel of the Division of

Market Regulation, SEC; an Associate Director of the Division of Research

and Statistics, Federal Reserve Board; the Director of the Office of Federal

Finance Policy Analysis, Department of the Treasury; and the Deputy

Comptroller, Risk Evaluation, Bank Supervision Policy, OCC, provided us

with oral comments. Similarly, in discussions held in April 2000, officials of

CBT, FIA, and NFA provided us with oral comments. We did not receive

comments from CME and the International Swaps and Derivatives

Association. The technical comments that we received were incorporated

in the report as appropriate. The substantive comments that we received

are discussed near the end of this report. We did our work in Chicago, IL;

New York, NY; and Washington, D.C., between October 1999 and April

2000 in accordance with generally accepted government auditing

standards.

The application of technology to the exchange-traded futures market has

led to the development of electronic systems that automate some manual

processes. We have categorized these systems as AORS and electronic

trade-matching systems.36 The use of both types of systems can further

regulatory objectives associated with the futures market as well as raise

some regulatory concerns.

Although AORS have been used for over 10 years to route orders from

FCMs to and within futures exchanges, FCMs have extended the use of

AORS to customers, enabling them to use their computers instead of

telephones to place orders. Although a very limited number of such AORS

are in use, the number is expected to increase significantly in the near

future. When linked to customers, AORS can replace predominantly

manual processes for communicating a customer order to an FCM. Once a

customer order is received by an FCM’s computer, it can then be directed

to the exchange for execution. With proper controls, AORS used to

transmit customer orders can further regulatory objectives by enhancing

customer protection, market integrity, and financial integrity, as well as

36 Although other forms of technology are being used on futures exchanges, such as handheld trading

devices that can replace written floor order tickets and sophisticated computer programs that serve as

surveillance tools to deter and detect trade practice abuses, we have focused on AORS and electronic

trade-matching systems because they have had and are expected to continue having a more significant

role in changing the way futures are traded.

Technology Can

Automate Futures

Trading and Further

Some Regulatory

Objectives

Use of AORS Can Further

Regulatory Objectives
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provide other benefits to futures market participants. However, without

proper controls, such AORS can raise customer protection and other

regulatory concerns related to inadequate system capacity and security

and increased opportunities for unauthorized trading. NFA and FII are

developing best practices for order routing systems that will, according to

NFA officials, address concerns related to AORS use.

Futures market customers have traditionally contacted an FCM by

telephone to place an order. The FCM would then time-stamp the order,

prepare an order ticket, and communicate the order to a firm’s desk on the

exchange floor, either electronically or by telephone. Once the order was

received on the exchange floor, a floor order ticket would be prepared and

either hand delivered or communicated through the use of hand signals to

a floor broker37 who would then execute the trade. Larger customers

typically would communicate their orders directly to a firm’s desk on the

exchange floor. CFTC regulations require that floor order tickets contain a

record of the time an order is received on the exchange floor and reported

from the floor as executed.

Although AORS have been used for over 10 years to route orders from

FCMs to futures exchanges, as well as within exchanges themselves, AORS

have recently begun to be used by FCMs to allow customers to route

futures orders from their computer systems to an FCM’s computer system

via dedicated telephone lines or the Internet. The FCM’s system then

electronically routes the customer’s order to a firm's desk on an exchange

floor or an electronic trade-matching system (discussed separately below)

for execution. Such AORS can communicate trade execution information,

such as price, quantity, and time of execution, back to customers.

Depending on the specific AORS and other systems with which it

interfaces, the extent of human involvement in handling and executing a

customer order can vary. For example, with some systems, the order may

be transmitted through the FCM’s computer system to a firm’s desk on an

exchange floor and then communicated via hand signals or through

electronic means to a floor broker for execution. In other systems, the

order flows through the FCM’s computer system directly to a floor broker

or an electronic trade-matching system for immediate execution. In

addition, these systems vary in the quantity and quality of information they

provide to customers based on several factors, including a customer’s

relationship with the FCM, technology restrictions, and cost constraints.

37 A floor broker executes trades on the floor of a futures exchange for customers and may also execute

trades for personal or employer accounts.

AORS Change the Way Orders

Are Transmitted
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Page 14 GAO/GGD-00-99 Regulation of Electronic Trading Systems

For example, while some systems may provide customers with real-time

bid and offer quotations, others may not provide current price quotations.

These systems also differ with regard to the markets that can be accessed

through them. For example, while some systems provide customers with

access to only U.S. futures exchanges, others provide access to both U.S.

and foreign exchanges.

Although a very limited number of FCMs provide their customers with

access to AORS, the number is expected to increase significantly in the

near future. In October 1999, one industry expert stated that within 1 year

most FCMs would offer AORS to their customers. In addition, preliminary

results of a 1999 survey of U.S. FCMs indicate that over 60 percent of the

technology plans of FCMs included provisions for developing or enhancing

order routing and management systems.38

With proper controls, the use of AORS can further regulatory objectives by

changing how intermediaries route customer orders, providing for more

accurate recording of details related to customer orders, and improving

monitoring and control of customer activities. In addition, they can

provide other benefits to futures market participants.

AORS use can enhance customer protection by reducing or eliminating

opportunities for FCMs to mishandle customer orders. As such, AORS use

can reduce regulatory concerns about fraud in connection with the

mishandling of such orders.39 As discussed below, when an AORS is

connected to an electronic trade-matching system, customer protection

can be further improved. In addition, AORS use can benefit market

participants by providing for faster order delivery and reduced transaction

costs.

AORS use can also enhance customer protection and market integrity in

both open-outcry and electronic trading environments by allowing for the

creation of automated trade order records that detail precisely when,

where, and by whom an order was placed as well as any subsequent

changes to that order. Such automated records can enhance market

integrity by providing greater assurance that transactions are accurately

recorded and error free. According to FIA officials, the use of AORS has

38 TowerGroup conducted the survey, which was sponsored by FIA. As of April 6, 1999, FCMs

representing over 50 percent of total U.S. futures customers’ equity had responded to the survey.

39 For example, an SEC official told us that concern exists in the securities market that electronic

trading systems can be programmed to frontrun customer orders and that this concern is relevant to

futures market AORS. To frontrun is to take a futures or options position based on nonpublic

information regarding an impending transaction by another person in the same or a related market.

Use of AORS Can Further

Regulatory Objectives and

Provide Other Benefits
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Page 15 GAO/GGD-00-99 Regulation of Electronic Trading Systems

significantly benefited FCMs by reducing trade processing errors caused

by human error. In addition, their use can deter and/or facilitate detection

of trading abuses. That is, by recording the details of a customer order, as

well as any changes made to that order, AORS use can make it more

difficult for intermediaries to abuse customer orders and make it easier to

detect such abuses.

In addition, AORS use can help protect the financial integrity of FCMs,

thereby reducing systemic risk, and can enhance customer protection by

providing improved monitoring and control of customer activities. Because

AORS can record customer trades automatically, FCMs can build into

AORS the capacity to monitor customer open positions as trades occur, or

in real time. When a customer’s total market exposure on open positions

reaches or exceeds a predetermined level, the AORS can alert the FCM.

One AORS we reviewed allowed the FCM to halt a customer’s trading

activity in such a situation and inform the customer that continuing to

trade would require additional margin,40 referred to as a margin call. FIA

officials told us that only one FCM currently operates an AORS with this

capability, but that other FCMs are working to develop it.41 AORS can also

provide automated trading filters that prevent customers from entering

orders for certain types of instruments or placing orders beyond a certain

amount. Enhanced monitoring and control of customer activities can also

benefit FCMs and reduce systemic risk. That is, because FCMs are

ultimately financially responsible for trades they execute on behalf of their

customers, they can benefit from, and systemic risk can be reduced by, a

system that prevents customers from entering into transactions that they

may not be able to honor and that could, thus, jeopardize the financial

position of the FCM. In addition, alerting customers more quickly of their

losses can enhance customer protection by providing them with a more

timely opportunity to consider the potential financial impact of continued

trading.

Without proper controls, the use AORS could raise customer protection

and other concerns under the CEA. One futures market participant said

that AORS use could increase risks to customers if systems do not have

the capacity to handle large trading volume. System failure due to lack of

capacity could result in customers not knowing whether their orders were

40 Margin is cash or collateral deposited by customers as a performance bond with their FCMs for the

purpose of protecting the FCMs and, ultimately, clearinghouses against loss on exchange-traded

futures contracts.

41 An FIA official also said that this capability would be most relevant to FCMs with retail customers.

FCMs would be unwilling to halt institutional customers’ trading without assessing their exposures

across markets—a capability that is currently not available.

Without Controls, the Use of

AORS Could Raise Customer

Protection and Other Concerns
B-284243

Page 16 GAO/GGD-00-99 Regulation of Electronic Trading Systems

executed, thus preventing them from taking further action that could

decrease losses or increase profits. Some market participants also

expressed concern that an AORS with inadequate security could increase

the risk of unauthorized access to that system. CFTC and NFA officials

said that the primary risks associated with AORS use are unauthorized

access and trading beyond customer credit limits. According to the 1999

survey of FCMs, concerns about system capacity and security have limited

FCM use of electronic systems. However, FIA officials stated that AORS

use currently does not raise significant concerns, and that issues related to

AORS security and capacity are more appropriately addressed by FCMs

and exchanges than by regulatory efforts. The officials also said that

market competition will be sufficient to motivate FCMs and exchanges to

provide adequate security and capacity because customers will not

continue to use AORS that experience problems in these areas.

In March 1999, CFTC proposed rules regarding access to automated

boards of trade.42 The proposed rules included minimum standards for,

among other things, system security, controls over customer activities, and

recordkeeping. According to CFTC, the comment letters responding to

these proposed rules indicated that futures market participants have

overwhelmingly negative views on the need for minimum standards for

AORS. For example, FIA commented that the association has serious

reservations about CFTC prescribing minimum standards for AORS, and

that a better approach would be for CFTC to articulate its regulatory

objectives for AORS and allow AORS operators flexibility in achieving

those objectives. CME commented that the proposed rules are

unnecessary because existing internal control requirements for FCMs are

sufficient. NYMEX commented that specific requirements for AORS would

limit the ability of AORS operators to respond to changing technology and

market conditions. In contrast to these views, Interactive Brokers, the

operator of an AORS, expressed agreement with CFTC’s view that

mandating specific, minimum controls for AORS is appropriate because

such controls can enhance customer confidence, thereby increasing

market participation and, ultimately, market liquidity. According to CFTC,

the proposed rules were withdrawn in June 199943 in response to the

negative comments from futures market participants.

According to CFTC officials, no specific regulatory regime exists for

AORS. However, NFA and FII, in consultation with exchange and industry

42 Access to Automated Boards of Trade, 64 Fed. Reg. 14159 (1999).

43 Access to Automated Boards of Trade, 64 Fed. Reg. 32829 (1999).

NFA and FII Are Developing

Best Practices for AORS
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Page 17 GAO/GGD-00-99 Regulation of Electronic Trading Systems

representatives, are developing best practices for AORS as part of a study

related to order routing. The study is being funded primarily by $1 million

provided by CFTC and is to be completed by September 1, 2000.44 NFA

officials told us that the NFA and FII approach is to develop general

principles, in the form of best practices, to which AORS should adhere and

to give system operators flexibility in following those principles. The

principles would address, among other things, AORS security and capacity,

and controls over customer trading activity. NFA officials noted that they

are already conducting reviews of AORS, as part of their oversight of NFAmember FCMs, using the principles being developed as part of the study.

Introduced in the United States in the early 1990s, electronic tradematching systems for exchange-traded futures can replace predominantly

manual processes for executing trades. Although representing a small

percentage of U.S. futures trading volume, the use of electronic tradematching systems is growing. Use of these systems can further regulatory

objectives and provide other benefits to futures market participants.

Although their use can raise regulatory concerns if the systems are not

properly designed, CFTC officials told us that they review electronic

matching systems for compliance with minimum standards developed by

the International Organization of Securities Commissions (IOSCO),45 which

generally address these concerns. Nonetheless, the development of fully

electronic futures exchanges may present additional regulatory challenges.

Execution of transactions on futures exchanges has traditionally taken

place by open outcry. As described above, a floor broker standing in a

central location, called a trading pit, would receive an order

communicated by hand signals, a floor order ticket, or an AORS to either

buy or sell a certain quantity of futures contracts. The floor broker would

then, orally and using hand signals, present the order to other traders, who

would communicate their response to the order. When the order was filled,

the buyer and seller would manually record, among other things, the price

and quantity of the contracts traded. The trade details would typically be

communicated back to the FCM and its customer, and from the FCM to the

clearinghouse. The clearinghouse would then clear and settle the trade,

substituting itself as counterparty. Clearinghouses may clear trades

continuously and settle trades one or more times a day.

44 The $1 million in funding is part of a $7 million settlement with Refco, Inc., of an administrative

proceeding brought by CFTC alleging that Refco violated provisions of the CEA and CFTC regulations

related to the handling of customer orders.

45 See Principles for the Oversight of Screen-Based Trading Systems for Derivatives Products, IOSCO

(June 1990). IOSCO includes securities administrators from over 60 countries and facilitates efforts to

coordinate international securities regulation.

Use of Electronic TradeMatching Systems for

Exchange-Traded Futures

Can Further Regulatory

Objectives

Electronic Systems Change the

Way Exchange-Traded Futures

Are Executed
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Page 18 GAO/GGD-00-99 Regulation of Electronic Trading Systems

Electronic trade-matching systems were introduced in the United States in

the early 1990s as adjuncts to open-outcry trading. These systems can

replace open-outcry trading by automatically matching bids and offers,

thereby eliminating the need for a physical trading floor. With electronic

trade-matching, orders are electronically routed to the trade-matching

system, where a trade-matching algorithm is used to match bids and offers

submitted for execution. However, within the systems we reviewed, some

variation exists in how trade-matching systems operate. For example, on

one system, bids and offers are matched and executed automatically, while

on another system, bids and offers that match are not executed unless

actively accepted by a participant. Bids and offers entered into these

systems are displayed anonymously to the market—that is, participants do

not know who made a particular bid or offer. In addition, while the tradematching systems we reviewed match trades based on timing and price, at

least one system gives participants making bids or offers that improve

prices—that is, bids that are higher than the current best bid or offers that

are lower than the current best offer—certain priority rights in responding

to subsequent counterbids or offers. Another system also gives similar

priority rights to bids or offers that are of sufficient volume to match all

current best bids or offers. For the systems that we reviewed, once trades

are executed, the trade-matching systems automatically send the trade

details to the counterparties and, in most cases, to the clearinghouse.

Use of electronic trade-matching systems for exchange-traded futures has

generally increased. CBT, CME, and NYMEX principally rely on openoutcry systems to trade futures; however, each exchange operates an

electronic trade-matching system. CME’s automated trade-matching

system, Globex, has been in operation since 1992; NYMEX’s Access system

has been in operation since 1993; and CBT’s Project A has been in

operation since 1994. At CME and NYMEX, electronic trading volume in

1999 was 16.1 and 2.4 million contracts, representing increases of nearly 81

and 30 percent, respectively, over the prior year. In addition, the CME’s Emini Standard & Poor’s 500 stock index futures contract, which is

electronically traded, was the third-highest volume futures contract at the

exchange in 1999. Although electronic trading volume at CBT decreased by

approximately 10 percent between 1998 and 1999, its 1999 volume of 11.2

million contracts was still approximately 88 percent greater than in 1997.

Electronic trading volume at CBT, CME, and NYMEX represented

approximately 4, 8, and 2 percent of total exchange trading volume,

respectively, in 1999.

Use of trade-matching systems for exchange-traded futures in Europe is

also increasing, as major European exchanges have been moving from

Use of Electronic TradeMatching Systems Has Generally

Increased
B-284243

Page 19 GAO/GGD-00-99 Regulation of Electronic Trading Systems

open-outcry trading to fully electronic trade-matching systems. For

example, in 1998, a French futures and options exchange, the Marche a

Terme International de France, moved from a predominately open-outcry

trading system to a fully electronic trading system. Also in 1998, the

London International Financial Futures and Options Exchange began

trading products on its electronic trade-matching system, and plans call for

all financial contracts to be traded on this system by May 2000.

Additionally, in 1999, Eurex, a fully electronic exchange created by the

1998 merger of the Deutsche Terminborse and Swiss Options and

Financial Futures Exchange,46 became the world’s largest futures exchange

in terms of trading volume, with an annual trading volume of 378.8 million

contracts.

Finally, U.S. futures exchanges are increasingly seeking electronic linkages

with foreign exchanges that will provide participants at each exchange

with access to the other exchanges’ products. For example, in October

1999, Eurex and CBT signed an agreement to create a joint venture

company to operate a single electronic trading platform to allow access to

both exchanges through a single computer screen. Similarly, CME formed

the Globex Alliance in February 1999 to develop a common electronic

trading system to connect the trade-matching systems of its members.47 In

addition, U.S. customers can access some foreign futures exchanges

through computer terminals placed in the United States by those

exchanges.

Several characteristics of well–designed electronic trade-matching systems

for exchange-traded futures can enhance the regulatory objectives of

market integrity, financial integrity, and customer protection, as well as

provide other benefits to futures market participants. These characteristics

include consistent, anonymous, low-error trade matching; automated trade

execution and allocation, with faster clearing; precise audit trails that

enhance trade monitoring capabilities; and lower costs.

Electronic trade-matching systems can enhance regulatory objectives

because, according to CFTC and market participants, they can provide

consistent, anonymous, low-error trade matching. First, trade-matching

engines with fixed, transparent trade-matching algorithms can ensure that

trades are matched or filled in a fair and consistent manner, thereby

46 The Deutsche Terminborse and Swiss Options and Financial Futures Exchange were both fully

electronic exchanges before the merger.

47 In addition to CME, the Globex Alliance includes the Montreal Exchange (Canada), Paris Bourse

SBFSA, Singapore International Monetary Exchange, and Bolsa de Mercadorias & Futuros (Brazil).

Use of Electronic TradeMatching Systems Can Further

Regulatory Objectives and

Provide Other Benefits
B-284243

Page 20 GAO/GGD-00-99 Regulation of Electronic Trading Systems

enhancing market integrity and customer protection. Second, electronic

trade-matching systems can eliminate out-trades.48 Eliminating out-trades

can reduce the potential for financial loss associated with price

movements between the time of the original trade and resolution of the

out-trade or from unfavorable trade resolution, such as the cancellation of

a profitable trade.

Properly designed electronic trade-matching systems can also enhance

customer protection by minimizing the role of brokers in handling and

allocating customer trades. As mentioned above, customer protection can

be enhanced by an electronic trade-matching system that receives orders

from an AORS because such a linkage can limit or eliminate the

opportunity for brokers to mishandle customer orders. For example, little

or no opportunity would exist for frontrunning or trading ahead49 of a

customer’s order because an FCM might not see a customer’s order before

it was transmitted to the trade-matching system, and the system, not a

broker, would execute the trade. In addition, little or no opportunity would

exist for bucketing50 a customer’s order because the trade-matching

system, not a broker, would match the order. Also, if customer account

identification numbers are required at the time of order entry, electronic

trade-matching systems can prevent inappropriate trade allocation, such as

allocating only profitable trades to certain accounts, although additional

time may be required to enter account information. Also, according to

CFTC and market participants, by automatically sending trade details to

the clearinghouse once a trade is executed, trades matched by electronic

systems can be cleared faster than by traditional systems in which trade

details are manually recorded and later communicated to the

clearinghouse. Faster trade clearing can benefit all market participants by

allowing them to more quickly update their market positions and more

readily identify positions that might increase financial risk.

According to CFTC and market participants, electronic trade-matching

systems, as in the case of AORS, can provide precise audit trails that

enhance trade monitoring capabilities. By electronically recording trading

48 An out-trade is a trade that cannot be cleared by a clearinghouse because the trade data submitted by

the buyer and seller differ in some respect. For example, the price and/or quantity may not agree. In

such a case, the discrepancy must be resolved before the trade can be cleared.

49 Trading ahead occurs when brokers buy (or sell) for their personal accounts or an account in which

they have an interest, while having in hand any executable customer order to buy (or sell) in the same

contract month at the market or at the same price.

50 Bucketing involves directly or indirectly taking the opposite side of a customer’s order into a broker’s

own account or into an account in which a broker has an interest, without open and competitive

execution of the order on an exchange.
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Page 21 GAO/GGD-00-99 Regulation of Electronic Trading Systems

activities, these systems can make it faster and easier for CFTC and SROs

to review and analyze trading activities. As mentioned above, to the extent

that FCMs can use AORS to halt trading, these capabilities can reduce

systemic risk and enhance customer protection by facilitating the early

detection of trading activities that could put an FCM at financial risk, as

well as deterring and/or detecting trading abuses that disadvantage

customers.

According to some futures market participants, electronic trade-matching

systems can also lower trading costs. First, they said that because trade

matching occurs electronically, these systems can eliminate the costs

associated with maintaining a physical trading facility. According to these

market participants, although facilities to house computer systems must

be maintained, these costs are less than those of maintaining a trading

floor. However, CBT officials disagreed based on the exchange’s

experience offering both open-outcry and electronic markets. They told us

that the costs to provide an electronic trading system include the initial

cost to develop or otherwise acquire the system software (which may

include recurring license fees), hardware costs, facilities to house the

computer systems, ongoing maintenance, costs for periodic system

upgrades, help desk support, and network costs. They said that, as a result,

the costs for electronic systems are not necessarily lower, but rather

appear in different ways.

Second, some futures market participants said that because trade

matching is automated, these systems can eliminate the costs associated

with using a floor broker to execute trades on behalf of a customer.

However, according to CBT officials, these savings may be offset by other

fees FCMs charge for their role in the execution process. In addition, they

said that in exchange for immediate execution on an automated system, a

customer gives up a price edge and loses the benefit of a floor broker’s

skill in obtaining an average fill price between the prevailing bid/ask

spread.

According to a market observer, lower costs associated with the

development of electronic trade-matching systems should foster

competition by increasing the number of futures exchanges. However,

according to FIA officials, the lack of either a single clearinghouse for all

exchange-traded futures or coordinated clearing among futures exchanges

will impede competition, even with increased use of electronic tradematching systems.
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Some market participants have expressed concerns that, without adequate

controls, the use of electronic trading systems for exchange-traded futures

could raise or increase the risks associated with (1) preferential tradematching and (2) offsetting or noncompetitive matching of the buy and sell

orders of two customers, called cross-trading. Concerns were also

expressed about insufficient system capacity, inadequate system security,

and unauthorized customer trading. These are similar to the concerns

expressed about AORS and are not repeated here. CFTC officials told us

that their review of electronic trade-matching systems includes the

application of minimum standards that were developed by IOSCO. These

standards generally address the concerns expressed by market

participants.

Ensuring that electronic trade-matching systems provide fair trade

execution to all participants has been an industry and regulatory concern.

According to CFTC officials, in reviewing trade-matching systems that

seek designation as a CFTC-approved contract market,51 CFTC analyzes

the trade-matching system to ensure that trades will be executed fairly.

Nonetheless, an AORS official objected to the CFFE trade-matching

engine, approved by CFTC, which gives preference to higher volume

traders whose bids improve prices or bring liquidity to the market. The

official said that such a preference allows noncompetitive execution of

trades, thereby reducing market integrity. CFTC officials told us that the

same trading matching engine was used successfully in the cash Treasury

market, and that the engine’s preferences were designed to increase

market liquidity,52 which enhances market integrity. An SEC official said

that CFFE’s trade-matching system simply rewards those who are first to

provide the best price to the market. That is, those who bring a new price

to the market are actually communicating information to others in the

market, and should be rewarded for it. In addition, a futures exchange

official stated that as long as any preferences are disclosed to users of a

trade-matching system, the preferences themselves are irrelevant. That is,

if potential users object to the preferences, they will not use the system.

A CFTC official said that some concern exists that the use of AORS in

conjunction with electronic trade-matching engines could allow for

improper cross-trading in thinly traded markets. That is, one person could

simultaneously enter matching buy and sell orders on the same terminal,

51 Contract markets are boards of trade or exchanges designated by CFTC, under the CEA, to trade

specified futures or options.

52 Liquidity is the extent to which market participants can buy and sell contracts in a timely manner

without changing the market price.

Without Adequate Controls, Use

of Electronic Trade-Matching

Systems Could Raise Concerns
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Page 23 GAO/GGD-00-99 Regulation of Electronic Trading Systems

virtually guaranteeing the trade would be matched noncompetitively,

thereby violating CFTC regulations. However, the CFTC official also said

that this problem could be mitigated by requiring a minimum time gap

between such orders placed at the same terminal, thereby ensuring that all

bids and offers would be exposed to the market for a minimum period of

time. However, requiring a time gap would subject orders to price risk as

prices could move against customers during the required time gap.

Similarly, FIA officials stated that impermissible cross-trading could be

detected by the audit trails provided by well-designed systems.

CFTC officials told us that they review electronic matching systems for

compliance with minimum standards developed by IOSCO as part of their

exchange-designation process. These standards generally address the

concerns expressed above. For example, the standards state that systems

should be reviewed to identify vulnerabilities, such as the risk of

unauthorized access and system failure. In addition, the standards state

that the system should be designed to operate in a manner that is equitable

to all market participants and that any differences in treatment among

classes of participants should be identified. CFTC officials also told us that

IOSCO is considering whether to update these standards.53

The development and use of fully electronic futures exchanges that are not

affiliated with an existing futures exchange and that are organized as forprofit organizations may present additional regulatory challenges under

the CEA. While one such exchange, FutureCom,54 was approved by CFTC

on March 13, 2000, as an Internet-based contract market in cash-settled

live cattle futures, and another such exchange, BrokerTec,55 is currently

under development, concern exists that current regulations are either

inappropriate or inapplicable for regulating electronic systems and impose

obstacles to setting them up. Accordingly, some market participants

suggested that CFTC could do more to clarify the requirements that a

system must meet to receive CFTC approval as an exchange. As discussed

below, CFTC expects to address these concerns as part of its revised

approach to futures market regulation.

53 According to CBT officials, a number of exchanges around the world have already completed surveys

about their electronic trading systems in connection with this project.

54 The FutureCom exchange is operated by FutureCom, a limited partnership and an affiliate of the

Texas Beef Group.

55 The BrokerTec system is to be operated through subsidiaries of BrokerTec Global, LLC, a consortium

of securities dealers that includes ABN Amro, Banco Santander, Barclays Capital, Credit Suisse First

Boston, Deutsche Bank Securities, Dresdner Bank, Goldman Sachs, Lehman Brothers, Merrill Lynch,

Morgan Stanley Dean Witter, Salomon Smith Barney, and Warburg Dillon Read.

Use of Fully Electronic

Futures Exchanges May

Present Additional

Challenges
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Page 24 GAO/GGD-00-99 Regulation of Electronic Trading Systems

A former CFTC chairman said that his review of the CEA revealed 122

requirements—of which 55 percent did not apply to electronic trading

systems likely to be developed in the near future. For example, he believes

that regulations applicable to FCMs, floor brokers, and other

intermediaries, such as registration requirements and antifraud provisions,

would be irrelevant in systems where customers bypass such

intermediaries, route orders directly to a trade-matching system, and deal

with each other on a principal-to-principal basis. Confusion over whether

and how to meet such requirements could impede the development of new

electronic trading systems. However, officials of one futures exchange

disagreed, noting that even if market users could bypass FCMs for trade

execution, the FCMs would continue to provide clearing services and

related account opening, margin collection, and credit monitoring

functions. These officials further expressed the view that the

intermediation role of FCMs could increase as they expand their customer

bases, especially in the retail area, by offering customers Internet access

and other AORS access to markets.

The former CFTC chairman also stated that unlike existing exchanges, forprofit exchanges in the future would not necessarily be membership

organizations and, thus, might not have the resources to operate a

clearinghouse or to establish an independent self-regulatory program.

Some market participants agreed with the former CFTC chairman and

expressed concern that because the current regulatory structure does not

contemplate a clearing organization that is separate from an exchange, it

may be difficult for new electronic trading systems to establish a clearing

function. Officials of one futures exchange disagreed with this

interpretation of current regulatory requirements and noted that many

exchanges use separately owned and governed clearing organizations to

clear and settle transactions on their markets.56 Although FutureCom is a

fully electronic, for-profit futures exchange, it did not raise these concerns

because it will operate a clearinghouse that is funded by its members and

affiliated with the exchange.

Officials of one futures exchange disagreed with the former CFTC

chairman that for-profit exchanges would have inadequate financial

resources to support self-regulatory programs. They said that the for-profit

structure could provide new opportunities to raise funds through the

capital markets. They further noted that an exchange, under any structure,

will be motivated by competitive forces to devote appropriate resources to

56 As discussed below, the regulatory framework proposed by a CFTC staff task force would clarify that

clearinghouses could be separate from an exchange or trading facility.
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Page 25 GAO/GGD-00-99 Regulation of Electronic Trading Systems

compliance programs since the fairness and efficiency of its markets is one

basis on which it competes to attract participants. NFA officials said that

as exchanges move to a for-profit structure, they could contract with NFA

to provide self-regulatory services.

A CFTC official said that a move toward for-profit exchanges would not

necessarily change the agency’s regulatory goals, only the methods for

accomplishing those goals. That is, all futures exchanges, regardless of

their ownership structure, would be required to meet the same selfregulatory requirements. He said that self-regulatory services that are

contracted out would be reviewed in basically the same way as those that

are provided through a traditional futures exchange. CFTC has already

approved two arrangements where the operator of an electronic tradematching system does not provide its own self-regulatory services.

Specifically, the New York Cotton Exchange provides all of CFFE’s selfregulatory services, and NFA is to perform financial and recordkeeping

surveillance over FutureCom members that are registered with CFTC.

Electronic trading systems for OTC derivatives bring together buyers and

sellers that previously interacted through telephones and faxes. These

systems can reduce systemic risk and provide other benefits to market

participants. However, uncertainty over whether electronically traded OTC

derivatives fall under the CEA may create uncertainty about the

enforceability of such derivatives and, in turn, inhibit the use of electronic

trading systems for OTC derivatives.

OTC derivatives dealers, which are primarily banks and affiliates of

broker-dealers or FCMs, have traditionally conducted their transactions

through direct telephone contacts with counterparties, supplemented by

using faxes and/or the services of an intermediary, called a voice broker.

To search for a counterparty to an OTC derivatives transaction, a dealer

would contact a voice broker by telephone and provide the details of the

transaction. The voice broker would communicate the transaction details

to other market participants by telephone or fax. Another dealer wishing

to accept the offer would contact the voice broker, who would then

contact the dealer making the offer. At this point, the voice broker would

disclose the identity of the dealers to each other so that each could

determine, based on the credit rating of and/or credit limits established for

the other, whether they would be willing to enter into the transaction. If

the dealers reached agreement, the voice broker would send the details of

the transaction to each dealer. The dealers would then complete all further

administrative tasks through direct communication with each other.

Technology Can

Automate OTC

Derivatives Trading

and Reduce Systemic

Risk

Electronic Trading Systems

for OTC Derivatives

Replace Telephones and

Faxes
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Page 26 GAO/GGD-00-99 Regulation of Electronic Trading Systems

Operating in the United States since at least 1994, electronic trading

systems for OTC derivatives can facilitate direct communications among

potential counterparties and, in doing so, can eliminate the need for a

voice broker’s traditional services. That is, the systems that we reviewed

allow OTC derivatives dealers to post their own bids and offers and

electronically view, negotiate, and accept the bids and offers of other

participants (bids and offers are not matched automatically, as in some

electronic trade-matching systems for exchange-traded derivatives). When

transactions are agreed to, the systems send the details of the completed

transactions to the participants involved. In addition, bids and offers

posted on the system are anonymous until either a transaction is agreed to

or agreement is reached to negotiate the terms of the transaction. Systems

currently in operation allow for transactions in several types of

instruments. For example, Derivatives Net, Inc., allows for transactions in

interest rate swaps, and Altra Energy Technologies allows for transactions

in natural gas swaps. While trading volume on the Derivatives Net, Inc., is

limited because it began operation in August 1999, operators of the Altra

Energy Technologies system, which began operation in 1994, indicated

that volume has been increasing.

To the extent that electronic trading systems for OTC derivatives can

provide for enhanced trader monitoring and control and an interface with

risk management software, they can reduce firm-specific financial risk and

systemic risk. In addition, to the extent that these systems link together

multiple participants and transmit contract execution detail electronically,

they can increase market liquidity, improve price transparency, and make

trading faster and cheaper. As with other electronic trading systems, a lack

of adequate capacity and security could raise concerns.

According to market participants, electronic trading systems for OTC

derivatives can reduce systemic risk by enhancing the ability of trading

managers to monitor and control the activities of their traders. For

example, one system enables trading managers to quickly view all

transactions being proposed and executed by their traders. Moreover, the

system enables trading managers to electronically restrict with whom their

traders may transact and the types of transactions they may enter. That is,

the system enables users to program in minimum credit requirements for

their counterparties and to automate the credit screening process. These

monitoring and control capabilities can reduce systemic risk by helping

deter and/or detect the accumulation of market positions by traders that

could place the firm and, therefore, counterparties at unacceptable

financial risk.

Technology Automates OTC

Derivatives Trading and Can

Reduce Systemic Risk
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Page 27 GAO/GGD-00-99 Regulation of Electronic Trading Systems

Electronic trading systems for OTC derivatives can also help reduce

systemic risk by providing participants with real-time data on the risk

exposure of their overall market positions. For example, one system

operator offers customers risk management software that can be linked to

its trading system and used to update a customer’s market position

following an executed transaction. Such a system can help reduce

systemic risk by allowing participants to monitor their overall risk

exposure from OTC derivatives transactions in real time.

According to OCC officials, electronic trading systems for OTC derivatives

can help increase market liquidity. The officials said that as it currently

operates, the OTC derivatives market is fragmented, with transactions

done on a principal-to-principal basis and dealers making markets. As a

result, the use of electronic trading systems that provide for multilateral

execution of OTC derivatives would create a more centralized and

consolidated market, making it more liquid.

In addition, according to market participants, electronic trading systems

for OTC derivatives can improve price transparency and make trading

faster and cheaper. These systems can improve price transparency by

providing simultaneous access to multiple bids and offers, which can

provide better assurance of receiving the best available price. In addition,

allowing participants to simultaneously view bids and offers can also make

trading faster by instantly providing information that was previously

obtainable only through multiple telephone calls or through voice brokers.

To the extent that such systems reduce the use of intermediaries, they can

also reduce associated costs.

Finally, market participants said that electronic trading systems for OTC

derivatives can make trading more efficient for participants by

electronically capturing and transmitting contract execution information

to them. This capacity can reduce errors that may occur when information

is communicated via telephone or fax and, as a result, eliminate the risk of

loss associated with the time required to correct such errors.

Although electronic trading systems have the potential to enhance market

performance and protections, uncertainty exists over whether their use

may cause OTC derivatives that are otherwise excluded or exempted from

the CEA to fall under its provisions. According to the Working Group,

uncertainty exists over whether CFTC might change the conditions of the

swaps exemption in such a way that otherwise excluded or exempted

transactions traded on electronic systems would fall under the CEA. Under

the CEA, all futures contracts must be traded on a CFTC-designated

Legal Uncertainty May

Inhibit the Use of Electronic

Trading Systems for OTC

Derivatives
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Page 28 GAO/GGD-00-99 Regulation of Electronic Trading Systems

exchange, unless otherwise excluded or exempted from this requirement.

If a derivatives transaction fails to meet the conditions of an exclusion or

exemption and was not conducted on a CFTC-designated exchange, it

could be deemed an illegal and, therefore, unenforceable futures contract.

Consequently, users of electronic trading systems for OTC derivatives face

the risk that transactions traded on these systems may not be legally

enforceable to the extent that such transactions are determined to be

futures. This legal uncertainty can inhibit the development and use of such

systems.

Some market participants expressed concern that even though CFTC has

not directly regulated most OTC derivatives, some OTC transactions may

fall under the CEA because they are transacted on an electronic trading

system. Uncertainty regarding their coverage under the CEA is based

primarily on four concerns. First, concern exists that an electronic trading

system for OTC derivatives could be classified as a board of trade under

the CEA. Such a classification would prevent transactions on the system

from qualifying for exclusion under the Treasury Amendment because the

amendment excludes from the CEA certain foreign currency and

government securities transactions unless traded on a board of trade.

Concern arises because the CEA broadly defines a board of trade to mean

any exchange or association of persons who are engaged in the business of

buying or selling any commodity, a definition which, according to the

Working Group, could be interpreted to include electronic trading systems

for OTC derivatives.

Second, concern exists among some market participants that an electronic

trading system for OTC derivatives could be classified as an MTEF,

preventing OTC derivatives traded through the system from qualifying for

the swaps exemption. Under the swaps exemption, certain OTC

derivatives transactions are exempt from the CEA provided that, among

other things, they are not entered into and traded on or through an MTEF.

Concern arises because the applicability of CFTC’s definition of an MTEF

to electronic trading systems for OTC derivatives is not clear. For example,

although an electronic system used only to communicate information may

not be an MTEF, a system used to execute transactions may be. Some

market participants have said that using an electronic trading system to

enter into an OTC derivatives agreement instead of using a telephone

changes only the mode of communication and should not alter the

regulatory status of that agreement. However, futures exchange officials

have said that electronic systems that allow for automatic execution of

agreements operate in a manner similar to CFTC-regulated exchanges and

should thus be regulated in a similar manner. The CFTC Chairman has said

Uncertainty Exists Over Whether

Electronically Traded OTC

Derivatives Fall Under the CEA
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Page 29 GAO/GGD-00-99 Regulation of Electronic Trading Systems

that the definition of an MTEF for exemptive purposes needs to be

addressed.

Third, concern exists among some market participants that while

electronic trading systems may facilitate the use of clearinghouses in OTC

markets, which can reduce systemic risk, the use of a clearinghouse by an

OTC trading system could prevent it from meeting another condition of the

swaps exemption. That is, the swaps exemption does not extend to

transactions that are subject to a clearing system. However, as previously

discussed, CFTC has said that it would consider the terms and conditions

of an exemption for a swaps clearinghouse in the context of a specific

proposal and has done so.

Fourth, concern exists among some market participants that CFTC might

change the conditions of the swaps exemption in such a way that

otherwise exempted OTC transactions traded on electronic systems would

fall under the CEA. This concern exists because CFTC is authorized to

change the conditions of the swaps exemption. In 1998, two actions by

CFTC raised concerns that CFTC might modify the swaps exemption to

impose new regulations on the OTC derivatives market. In the first action,

CFTC stated in a February 26, 1998, comment letter addressing SEC’s

proposal for an alternative regulatory scheme for derivatives dealers

affiliated with broker-dealers57 that the proposal could conflict with the

CEA to the extent that certain OTC derivatives fall under the CEA and are

subject to CFTC’s exclusive jurisdiction. Some OTC derivatives market

participants expressed concern that CFTC’s letter suggested that some

swap agreements might be viewed as futures and thus subject to

regulation. In the second action, CFTC issued a concept release on May 12,

1998, requesting comment on whether the swaps and hybrid exemptions

continued to be appropriate in light of market changes.58 CFTC indicated

that it was receptive to broadening its exemptions or imposing additional

safeguards, if warranted. On November 23, 1999, CFTC withdrew the

release.59

Uncertainty over whether use of electronic trading systems for OTC

derivatives may cause transactions conducted on such systems to violate

one or more conditions of the swaps exemption means users of such

systems face the risk that CFTC or a court could find them to be illegal

57 OTC Derivatives Dealers, 63 Fed. Reg. 59362 (1998).

58 Over-the-Counter Derivatives, 63 Fed. Reg. 26114 (1998).

59 Concept Release Concerning Over-the-Counter Derivatives, 64 Fed. Reg. 65669 (1999).

Uncertainty May Inhibit the Use

of Electronic Trading Systems
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Page 30 GAO/GGD-00-99 Regulation of Electronic Trading Systems

and, thus, unenforceable futures. According to the Working Group report,

uncertainty over the enforceability of derivatives contracts, if not

addressed, could discourage innovation and growth in the U.S. OTC

derivatives market and damage U.S. leadership in this market by driving

the business off-shore. The Working Group report also states that

uncertainty involving OTC derivatives has hampered efforts to utilize

electronic trading systems and clearing facilities in the OTC market and

thus prevented the enhancement of market efficiency and transparency

and the reduction of systemic risk.

General agreement exists among industry officials that the current

approach to regulation needs to be revised to better accommodate

electronic trading systems for exchange-traded futures and OTC

derivatives. At least three approaches have been suggested for revising the

regulatory structure for exchange-traded futures to more effectively

accommodate electronic trading systems. Also, the Working Group has

made several recommendations designed to enhance legal certainty

concerning the use of electronic trading systems in the OTC derivatives

market. However, it has recognized that the recommendations, if

implemented, would eliminate significant criteria used to differentiate

between exchange-traded futures that are regulated and those OTC

derivatives that are not directly regulated, if regulated at all. The Working

Group has explained its rationale for recommending exclusions for

electronic trading systems for OTC derivatives from the CEA and has

supported CFTC efforts to provide appropriate relief for the exchangetraded futures market. CFTC has proposed actions and taken others that,

in aggregate, could provide significant regulatory relief to this market. In

addition, House and Senate committees are considering actions that would

address issues related to electronic trading systems in the OTC derivatives

and/or exchange-traded futures markets.

Various market participants have suggested at least three approaches for

revising the current regulatory structure for exchange-traded futures to

accommodate electronic trading systems. These approaches are drafting a

separate section of the CEA to address electronic trading, developing core

principles and guidelines to which all electronic systems must adhere, and

developing a flexible regulatory structure where electronic systems are

only regulated to the extent that they raise public policy concerns. These

approaches are not mutually exclusive, and a successful approach may

contain elements of each.

Some market participants have suggested drafting a separate section of the

CEA to address electronic trading systems for exchange-traded futures. In

Approaches to

Revising the

Regulatory Structure

Have Been Suggested

Three Approaches Have

Been Suggested for Revising

the Regulatory Structure for

Exchange-Traded Futures

Drafting a Separate Section of

the CEA
B-284243

Page 31 GAO/GGD-00-99 Regulation of Electronic Trading Systems

support of this suggestion, a former CFTC chairman commented that the

CEA currently focuses on open-outcry trading and the relationship

between customers and intermediaries, two features of the market that

may be less significant to the extent that electronic trading systems for

exchange-traded futures are introduced and used. In addition, as noted

earlier, some futures market participants have also observed that the

development of fully electronic futures exchanges that are not affiliated

with an existing futures exchange and are organized as for-profit

organizations may present regulatory challenges under the CEA. As such,

they have said that revising the CEA to accommodate both electronic and

open-outcry trading together would be more difficult than drafting a

separate section dedicated to electronic trading systems.

One potential challenge under this approach would be determining

whether a system or exchange would be covered under a new electronic

trading section, the current CEA, or some combination of both. For

example, the major futures exchanges use both open-outcry and electronic

trading systems to trade futures. In some cases, trading on these systems is

linked because the same contracts are traded simultaneously on both

systems. In addition, both systems use the same clearing facilities and

utilize elements of the same order routing system. Given that the openoutcry and electronic trading systems are not wholly separate, it might be

difficult to determine which sections of the CEA would apply to the shared

portions of the systems. In addition, futures exchange officials stated that

drafting a separate CEA section to address electronic trading systems for

exchange-traded futures could subject such systems to less regulation than

open-outcry exchanges, putting open-outcry exchanges at a competitive

disadvantage. These futures exchange officials also disagreed with the

assumption that the relationship between customers and intermediaries

will be less significant features of electronic futures exchanges in the near

future.

Some market participants have suggested developing core principles and

guidelines to which all exchanges and trading systems would be required

to adhere. Under this approach, exchanges and system operators would be

allowed to determine the best means for complying with such principles

and guidelines. These market participants have said that current

regulations can inhibit the use of technology because they are very specific

and in many cases require CFTC approval of new systems, contracts, and

rules. They have also said that core principles and guidelines could

accommodate the development of any new technology better than specific

regulations. According to a United Kingdom regulatory official, this

approach has been adopted in the United Kingdom, and it will facilitate the

Developing Core Principles and

Guidelines
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Page 32 GAO/GGD-00-99 Regulation of Electronic Trading Systems

international coordination that will be increasingly needed as electronic

systems effectively eliminate national borders.

One potential challenge under this approach would be developing

principles and guidelines that are sufficiently flexible and, at the same

time, specific enough to provide a framework that supports appropriate

enforcement action. That is, the less specific a guideline, the more difficult

it can be to determine compliance and, thus, whether and what

enforcement action might be necessary. As discussed below, the

regulatory framework proposed by a CFTC staff task force would replace

prescriptive rules with flexible regulatory principles.

Some market participants have suggested establishing a flexible regulatory

structure under which various types of electronic systems would be

regulated based on the extent to which they raise specific regulatory

concerns. That is, types of systems that raise greater regulatory concerns

would be subject to greater regulation. Such an approach could subject

systems to only the minimum amount of regulation necessary to ensure

that regulatory objectives are met. One potential challenge to this

approach would be developing criteria that distinguish between types of

systems based on the risks they present. The regulatory framework

developed by a CFTC staff task force (discussed further below) proposes

some criteria for making such distinctions. In addition, monitoring

individual systems to the extent necessary to determine if changes in the

system or its operation might warrant a change in regulation could be

difficult for regulators, because a new determination would be required

every time a change was made to the system. Periodic certification of a

system’s adequacy by a third party could provide a means for addressing

this concern.

At the request of the Senate and House Agriculture Committees, the

Working Group completed a study of the OTC derivatives market and, as

discussed above, issued a report in November 1999 that recommended,

among other things, changes to the CEA to clarify the scope of the

Treasury Amendment and to exclude OTC derivatives not involving

nonfinancial commodities with finite supplies. According to the Working

Group, these recommendations, if implemented, would enhance legal

certainty for Treasury Amendment products and other OTC derivatives,

including those traded through certain electronic trading systems. In

addition, the recommendations would eliminate, in effect, most of the

criteria traditionally used to differentiate exchange-traded futures from

OTC derivatives for regulatory purposes.

Establishing a Flexible

Regulatory Structure

The Working Group

Recommendations Address

Legal Uncertainty but

Eliminate Criteria for

Differentiating Exchange

and OTC Derivatives
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Page 33 GAO/GGD-00-99 Regulation of Electronic Trading Systems

To enhance legal certainty for Treasury Amendment products, including

those products traded through electronic systems, the Working Group has

recommended clarifying the amendment’s scope by replacing the term

“board of trade” with the term “organized exchange.” An organized

exchange would be defined as an exchange that is open to retail or agency

transactions60 and that serves a self-regulatory function with respect to its

members or participants (or enters into arrangements with another entity

to serve such a function on its behalf). This change would enhance legal

certainty for OTC derivatives covered by the Treasury Amendment,

including those traded through certain electronic trading systems. For

example, an electronic trading system for Treasury Amendment products

that allowed for the execution of transactions through agents would be

excluded from the CEA, provided it did not serve (or arrange for another

entity to serve) a self-regulatory function.

According to Treasury officials, the Working Group recommendation

serves to protect retail customers transacting in Treasury Amendment

products without unnecessarily disturbing the OTC foreign currency

derivatives market. These officials said that OTC derivatives transactions

in government securities that involve retail customers would be excluded

from the CEA. However, they said that such transactions would be covered

under the Government Securities Act and other provisions of the federal

securities laws, which include antifraud and antimanipulation provisions.

Similarly, the Treasury officials said that OTC derivatives transactions in

foreign currency would be subject to the CEA, if they are entered between

retail customers and entities (or affiliates thereof) that are not regulated by

SEC or a federal banking regulator. According to the Treasury officials, all

other OTC foreign currency transactions would be excluded from the CEA

as long as they are not subject to a self-regulatory regime. These officials

said that the OTC foreign currency market has operated successfully

without any regulation, thus presenting no reason to regulate it. According

to SEC and Treasury officials, the rationale for regulating a SRO is to

ensure that it effectively performs its self-regulatory function and does not

use its authority to the detriment of market participants. Officials of one

futures exchange emphasized that SROs will continue to perform their

self-regulatory functions responsibly in the absence of government

oversight, citing the incentive that exchanges have to protect their

reputations. They said that regulators should provide incentives to

encourage OTC market evolution toward self-regulation—the benefits of

which are well established. In addition, they said that it is illogical to

regulate systems that have proven self-regulatory functions but not to

60 An agency transaction occurs when an intermediary executes a transaction on behalf of a customer.

Clarifying the Scope of the

Treasury Amendment
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Page 34 GAO/GGD-00-99 Regulation of Electronic Trading Systems

regulate those lacking such functions, because doing so could create an

undesirable incentive for exchanges to discontinue their self-regulatory

functions.

As discussed above, CFTC exempted most swaps from the CEA without

determining whether they were futures. CFTC specified four conditions

that swaps had to meet to qualify for an exemption. According to CFTC,

these conditions were intended to reflect the way that swaps transactions

occurred when the exemption was granted and to distinguish exempted

swaps from exchange-traded futures for regulatory—not legal—purposes.

If implemented, the Working Group recommendations would, in effect,

remove three of these four conditions under specified circumstances.

Accordingly, they would remove most of the traditional distinctions

between exchange-traded futures and OTC derivatives not involving

nonfinancial commodities with finite supplies. As a result, the

recommendations raise questions about the rationale for the regulatory

differences between exchange-traded futures and such OTC derivatives—

recognizing that each market may raise similar regulatory concerns and,

thus, warrant comparable regulation.

First, the Working Group has recommended removing from the swaps

exemption the requirement that swaps not involving nonfinancial

commodities with finite supplies not be standardized as to their material

economic terms. If implemented, this recommendation would remove one

of the criteria traditionally used to differentiate between exchange-traded

futures and OTC derivatives, namely that exchange-traded futures

traditionally have had standardized terms, except for price, while OTC

derivatives traditionally have had negotiated, nonstandardized terms. The

Working Group made this recommendation because the current

requirement creates legal uncertainty, insofar as the material economic

terms of many swap agreements are similar. According to the Working

Group report, eliminating this requirement is also necessary to allow for

the development of clearing systems for OTC derivatives, which have the

potential to lessen systemic risk.

Second, the Working Group has recommended that clearing of swaps be

permitted, subject to appropriate regulatory oversight of the clearing

function. Furthermore, the Working Group reported that this exclusion

should not prohibit excluded swaps from being fungible or require that the

creditworthiness of the swaps counterparties be a material consideration,

insofar as transactions are subject to regulated clearing. This

recommendation would remove another of the traditional criteria

differentiating exchange-traded futures and OTC derivatives—namely that

Removing Three of the Four

Conditions of the Swaps

Exemption
B-284243

Page 35 GAO/GGD-00-99 Regulation of Electronic Trading Systems

exchange-traded futures are cleared and settled through clearing

organizations, and OTC derivatives are entered into on a principal-toprincipal basis where each counterparty is exposed to credit risk. The

Working Group made this recommendation because clearing systems can

lessen systemic risk and, therefore, should be encouraged.

Third, the Working Group has recommended excluding from the CEA

electronic trading systems, including MTEFs, used to enter or trade swaps

not involving nonfinancial commodities with finite supplies, provided that

participants in the system act solely for their own accounts. The Working

Group made this recommendation to encourage innovation, competition,

efficiency, liquidity, and transparency in the OTC derivatives market.

Because the recommended change would be in the form of a statutory

exclusion, it would eliminate CFTC’s ability to modify the exclusion in the

future, thereby addressing concerns about such potential action. If

implemented, the recommendation would remove another of the criteria

traditionally used to differentiate futures and OTC derivatives. That is, it

would remove the criteria that futures are traded through the interaction

of multiple buyers and sellers on an organized exchange. In contrast, OTC

derivatives traditionally have been privately negotiated between two

parties outside an organized exchange. In addition, the Working Group

recommended that Congress establish that clearing systems are not, and

do not by themselves imply the presence of, MTEFs, and that an electronic

trading system that is excluded from the CEA does not become subject to

the CEA because transactions entered through the trading system are also

cleared.

The Working Group recommendations, if implemented, would remove

most of the traditional distinctions between exchange-traded futures and

OTC derivatives not involving nonfinancial commodities with finite

supplies. Nonetheless, some distinctions would remain. Specifically,

electronic trading systems for exchange-traded futures might allow for

participation by retail customers and transactions on those systems might

serve a price discovery function. In contrast, electronic trading systems for

OTC derivatives that qualify for an exclusion from the CEA generally could

not allow participation by retail customers, and transactions on those

systems would be presumed not to serve a price discovery function.

According to Treasury officials, the Working Group viewed the OTC

derivatives it recommended for exclusion from the CEA as not serving a

significant price discovery function and, thus, not warranting regulation.

Table 1 summarizes the effects of the Working Group recommendations on

the swaps exemption and the traditional distinctions between exchange-
B-284243

Page 36 GAO/GGD-00-99 Regulation of Electronic Trading Systems

traded futures and OTC derivatives not involving nonfinancial

commodities with finite supplies.

Current swaps exemptive condition Recommended revision

Effect on distinctions between

exchange-traded futures and OTC

derivatives not involving nonfinancial

commodities with finite supplies

The swap agreement must be entered into by

eligible swap participants.

Consider raising minimum discretionary

investment capital for natural persons to

$25 million.

No change.

The swap agreement may not be part of a

fungible class of agreements that are

standardized as to their material economic

terms.

Remove requirement that swap

agreements cannot be fungible insofar as

transactions are subject to regulated

clearing. Remove requirement that swap

agreements cannot be standardized.

OTC swaps could be part of a fungible

class of agreements, provided they are

subject to regulated clearing, and

standardized as to their material economic

terms. Traditionally, exchange-traded

derivatives have been fungible and

standardized, while OTC swaps have been

unique, negotiated instruments.

The creditworthiness of the parties to the

swap agreement must be a material

consideration in entering into and determining

the terms of a swap agreement.

Remove requirement that creditworthiness

be a material consideration insofar as

transactions are subject to regulated

clearing.

OTC swaps could be cleared by a

clearinghouse, provided the clearinghouse

is regulated. Traditionally, exchange-traded

derivatives have used clearinghouses,

while parties to OTC swaps transactions

have faced counterparty credit risk.

The swap agreement may not be entered into

and traded on or through an MTEF.

Amend the CEA to exclude any form of

electronic trading system, provided it

allows only eligible swap participants to act

solely for their own accounts, even if

multiple bids and offers are open to all

participants. Establish that a clearing

system is not, and does not by itself imply

the presence of, an MTEF.

OTC swaps could be traded through the

interaction and execution of multiple bids

and offers. Traditionally, exchange-traded

derivatives have been traded through the

interaction of multiple buyers and sellers,

while OTC swaps have been privately

negotiated.

Source: GAO analysis of the swaps exemption and Working Group recommendations.

In its November 1999 report, the Working Group explained its rationale for

recommending an exclusion from the CEA for electronic systems for OTC

derivatives that meet certain conditions. In doing so, the Working Group

attempted to draw distinctions between the OTC and exchange-traded

derivatives markets for regulatory purposes. These distinctions were based

on the sophistication of system participants, including the existence of

retail customers and an agency function; the susceptibility of contracts to

manipulation; and the existence of a price discovery function. However,

some futures exchange officials have expressed concerns about the

rationale for some of these distinctions. The Working Group

acknowledged that its recommendations, if implemented, would blur the

distinctions between exchange-traded futures and OTC derivatives not

Table 1: Effects of the Working Group Recommendations on the Conditions of the Swaps Exemption and the Distinction

Between Exchange-Traded Futures and OTC Derivatives Not Involving Nonfinancial Commodities With Finite Supplies

The Working Group Has

Explained Its Rationale for

CEA Exclusions and

Supports Relief for Futures

Exchanges
B-284243

Page 37 GAO/GGD-00-99 Regulation of Electronic Trading Systems

involving nonfinancial commodities with finite supplies. The Working

Group has supported CFTC efforts to provide “appropriate regulatory

relief” to the exchange-traded futures markets.

The Working Group has recommended that OTC electronic trading

systems that limit participation to eligible swaps participants trading for

their own accounts be excluded by statute from the CEA. That is, no retail

customers and no agency function would be permitted in excluded

systems. Futures industry officials have expressed concern about the

rationale and potential effect of this recommendation. First, officials from

one futures exchange disagreed that mostly institutional markets—that is,

markets with few retail participants, such as the futures market—should

be subject to the CEA while exclusively institutional markets—that is,

markets with no retail participants—would not be subject to the CEA.

They said that 95 percent or more of the trades in its markets are for

parties who would be considered institutional participants and who would

qualify as eligible swaps participants under the Working Group’s

exclusion. They added that the remaining 5 percent can only access the

futures market through a regulated intermediary, which is responsible for

ensuring that the customer understands the risks of trading and complies

with financial integrity requirements. Officials of two futures exchanges

have agreed with the Working Group that the relationship between a

customer and an intermediary should be subject to some level of

regulation. They have asserted, however, that this relationship can be

regulated separately from trade execution and, therefore, the presence of

retail customers does not provide a sufficient basis for regulating an

execution facility.

Second, officials of one futures exchange have said that users of certain

electronic systems for OTC derivatives are also performing an agency

function. For example, they said that when a bank executes a swap

agreement with a customer, then attempts to offset that agreement by

executing a swap agreement with another customer or dealer, the bank is

effectively acting as an agent for the original customer. However, OCC and

Federal Reserve officials said that in such a situation, a bank is not

executing the transaction on behalf of the customer—that is, acting as an

agent for the customer. Rather, the bank is negotiating the contract with

the customer on a principal-to-principal basis, and the customer, as a

principal, is responsible for protecting its own interests.

Third, a futures exchange official said that an exclusion that limits

participation in a trading system to eligible swaps participants trading for

their own accounts would encourage the creation of exclusively

Concerns Have Been Raised

About Drawing Distinctions

Based on the Sophistication of

Participants
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Page 38 GAO/GGD-00-99 Regulation of Electronic Trading Systems

institutional markets to the disadvantage of retail customers. That is, while

the exclusion would not prevent institutional participants from transacting

in retail markets, it would prevent retail customers from transacting in

institutional markets. According to the futures exchange official, the latter

would be larger and, therefore, more liquid than the comparable markets

available to retail customers. As a result, they would offer better prices.

The Chairman of the Federal Reserve testified that the effect of creating

two markets with different prices could be mitigated to the extent that

traders employ arbitrage strategies to take advantage of price imbalances

between the markets.

The Working Group has also reported that most OTC derivatives are not

susceptible to manipulation because the vast majority are settled in cash,

based on a rate or price determined by a separate, highly liquid market

with a very large or virtually unlimited deliverable supply. The Working

Group contrasted the OTC market with the exchange-traded futures

market for nonfinancial commodities that are in limited supply and, as a

result, are more susceptible to price distortions and manipulation. A

futures exchange official agreed with the Working Group that less

regulation is necessary for contracts that are less susceptible to

manipulation, but they have also said that this principle should be applied

equally to all types of publicly traded derivatives. That is, if a publicly

traded derivative is not susceptible to manipulation, it should be subject to

less regulation, regardless of where it is traded or whether it is a financial

or nonfinancial derivative. In addition, an OTC derivatives market official

said that certain energy-based swaps should receive the same regulatory

treatment as financial derivatives based on their large supply and lack of

susceptibility to manipulation. The CFTC Chairman has said that

establishing criteria for use in determining whether contracts are readily

susceptible to manipulation is a difficult issue that needs to be further

addressed.

The Working Group has also noted that prices established in OTC

derivatives transactions do not currently serve a significant price discovery

function, unlike exchange-traded derivatives for many nonfinancial

commodities. In addition, the Working Group noted that if OTC derivatives

transactions executed on an electronic trading system come to serve a

significant price discovery function, a limited regulatory regime may

become necessary to enhance market transparency and efficiency. Finally,

the Working Group also noted that its members would continue to monitor

and consider the desirability of regulatory or legislative action to address

issues that may arise in the future. Officials of a futures exchange said they

objected to basing an exclusion from the CEA on whether a price

Concerns Have Been Raised

About Drawing Distinctions

Based on the Susceptibility of

Contracts to Manipulation

Concerns Have Been Raised

About Drawing Distinctions

Based on a Price Discovery

Function
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Page 39 GAO/GGD-00-99 Regulation of Electronic Trading Systems

discovery function exists because of the difficulty in determining when

price discovery occurs, either for exchange-traded or OTC derivatives.

In addition, we have expressed concerns in previous reports61 about the

potential risks associated with regulatory gaps in the OTC derivatives

market and the reliance on voluntary industry measures to fill these gaps.

Except for its recommendations related to clearing systems, the Working

Group recommendations, if implemented, would generally continue this

reliance, unless electronic trading systems for OTC derivatives came to

serve a significant price discovery function. Specifically, our ongoing

concern has been that the lack of SEC and CFTC authority to supervise

unregistered affiliates of broker-dealers and FCMs that function as dealers

in the OTC derivatives markets creates a regulatory gap that impedes

SEC’s and CFTC’s ability to identify and mitigate problems that may

threaten markets or the entire financial system. This lack of authority, or

regulatory gap, has become more significant as the percentage of assets

held outside regulated broker-dealers and FCMs has grown.

In a 1998 report on hedge funds,62 the Working Group recognized the

existence of this regulatory gap and recommended that Congress provide

SEC and CFTC with expanded authority to obtain and verify information

from unregistered affiliates of broker-dealers and FCMs. However, as we

reported earlier, this recommendation may not go far enough in enabling

SEC and CFTC to identify and respond more quickly to the next potential

systemic crisis. The Working Group recommendation would still leave

important providers of credit and leverage in the financial system without

firmwide risk management oversight by financial regulators. Without

additional authority to regulate the affiliates, SEC and CFTC do not have

the authority needed to identify and address potential weaknesses in

securities and futures firms’ risk management practices that might lead to

another systemic crisis. Such authority could be similar to that already

available to the Federal Reserve over bank holding companies.

61 See Securities Firms: Assessing the Need to Regulate Additional Financial Activities (GAO/GGD-92-

70, Apr. 21, 1992); Financial Derivatives: Actions Needed to Protect the Financial System (GAO/GGD94-133, May 18, 1994); Financial Derivatives: Actions Taken or Proposed Since May 1994

(GAO/GGD/AIMD-97-8, Nov. 1, 1996); Risk-Based Capital: Regulatory and Industry Approaches to

Capital and Risk (GAO/GGD-98-153, July 20, 1998); and Long-Term Capital Management: Regulators

Need to Focus Greater Attention on Systemic Risk (GAO/GGD-00-3, Oct. 29, 1999).

62 Hedge Funds, Leverage, and the Lessons of Long-Term Capital Management, Report of the

President’s Working Group on Financial Markets, April 28, 1998.
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The Working Group acknowledged that its recommendations, if

implemented, would blur the distinctions between exchange-traded

futures and OTC derivatives not involving nonfinancial commodities with

finite supplies. Moreover, it stated that the recommended exclusions

would create differences in the level of regulation between electronically

traded and cleared OTC derivatives and exchange-traded products with

similar characteristics. Nonetheless, the Working Group stated that its

recommended exclusions are consistent with the public policy goals of

protecting retail customers from unfair practices, protecting price

discovery, and guarding against manipulation. In that regard, it noted that

to the extent that exchange-traded futures markets are accessible to retail

customers, serve a price discovery function, or are susceptible to

manipulation, regulation of these markets may be warranted. Conversely,

to the extent that these factors are less relevant to certain futures markets,

regulatory adjustments may be necessary.

Recognizing that exchange-traded futures should not be subject to

regulations that do not have a public policy justification, the Working

Group has supported CFTC efforts to provide appropriate regulatory relief

to the U.S. exchange-traded futures market. First, the Working Group has

recommended that exchanges that have been designated as regulated

contract markets by CFTC be permitted to establish electronic trading

systems for qualified swaps that would not be regulated. Such electronic

trading systems would be limited to eligible participants trading for their

own accounts. Second, the Working Group has recommended that

Congress explicitly authorize CFTC to use its exemptive authority to

provide regulatory relief for exchange-traded financial futures. As a result

of this second recommendation, the Senate and House Agriculture

Committees, in a November 1999 letter, encouraged CFTC to use its

exemptive authority to lessen the regulatory burdens on the U.S. futures

market.

In response to the November 1999 letter, a CFTC staff task force has

proposed to the Commission a regulatory framework designed to move

CFTC from a direct regulator to an oversight regulator. The proposed

framework would establish three types of trading facilities and make no

distinction between electronic and open-outcry systems. According to the

task force, each type of facility would be subject to a different level of

CFTC oversight based on the nature of the commodities traded on the

system as well as the sophistication of the participants allowed to trade on

the system. Facility operators could choose to operate as any one or a

combination of the three types of facilities. In addition, the framework

would permit clearinghouses to be separate from an exchange or trading

The Working Group Supports

CFTC Efforts to Provide

Regulatory Relief to Futures

Exchanges

CFTC Has Undertaken

Actions to Provide

Regulatory Relief to the

Exchange-Traded Futures

Market
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Page 41 GAO/GGD-00-99 Regulation of Electronic Trading Systems

facility. The proposed framework would also replace prescriptive rules

with flexible core principles, including rules for intermediaries and

clearinghouses. According to the task force report, in addition to providing

facility operators with greater flexibility, the proposed framework would

provide OTC trading facilities with greater certainty that their contracts

would be legally enforceable. The framework would, among other things,

clarify that certain otherwise excluded or exempted OTC derivative

transactions could be cleared and that certain transactions entered into in

reliance on the swaps exemption would not become illegal due to a

violation of that same exemption. CFTC anticipates using the proposed

framework as the basis for a notice-and-comment rulemaking to be issued

in the near future. In addition, the agency plans to hold at least one public

hearing to discuss issues related to the proposed framework.

CFTC has undertaken other actions designed to provide regulatory relief

to U.S. futures exchanges. First, in November 1999, CFTC proposed a

revision to its contract market rule filing and review procedures that

would allow exchanges to place new rules and rule amendments into

effect 1 business day after submission to and receipt by CFTC, subject to

certain conditions.63 Second, in a November 1999 companion release,

CFTC revised the required procedures for listing new types of contracts to

allow exchanges to list such contracts for trading without first receiving

CFTC approval.64

House and Senate committees are considering actions that would address

issues related to electronic trading systems in the OTC derivatives and/or

exchange-traded futures markets. On April 6, 2000, Representative Leach,

Chairman of the House Committee on Banking and Financial Services,

introduced a bill that would implement the Working Group’s

recommendations, including those related to electronic trading of OTC

derivatives. On April 11, 2000, Representative Leach held a hearing to

address legislative issues stemming from the Working Group

recommendations. In addition, Senator Lugar, Chairman of the Senate

Agriculture Committee, and Representative Ewing, Chairman of the

Subcommittee on Risk Management, Research, and Specialty Crops, House

Agriculture Committee, are separately developing legislation that would

implement the Working Group’s recommendations, as well as elements of

the CFTC staff task force’s proposed regulatory framework.

63 Proposed Revision of the Commission’s Procedure for the Review of Contract Market Rules, 64 Fed.

Reg. 66428 (1999). In March 2000, CFTC stated that this proposed revision would be addressed as part

of the proposed regulatory framework discussed above.

64 Revised Procedures for Listing New Contracts, 64 Fed. Reg. 66373-01 (1999).

Congressional Action Is

Being Considered
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Page 42 GAO/GGD-00-99 Regulation of Electronic Trading Systems

Although technology is being used in the derivatives markets to increase

efficiency, thereby making trading faster and cheaper, its use can also

further regulatory objectives. Specifically, the use of technology has the

potential to (1) enhance market integrity; (2) promote financial integrity

by, among other things, reducing systemic risk; and (3) improve customer

protection. Despite these potential benefits, the use of technology in the

derivatives markets can raise concerns that may warrant a shift in the

current regulatory focus. For example, the development of AORS that

allow customers to enter orders directly from their computers has raised

concerns among some futures market participants about the need for best

practices that address, among other things, the adequacy of system

security and controls over customer trading. In addition, the use of

technology in the exchange-traded and OTC derivatives markets has raised

concerns about the potential for the current regulatory structure to hinder

the continued development and use of electronic trading systems and, in

turn, the ability of the U.S. markets to remain globally competitive.

U.S. regulators and policymakers have recognized these concerns about

the use of technology in the derivatives markets and are attempting to

address them. To address concerns related to AORS, NFA officials told us

that NFA and FII are developing best practices for order routing that will

cover AORS. Also, actions have been taken to address concerns about the

potential for the current regulatory structure to hinder the use of

technology in the derivatives markets. In November 1999, the Working

Group made several recommendations designed, in part, to reduce legal

uncertainty concerning the use of electronic trading systems for OTC

derivatives that do not involve nonfinancial commodities with finite

supplies. Additionally, in February 2000, a CFTC staff task force proposed

to the Commission a regulatory structure designed to provide futures

exchanges with greater flexibility in meeting regulatory requirements and

to enhance legal certainty for electronically traded OTC derivatives.

Finally, congressional committees are considering actions that would

implement the Working Group’s recommendations and/or elements of the

CFTC staff task force proposal.

Although the Working Group recommendations, if implemented, would

remove legal impediments facing electronically traded OTC derivatives not

involving nonfinancial commodities with finite supplies, they present some

challenges. First, by potentially removing most of the traditional

distinctions between such OTC derivatives and exchange-traded futures,

these recommendations raise a question about the rationale for the

regulatory differences between these products when traded on electronic

trading systems. Second, the recommendation to exclude such

Conclusions
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Page 43 GAO/GGD-00-99 Regulation of Electronic Trading Systems

electronically traded OTC derivatives from regulation as long as they do

not serve a significant price discovery function raises a question about

how and by whom this determination would be made. Third, the Working

Group recommendations, with one exception, would continue the reliance

on voluntary industry measures to fill the regulatory gap involving

unregistered affiliates of broker-dealers and FCMs that function as dealers

in the OTC derivatives market. As discussed in other reports, we are

concerned about the potential risks that this regulatory gap presents to the

markets and the financial system and continue to believe it should be

closed.

While recognizing that some actions are being taken to address the

regulatory concerns raised by the development and use of electronic

systems in the exchange-traded and OTC derivatives markets, we believe

that continued progress in these and related areas could be critical to

ensuring that the U.S. derivatives futures markets remain innovative and

globally competitive. Such progress requires that the federal financial

market regulators remain aware of how rapidly changing technology is

affecting the derivatives markets. In particular, regulators need to know

whether existing regulations are impeding the development and use of

electronic trading systems and whether additional regulations or different

regulatory approaches are needed to protect the markets and their users.

Recognizing the difficulty of ensuring that regulations appropriately

address market risks in stable periods and the additional challenges that

are likely to be presented by ongoing and rapid advances in technology:

• We recommend that the Secretary of the Treasury; the Chairman, CFTC;

the Chairman, Board of Governors of the Federal Reserve System; and

the Chairman, SEC, as members of the President’s Working Group on

Financial Markets, monitor and report to Congress, as appropriate, on

regulatory concerns related to the application of technology in the

derivatives markets. Such efforts should address (1) the implementation

status and market impact of the Working Group’s 1999

recommendations related to electronic trading in the OTC derivatives

and exchange-traded futures markets, (2) the need to impose a

regulatory regime on OTC derivatives that are electronically traded to

enhance market transparency and efficiency, and (3) the desirability of

regulatory or legislative action to address concerns associated with

electronic trading.

• Similarly, we recommend that the Chairman, CFTC, monitor and report

to Congress, as appropriate, on (1) the status of NFA and FII efforts to

Recommendations
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Page 44 GAO/GGD-00-99 Regulation of Electronic Trading Systems

develop best practices for order routing that address AORS and the

adequacy of industry efforts to implement these practices and (2) the

status and market impact of efforts to implement the regulatory

framework proposed by the CFTC task force in its February 2000 report.

With the exception of our recommendation to the Chairman, CFTC, related

to AORS, the federal financial regulators, CBT, FIA, and NFA generally

agreed with the conclusions and recommendations in our draft report.

Regarding a draft recommendation that the Chairman, CFTC, monitor and

report to Congress, as appropriate, on the implementation status and

market impact of efforts to develop minimum standards for AORS, CFTC

commented that, based on industry feedback, the agency no longer plans

to issue such standards. We revised the report to reflect this information.

As discussed above, CFTC has provided NFA and FII with $1 million to

develop best practices for order routing systems, including AORS. Our

revised recommendation to CFTC focuses on our concern that NFA and

FII efforts to develop best practices adequately address AORS and that the

futures industry takes appropriate steps to implement the best practices.

Regarding a draft recommendation to the Secretary of the Treasury, as

Chairman of the President’s Working Group on Financial Markets, officials

from the Federal Reserve and Treasury stated that it would be more

appropriate to address the recommendation to each of the members of the

Working Group. We revised our recommendation accordingly.

Technical comments provided by CFTC, the Federal Reserve Board, OCC,

SEC, Treasury, CBT, FIA, and NFA were incorporated into this report, as

appropriate.

We are sending a copy of this report to Representative Larry Combest,

Chairman, House Committee on Agriculture; Senator Tom Harkin, Ranking

Minority Member, Senate Committee on Agriculture, Nutrition and

Forestry; Representative Charles Stenholm, Ranking Minority Member,

House Committee on Agriculture; Representative Gary A. Condit, Ranking

Minority Member, Subcommittee on Risk Management, Research, and

Specialty Crops, House Committee on Agriculture; the Honorable

Lawrence H. Summers, Secretary of the Treasury; the Honorable Alan

Greenspan, Chairman of the Board of Governors of the Federal Reserve;

the Honorable William J. Rainer, Chairman, CFTC; the Honorable Arthur

Levitt, Chairman, SEC; and other interested parties. We will also make

copies available to others upon request.

Agency and Industry

Comments and Our

Evaluation
B-284243

Page 45 GAO/GGD-00-99 Regulation of Electronic Trading Systems

If you or your staff have any questions regarding this report, please call me

at (202) 512-8678 or Cecile O. Trop at (312) 220-7600. Key contributors to

this report are acknowledged in appendix I.

Thomas J. McCool

Director, Financial Institutions

and Market Issues
Appendix I

GAO Contacts and Staff Acknowledgments

Page 46 GAO/GGD-00-99 Regulation of Electronic Trading Systems

Thomas J. McCool, (202) 512-8678

Cecile O. Trop, (312) 220-7600

In addition to the persons named above, Richard J. Hillman, Patrick A.

Ward, Richard S. Tsuhara, Angela Pun, and Sindy R. Udell made key

contributions to this report.

GAO Contacts

Acknowledgments
Page 47 GAO/GGD-00-99 Regulation of Electronic Trading Systems
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