UNITED STATES OF AMERICA

 COMMODITY FUTURES TRADING COMMISSION

 OPEN MEETING OF THE COMMISSION

 TO CONSIDER A SUPPLEMENTAL PROPOSAL 

 TO AUTOMATED TRADING REGULATION

 Washington, D.C.

 Friday, November 4, 2016
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 PARTICIPANTS:

 Commissioners:

 CHAIRMAN TIMOTHY G. MASSAD

 COMMISSIONER SHARON Y. BOWEN

 COMMISSIONER J. CHRISTOPHER GIANCARLO

 CFTC Staff:

 

 

 

 

CHRISTOPHER KIRKPATRICK

Secretary of the Commission

 

 

ROBERT SIDMAN

 Deputy Secretary

 

 

 

Staff Presentation: Supplemental Notice of

Proposed Rulemaking - Regulation Automated

Trading:

 VINCE McGONAGLE

Division of Market Oversight

SEBASTIAN PUJOL

 Division of Market Oversight

 MARILEE DAHLMAN

Division of Market Oversight

JOSEPH OTCHIN

 Division of Market Oversight

Other Participants:

 

 

 RACHEL BERDANSKY

Division of Market Oversight

JOHN DUNFEE

 Office of General Counsel

 CARLIN METZGER

Division of Enforcement
 

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 PARTICIPANTS (CONT'D):

MICHAEL PENICK

Office of the Chief Economist

BRIAN ROBINSON

Division of Market Oversight

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 P R O C E E D I N G S

 (10:00 a.m.)

 CHAIRMAN MASSAD: Good morning. This

 meeting will come to order. This is a public

 meeting of the Commodity Futures Trading

 Commission. I'd like to welcome members of the

 public, market participants and members of the

 media, as well as those taking part on the phone

 or via webcast. I'm pleased to be joined by my

 colleagues Commissioner Sharon Bowen and

 Commissioner Chris Giancarlo. Today we gather to

 consider a supplemental proposal related to

 Regulation AT, our proposed rule to address the

 increased use of automated trading in the markets.

As we all know, automated trading now

 dominates the markets we oversee. More than 70

 percent of trading in futures is now automated.

 And this is not just in financial futures. This

is in physical commodity futures as well. And our

 markets have fundamentally changed as a result.

 We've gone, in just a few years, from the days of

 open outcry pits where floor traders jostled elbow
 

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 to elbow to make trades to a machine-dominated

 market, where today a millisecond is considered

 slow. In fact, the new measure is a microsecond.

 In the time it would take a trader, say, to hang

 up the phone and signal a bid with his hands in

 the pit, today's machines can probably generate

 anywhere from 1,600 to 2,000 orders. In fact, in

 the time it has taken me to read this part of my

 opening statement, which is about a minute, more

 than 60 million microseconds have passed, enough

 time for probably 50,000 orders.

 But in another respect our markets have

 not changed at all. Farmers, ranchers,

 manufacturers, exporters, businesses of all types

 still depend on these markets to hedge routine

 risk and engage in price discovery. Whether it is

 corn or copper, crude oil or cocoa, equities or

 treasuries, Japanese yen or British pounds,

 businesses need these markets. They need them to

 function reliably, fairly and free of manipulation

 or disruption. And if anything has changed, it is

 that those needs are even greater today. They are

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 greater because businesses operate worldwide.

 Commodity markets are global and products are more

 diverse. Market participants look to us to make

 sure these markets operate with integrity. And so

 while the landscape has changed dramatically, our

 mission has stayed the same.

 And let me just say that I meet with

 market participants of all types, and I find that

 traditional end-users, such as those from the

 agricultural community in particular, are

 concerned about the effects of automated trading

 in these markets today. So it's especially

 important for us to be able to respond to the

 concerns of those who are not, let's say the

 so-called "flash boys," and are only moving at

 human speed.

Today our regulations have not kept up

 with our modern markets. And today's proposal is

 a part of what we need to do to keep our

 regulatory system up to date, just as you need

 updates periodically for your phone's operating

 system.
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 There are other things we need to do to

 modernize our regulatory oversight, and in

 particular to engage in adequate surveillance of

 modern trading methods. We must continue to

 enhance our ability to receive and analyze message

 and other types of data. We must have adequate

 data on trading and related cash markets. And

 regulators must cooperate because markets are

 increasingly linked. So that's why we are here

 today. Our proposal is designed to minimize the

 risk of disruption and other problems that can be

 caused by automated trading, algorithmic trading,

 and to make sure we have the tools to deal with

 those problems should they occur.

 It requires reasonable controls, using a

 principles-based approach that would codify many

 industry best practices. But it does not

 prescribe the parameters or limits of such

 controls because we know how diverse market

 participants can be. And we believe they are the

 ones who should determine those specifics.

 It requires testing and monitoring of
 

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algorithms. It requires the preservation of

source code and other records, the equivalent of

the records that those trading at human speed have

preserved for years. And it ensures that we would

have access to such records when necessary, just

as for years we have reviewed the records of the

traders who operate at human speed. In the last

year we received significant feedback on the

proposal that the Commission unanimously approved

in November of last year. And today's

supplemental proposal makes a number of changes to

that initial measure. They reflect the

suggestions and comments we have received.

The changes we will consider today

modify the basic risk control requirements, so

that we achieve the proper coverage in an

efficient manner. They modify the registration

requirement, so that it focuses instead on the

larger participants. They lessen some of the

reporting requirements while still requiring a

certification of compliance. And they address the

concerns raised about access to source code. On
 

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that issue the proposal requires the Commission

itself to make the decision to seek access to

source code. No staff member can do so without

Commission approval.

 This is a significant departure from our

standard practice which allows staff to seek

access to information that registrants are

required to preserve without a subpoena or

specific Commission authorization. Now the

Commission could authorize the staff to seek such

access either by means of a subpoena or a special

call. That is, the process we are proposing will

require the same level of Commission review that

comes with the issuance of a subpoena, even if it

is for surveillance purposes. Our proposal also

describes the steps we can take to preserve the

confidentiality of source code. Now our staff

will highlight these and the other changes in more

detail in a moment and I want to express my great

appreciation to all of them for the hard work on

this rule. You'll hear from several in a moment.

There are many others who have also participated.
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 Let me just conclude by saying we have

long engaged in surveillance that involves

reviewing information that has significant

proprietary value; information on trading

strategies, including activities of traders in

related markets, information that would go to

whether a position truly is a bona fide hedge,

such as purchase or supply commitments of related

cash commodities, inventory levels, production

expectations and so forth.

We should not have a regulatory regime

where those who still trade at human speed are

subject to effective surveillance, but those who

use machines are not. Our rules should not favor

one method over another. And nobody should be

able to hide behind their machines.

 Thank you. Now let me recognize

Commissioner Bowen for her opening remarks.

 COMMISSIONER BOWEN: Thank you. Good

morning. I'm glad to be here this morning as the

Commission considers the supplemental proposal for

rulemaking in automated trading. I've said
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 several times before that I'm a believer in two

 things -- the need to enhance our rules to ensure

 that they are appropriately rigorous and

 protective and to find a rule that works and that

 can be effectively implemented. I'm pleased to

 say that I believe that today's release does both.

 So I want to commend our staff for your hard work

 on this proposal. Following significant

 engagement with a variety of stakeholders, from

 exchanges, proprietary traders to advocates of

 financial reform, we're making several important

 revisions to our proposed rule on automated

 trading.

 Of these changes there are two in

 particular I want to flag. First, we are revising

 our registration regime to better focus our

 attention and regulations on the firms responsible

 for a substantial amount of automated trading in

 our markets. Under this proposal firms that use

Direct Electronic Access, or DEA, to connect to

 our markets will not automatically have to

 register. Instead, only those firms which use DEA
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 and also average 20,000 or more trades each day

 over a six-month period will be required to

 register.

 It only seems appropriate that firms

 responsible for a substantial portion of our

 markets should have heightened trading regulations

 than small firms who only enter a handful of

 trades a day.

While a one-size-fits-all system may

 work in some cases, I believe it will be unduly

 burdensome to small firms to require that anyone

 who uses DEA automatically has to register. By

 offering a specific threshold for registration,

 however, it is critical that we pick the right

 number. I therefore am looking forward to

 comments from market participants on whether

 20,000 trades per day is the right level. Is it

 too high? Is it too low? Given the interest in

 our previous proposal and registration that has

 engendered in the past, I'm pretty sure that there

 will be a spirited debate as to what the proper

 threshold should be.
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 While small firms with small volumes

 would not be required to register, it is not the

 case that their trades will be unregulated. In

 fact, the second major revision of today's

 proposal will require that all electronic trading,

 algorithmic as well as non-algorithmic, will have

 two separate layers of pre-trade risk controls on

 it. As a result, under this proposal we will be

 ensuring that every single electronic trade in our

 markets is subject to two levels of pre-trade risk

 controls without exception.

 Given the constant technological

 innovations and redesigns involving algo trading I

 believe having two levels of risk controls is not

 only the most prudent course of action, but it's

 also a critical protection against market

 malfunction harming investors in our broader

 economy.

 As I've said before however, I believe

this regulation is merely a first cut. Having

looked at this issue for nearly a year, I have

some doubts as to whether we're doing enough to
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ensure that all market participants, especially

end-users in our markets, are being given a level

playing field at present, due to the proliferation

of algo trading. I therefore believe that we

should consider instituting pilot programs in

certain small sections of the market that can test

the effects of additional and more substantial

restrictions on algo trading. Please note I do

not believe it is time to place more rigorous

restrictions in algo trading in all the markets we

regulate. Instead, I only believe that we should

see whether there are some markets where a

significant percentage of end-users are interested

in establishing greater monitoring and regulation

of algo trading.

If one or two such markets exist, then

those markets could be candidates for a tailored

pilot program to gather data on the effects of

algo trading on their markets. We could then gain

important insight on the effects of new market

dynamics that can change or evolve. If you are an

end-user and believe that your market would
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 I've had the pleasure of meeting with

 some members of the National Cattlemen's Beef

 Association earlier this year and more recently.

 They informed me that they believe algo trading is

 having a substantial impact on livestock markets.

 And they are interested in gaining more data on

 how algo trading is influencing livestock prices.

 I share the desire for more information, both as

 to whether this rule is regarded as being a step

 in the right direction and about what, if any,

 effects algo trading is having on our markets. If

 an observer has any issue with any part of this

 rule, especially if you feel it's too weak, I

 sincerely hope that you will lay out your concerns

 in detail and let us know how we can improve it.

 Finally, I want to thank stakeholders,

particularly several industry groups, for their

engagement with the Commission since we released

our proposal. I was very happy to learn that many

 benefit from such a tailored pilot program, I

 encourage you to convey that message to the

 Commission.
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 1 aspects of this proposal, including the idea of

 requiring pre-trade risk controls on all

 electronic trades were suggested by members of the

 industry. We have notice-and-comment requirements

 for many reasons -- increased transparency, an

 opportunity for public comment, and of course to

 set procedural strictures on government. But one

 of the reasons undergirding our system of

 notice-and-comment is the idea that regulators do

 not have all the answers all of the time. And

 there is a role for market participants to play

 during the regulatory process. The fact that

 industry participants were able to devise and

 endorse a broad regulatory requirement on all

 automated trading is to be commended. Thank you,

 and I look forward to today's presentation and

 ongoing dialogue.

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 COMMISSIONER GIANCARLO: Thank you,

 22 Chairman and thank you Commissioner Bowen. Good

CHAIRMAN MASSAD: Thank you,

Commissioner Bowen. Let me now turn to

Commissioner Giancarlo.
 

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 morning, everyone. Thank you to the staff for

 being here. And I look forward very much to your

 presentation. What I'd like to do is hold back my

 oral statement until I've had a chance to hear

 your presentation and ask you a few questions and

 thereafter I'll give my statement before the vote,

 thank you.

 CHAIRMAN MASSAD: Okay, thank you. All

 right, in a few moments I'll ask the staff to make

 a presentation to the Commission on the

 supplemental proposal. And after the presentation

 the floor will be open for questions and comments

 from each of the Commissioners. Following the

 close of the Commission's discussion, I expect

 that we will take a vote on the staff proposal as

 presented. The final vote conducted in this

 public meeting will be a recorded vote. The

 result of the vote approving the issuance of the

 supplemental proposal, should that be the outcome,

 will be included with that document when it is

 published in the Federal Register. At this point

 I ask for the Commission's unanimous consent to
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 allow staff to make technical corrections to the

 document that may be approved today, assuming it

 is approved, prior to sending it to the Federal

 Register.

 Without objection, it is so ordered.

Okay, at this time I would like to welcome the

following staff for their presentations on the

supplemental proposal to the Commission's

automated trading regulation. First, Vince

McGonagle, Director of the Division of Market 

Oversight. And also from the Division of Market

Oversight, we have Marilee Dahlman, Sebastian

Pujol and Joseph Otchin. Please proceed.

 MR. PUJOL: Thank you, Mr. Chairman, and

 good morning, Commissioners. Staff of the

 Division of Market Oversight is pleased to present

 today, a supplemental notice of proposed

 rulemaking to amend and streamline the

 Commission's rules for Regulation AT. Before

 beginning, I'd like to thank the divisions and

 offices of Market Oversight, Enforcement, General

 Counsel and Chief Economist for their hard work in
 

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 completing this supplemental. I'd particularly

 like to acknowledge Mike Penick, Richard Haynes,

 John Dunfee, Carlin Metzger, Brian Robinson,

 Andrew Ridenour, Joe Otchin and Marilee Dahlman,

 as members of the rulemaking team.

 I'd also like to thank senior staff from

the Division of Market Oversight, including Vince

McGonagle and Rachel Berdansky for their continued

support of our efforts. Staff's presentation

today will focus on three areas. First, we'll

briefly discuss Regulation AT's development, and

its policy objectives. Second, we'll summarize

the substantive content of the supplemental,

focusing on key areas where staff recommends

changes to the NPRM to address public comments and

concerns. Finally, my colleagues Marilee and Joe

will provide greater detail regarding changes to

the risk control framework and to the definition

of AT Person in today's supplemental.

 Regulation AT is a comprehensive effort

 to reduce risk in algorithmic order origination

 and electronic trade execution on all U.S. futures
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 exchanges. The proposed rules, both in the NPRM

 and in today's supplemental, modernize the

 Commission's regulatory regime, promote the safety

 and soundness of trading and seek to keep pace

 with evolving market technologies. To accomplish

 these aims Regulation AT focuses specifically on

 registration, pre-trade risk controls, testing,

 supervision, recordkeeping and transparency in

 algorithmic and electronic trading.

The Commission's consideration of

 standards in these areas has included numerous

 opportunities for public comment and input. As

 early as 2011, the Commission's Technology

 Advisory Committee developed recommendations for

 pre-trade risk controls at the trading firm,

 clearing firm and exchange levels. In 2013, the

 Commission published its concept release on risk

 controls and system safeguards, which provided a

 comprehensive discussion of industry best

 practices, Commission regulations and work by

 other U.S. and foreign regulators. In December of

 2015, the Commission published the NPRM for
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 Regulation AT. And finally, in June of this year

 Commission staff held a day-long public roundtable

 to discuss important aspects of the proposed rules

and to provide additional opportunities for public

 comment.

As part of this staff process the

 Commission also reopened the comment period for

 Regulation AT. I'd like to close this overview by

 noting that today's supplemental is a continuation

 of the NPRM procedurally. Therefore, all rules

 proposed in the NPRM remain under consideration as

 originally proposed unless specifically amended by

 the supplemental. Accordingly, the remainder of

 staff's presentation will focus on areas where the

 supplemental modifies the Commission's original

proposal.

The supplemental amends proposed

Regulation AT in several respects, including four

which we will summarize this morning. First, it

revises the proposed risk control framework so

that controls are required only at two levels,

rather than three as originally proposed. Second,
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 1 the supplemental adds a volume-based test to the

 criteria for determining who is an AT Person,

 including who must register as a new floor trader.

 Third, the supplemental eliminates annual

 reporting requirements that would have been

 applicable to AT Persons and FCMs. Fourth, and

 finally, the supplemental addresses access to

 algorithmic trading source code by proposing a new

 and heightened process that requires Commission

 authorization for any staff access to source code.

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 turn. First, as a threshold matter, Regulation AT

 defines a new category of market participants, AT

 Persons, and requires pre-trade risk controls,

 testing, recordkeeping and other safeguards around

 their algorithmic trading. The NPRM proposed

 requiring risk controls at three levels -- AT

 Person, FCM and DCM. Many commenters however,

 asserted that a two-level structure would be

 preferable and more cost effective. After careful

 consideration, today's supplemental proposes

 shifting Regulation AT to a modified two-level

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 structure. Risk controls would be set at the

 level, first, of an AT Person or its FCM and,

 second, at the DCM.

The supplemental also provides

flexibility by allowing AT Persons who do not wish

to operate their own pre-trade risk controls to

delegate that responsibility to their FCM. The

NPRM also proposed requiring risk controls only

with respect to the algorithmic trading of AT

Persons. In contrast, the supplemental addresses

not only algorithmic trading, but also electronic

trading. In this regard, the supplemental is

again responsive to public comments indicating

that all electronic trading presents potential

risks and should pass through appropriate

pre-trade controls.

A second area of focus is that

 Regulation AT requires registration of certain

 market participants who are not already registered

 with the Commission. Such participants would

 register as floor traders and would also be

required to become members of a registered futures
 

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 association. Together with existing registrants

 engaged in algorithmic trading, new floor traders

 would be considered AT Persons and be subject to

 the proposed rules. The NPRM specified

 proprietary, algorithmic trading through direct

 access as registration criteria for new floor

 traders.

The supplemental adds a trading volume

 test to these proposed criteria. This amendment

 responds to concerns that the NPRM would have

 imposed registration and AT Person status on too

 large a population of market participants. The

 supplemental also applies this same trading volume

 test to existing registrants to determine whether

 they are also AT Persons. Staff estimates that

 the proposed rules would result in approximately

 120 AT Persons, including some 70 who are already

 registered with the Commission in some capacity.

 Third, the NPRM proposed that FCMs and

 AT Persons must provide DCMs with annual reports

 regarding their compliance with Regulation AT.

 The NPRM also required DCMs to establish programs
 

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 for effective review of such reports. In

response, the Commission received comments

 indicating that the annual reports would be an

 overly burdensome requirement with little benefit

 in mitigating risks associated with algorithmic

 trading. Staff evaluated these comments and

 recommends that the Commission replace the NPRM's

 reporting requirements with a streamlined simpler

 annual certification process.

 To help ensure effective implementation

 of risk controls and other measures required by

 the proposed rules, staff also recommends that the

 Commission leverage the DCM's role as front line

 regulators and require that they establish

 programs for effective periodic review of AT

 Persons' and FCM's compliance with Regulation AT.

 Finally, source code -- the NPRM's

proposal for recordkeeping and access to source

code garnered significant attention from

commenters, including many who were concerned

about the confidentiality and information security

of source code if brought on-site to the
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 Commission. To begin this discussion, staff would

 like to emphasize that the supplemental proposes

 significant revisions to the Commission's original

 proposal. These revisions provide for a unique

 and heightened protections around access to source

 code, including provisions that would make source

 code available to staff only through subpoena or

 special call authorized by the Commission.

 As background, the NPRM proposed new

 recordkeeping rules to make clear that AT Persons

 must maintain copies of their source code. The

 NPRM also required that AT Persons make records

 available in accordance with Commission Regulation

 1.31, which provides that records must be produced

 to any representative of the Commission upon

 request. The rules proposed in the NPRM are

 consistent with the Commission's traditional

 statutory and regulatory authority governing

 access to books and records. Staff notes, for

 example, that the CEA requires registrants and

 registered entities to maintain books and records

 and to provide for prompt access to such records
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 1 by the Commission and its staff in the numerous

 2 provisions.

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 Staff has taken these comments seriously

 and has endeavored to address the Commission's

 regulatory interest, while at the same time

 respecting AT Persons' concern for their source

 Some commenters may have misconstrued

 the NPRM to require more than intended. For

 example, the NPRM did not require the routine

 transfer of all source code to the Commission or

 other party for centralized storage. As noted

 previously, other commenters raised

 confidentiality, information security, and process

 concerns regarding source code on Commission

 premises.

 These sections include nearly identical

language stating that registrants and registered

entities must keep books and records in such form

and manner and for such period of time as may be

required by the Commission and shall keep such

books and records open to inspection by any

representative of the Commission.
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 code. Most importantly, the supplemental

 transfers access to source code from the general

 books and records provisions of Regulation 1.31

 that I described previously to a new proposed

 Regulation 1.84. Proposed 1.84 clearly

 articulates that staff's access to source code is

 limited to subpoena or special call, a new

 heightened procedure for source code and related

 records. Execution of a special call must be

 authorized by the Commission itself.

 An execution would be limited to the

 director of the Division of Market Oversight, once

 authorized by the Commission. The special call's

 nexus to market oversight emphasizes proposed

 regulation 1.84's use in understanding markets and

 market events, a CFTC function that is distinct

 from the investigative subpoena process. Proposed

 1.84 also includes other important provisions,

 including a requirement that AT Persons keep

 records of the log files generated in the ordinary

 course of their algorithmic trading systems.

 Absent subpoena, access to such log files would
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 also be limited to special call authorized by the

 Commission. As with other regulatory records,

 both source code and log files would be required

 to be maintained for five years.

Finally, as an additional protection,

proposed 1.84 emphasizes in the regulatory text

the protections -- the confidentiality protections

-- embedded in the Commodity Exchange Act and

Commission regulations and emphasizes that section

8(a) of the Act would apply to source code and to

log files.

 I'll now turn the presentation over to

my colleagues Marilee and Joe for a more detailed

description of two items. First, the

supplemental's revised risk control framework and

second, its new volume threshold test. Thank you.

 MS. DAHLMAN: As Sebastian indicated,

 the supplemental revises the overall framework for

 risk controls. The NPRM imposed pre-trade risk

 control and other requirements at three levels --

 AT Persons, FCMs and DCMs. The NPRM allowed the

 relevant entity discretion in the design and
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parameters of the controls and the supplemental

continues to provide that discretion. However,

the supplemental proposes a risk control framework

with controls at two, rather than three, levels.

At the first level controls must be implemented by

either the AT Person or its FCM. DCMs would

implement risk controls at the second level.

 This revised structure is intended to

 prevent and mitigate potential market disruptions,

 while at the same time responding to concerns

 about the complexity of the risk control framework

 and overall costs of compliance. By requiring two

 levels of risk controls, failures at one level

 will have a backstop, thereby reducing the

 possibility of a trading disruption.

 At the first level, whether the AT

 Person or FCM implements the risk controls depends

 on whether the order is originated by an AT Person

 or a non-AT Person market participant and whether

 the AT Person has delegated compliance to its FCM.

 Specifically, Section 1.80 requires AT Persons to

 implement risk control measures on their orders,
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 1 but new section 1.80(d) allows an AT Person to

 delegate compliance with risk control requirements

 to its executing FCM.

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 The supplemental's proposed rules do not

 require the FCM to accept the delegation. If the

 FCM declines, the AT Person must implement the

 risk controls itself. As to orders not

 originating with AT Persons, FCMs are required to

 implement risk controls on those non-AT Person

 customer orders. For trading firms that prefer to

 implement their own risk controls rather than

 leave the implementation of such measures to their

 FCM, the supplemental adds to the definition of AT

 Person a provision that allows a market

 participant to voluntarily elect to become an AT

 Person.

 Another important revision to the risk

 control structure is that both levels of risk

 controls now apply to electronic trading rather

 than only to algorithmic trading. Specifically,

 pursuant to new section 1.80(g), AT Persons must

 apply their risk controls and other measures
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 through electronic trading. In addition, the

 proposed rules applicable to FCMs and DCMs have

 been revised to generally apply to electronic

 trading. Paired with these rule changes, the

 supplemental proposes a new defined term --

 electronic trading -- and defined term, electronic

 trading order message. As a whole, the revised

 risk control framework addresses concerns

 regarding market disruptions that could arise from

 electronic trading, while also preserving a focus

 on the unique risks of algorithmic trading in

modern markets.

 Finally, the supplemental changes

 terminology in Regulation AT relating to FCMs. In

 the NPRM, proposed risk control and reporting

 rules apply to clearing member FCMs. Now such

 rules apply to executing FCMs in order to respond

 to the concern that those firms are better

 positioned to apply risk controls on a pre-trade

 basis.

 MR. OTCHIN: The NPRM proposed requiring

 persons to register as new floor traders if they
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 engaged in proprietary algorithmic trading through

 direct electronic access on a DCM. The

 supplemental retains these requirements, but also

 incorporates a volume-based quantitative test for

 registration as a new floor trader. This proposal

 responds to commenter concerns that the NPRM

 required too large a population of market

 participants to register with the Commission. In

 addition to applying to new floor traders, the

 proposed volume threshold test would also apply to

 current Commission registrants to help define

 whether they are AT Persons.

 The volume threshold test involves

 quantitative metrics based on a market

 participant's average daily trading volume across

 all products. Specifically, supplemental proposed

 section 1.3(x)(2) requires potential AT Persons to

 determine whether they trade at least 20,000

 contracts on average per day over a six-month

 period. The calculation would include contracts

 that potential AT Persons trade for their own

 account, the accounts of customers, or both. In
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 addition, AT Persons would be required to

 calculate their average daily trading volume

 across all products on the electronic trading

 facilities of all DCMs on which they trade.

 Pursuant to supplemental proposed

 section 1.3(xxxx), a market participant may fall

 under the definition of AT Person in one of three

 ways.

 First, the category of AT Persons

includes market participants currently registered

 or required to be registered with the Commission

 that engage in algorithmic trading and satisfy the

 volume threshold test.

 Second, AT Persons include new floor

 traders, i.e., market participants not currently

 registered with the Commission that engage in

 algorithmic trading, utilize direct electronic

 access, and satisfy the volume threshold test.

Third, a person who does not satisfy

 either of the other two prongs of the AT Person

 definition may nevertheless elect to become an AT

 Person, provided that such person registers as a
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 floor trader and complies with all requirements of

 AT Persons pursuant to Commission regulations.

 The volume threshold test is intended to

 facilitate the identification of AT Persons

 through the use of clear numerical standards that

 can be easily calculated by market participants

 and are verifiable in the Commission's data.

 Staff believes that the volume threshold test is

 an appropriate vehicle to define the scope of AT

 Persons. Staff also believes that the proposed

 volume threshold test best matches the goals of AT

 Person regulation, including risk controls,

 recordkeeping and testing and monitoring

 requirements that would prevent and reduce the

 risk of market disruption caused by technological

 malfunction or other error. Staff estimates that

 the proposed volume-based criteria would result in

 approximately 120 AT Persons, including

 approximately 70 market participants who are

 already registered with the Commission in some

 capacity and approximately 50 new registrants.

 MR. PUJOL: Thank you, Joe. Mr.
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 Chairman, and Commissioners, this concludes

 staff's presentation and summary of the

 supplemental NPRM. We would be happy to answer

 any questions you may have of us, and we thank you

 again for your time and consideration.

 CHAIRMAN MASSAD: Okay. Well thank you

 Sebastian, Joe and Marilee. Let me also note, in

 addition to the representatives of the Division of

 Market Oversight, we have John Dunfee from the

 Office of General Counsel and Michael Penick from

 the Office of the Chief Economist available, as

 well. So to open the Commission's discussion and

 consideration of this rulemaking proposal, I will

 now entertain a motion to approve and issue the

 supplemental proposal related to automated trading

 as presented by the staff.

 

 

 

 

 COMMISSIONER BOWEN: So moved.

 CHAIRMAN MASSAD: Okay. Second?

 COMMISSIONER GIANCARLO: Second.

CHAIRMAN MASSAD: With that I would now

 like to open the floor to allow the Commissioners

 to make any statements and ask any questions that
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 they may have. And I will turn first to

 Commissioner Bowen.

COMMISSIONER BOWEN: No questions.

 CHAIRMAN MASSAD: Okay. Let me turn to

Commissioner Giancarlo.

 COMMISSIONER GIANCARLO: Let me begin by

 expressing my great respect for the staff that's

 worked on this. You've all been very responsive

 to questions from my team and I thank you for

 that. I do have a few questions. A focus of mine

 has been the subpoena process. So I do really

 want to start with that. And I want to make sure

first of all, I understand that right now before

 this rule, if it's passed or not, but as we stand

 today, if the staff wants to view source code, it

 can provided it gets a majority of the Commission

 to agree to the issuance of a subpoena. If this

 proposal passes, if the staff wants to view source

 code, it will still need to get a vote of a

 majority of the Commission. So procedurally, am I

 correct that at least for CFTC procedures that

 step is still the same?
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 MR. PUJOL: Yes, that's right.

 MR. MCGONAGLE: So for clarification,

 Commissioner, the staff of the Division of Market

 Oversight has not sought access to source code to

 date. And so if the question is whether staff

 could utilize some process within DMO to access

 source code today, the question would first

 involve whether the code, as defined, or the

 interest of staff fall within either the

 recordkeeping obligations to the extent it

 involved a Commission registrant or, separately,

 are the records of the transactions of the

 individual where the interest is, is that

 individual a reportable trader that would be

 subject to a special call? So while the division

 hasn't exercised its authority to get source code,

 I think there is an open question currently 

 concerning whether staff within the Division of

 Market Oversight might have access to what we've

 been referring to as source code here, which may

 also include the log files.

 CHAIRMAN MASSAD: If I may interject
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 just to clarify. Division of Market Oversight in

 its surveillance capacity has not accessed source

 code. Obviously, Enforcement has -- several times

-- and that's where the subpoena -- because we

 issue subpoenas for enforcement and we don't for

 surveillance.

MR. MCGONAGLE: That's right.

COMMISSIONER GIANCARLO: So to put it

another way, in the past where we've obtained

source code, it's been pursuant to a subpoena.

 MR. MCGONAGLE: Yes. My understanding

 is that the agency access to date for source code

 has been through the Division of Enforcement.

COMMISSIONER GIANCARLO: Through a

 subpoena and that's been voted on by the

 Commission and what you are proposing here to

 obtain source code would require a vote of the

 Commission. And what I'm seeking to establish is

 that that requirement to obtain a Commission vote

 would remain the same as it is today or if it, the

 rule passes in the future.

 MR. MCGONAGLE: Yes, that's correct.
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 MR. MCGONAGLE: In the event the

Commission were to adopt the proposal today,

that's right.

 COMMISSIONER GIANCARLO: So from CFTC's

 point of view, the procedural burden is

 practically the same, needing to get a vote of the

 Commission.

COMMISSIONER GIANCARLO: Right. So now

 let's look at it from the point of view of the

 American people, automated traders who are asked

 to turn over their algo source code. Right now

 they are protected under the Fourth Amendment

 against unreasonable searches and seizures, which

 means the right to a pre-decision review before a

 neutral decision maker. That's the subpoena

 process. And it allows the owners of property to

 go to a judge and seek to have the request either

 limited in scope, in duration, or other controls

 around the data being turned over. Under this

 proposal, while it may remain the same

 procedurally for the CFTC, we take away the

 procedural rights of the property owner. They
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 1 just have no choice if this rule is passed, but to

 hand over their source code and basically shut up.

 How is that fair?

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 MR. MCGONAGLE: Thanks, Commissioner.

 So with respect to the records that we are

 discussing, a point of this proposal is to clarify

 that the books and records requirements do extend

 to source code and the log files. As I mentioned

 before, there may be a question under our current

 rules whether and how staff have access. However,

 being particularly focused on the question of a

 taking, the interests that are set forth here

 relate to CFTC's oversight with respect to trading

 that occurs on our markets.

 The proposal that we've set up for

 source code as a trade secret is the same as we

 would apply, frankly, to other trade secrets that

 the Commission has access to -- trading strategies

 by traders. And that is, to the extent that the

 information is relevant to the inquiry regarding

 trading on our markets, staff may have access to

 that information.
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 That access to information doesn't

necessarily take away from the trader or their

ability to use that trade strategy. The trader

can continue to use that strategy and the balance

that gives that trader the ability to continue to

use the strategy is, of course, the requirements

that the agency staff have with respect to the

confidentiality of that information.

 So while we can evaluate and review

trade information to conform compliance with the

Act or to understand trading activity in our

markets, the traders continue to use that source

code or that trade secret as it were, as otherwise

appropriate, of course unless and until some

subsequent enforcement action occurs.

COMMISSIONER GIANCARLO: Okay. So let's

talk about that process with the CFTC review. Am

I correct that today's proposal lists various

statutes and regulations in it in the preamble and

in the rule text that require confidentiality?

 MR. MCGONAGLE: Yes, we cross-referenced

existing confidentiality provisions under the Act
 

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 COMMISSIONER GIANCARLO: Right, so that

 was my second question. So those confidentiality

 provisions that we're cross-referencing are

 existing confidentiality requirements, they are

 not new ones that we're imposing?

 in the regs.

MR. MCGONAGLE: Yes, that's right.

 COMMISSIONER GIANCARLO: Okay. So --

 MR. MCGONAGLE: Just one clarification,

 the proposal adopts and incorporates within the

supplemental, confidentiality requirements. So

 there'll be an additional confidentiality

 obligation for staff just by virtue of the

 proposal if accepted.

COMMISSIONER GIANCARLO: Okay. But if

 we're really serious about confidentiality, why

 wouldn't we have included some new heightened

 protections? For example, why wouldn't we at

 least agree that when we are done with our review,

 we would either give back the source code or

 destroy it and not leave it in our premises. Or

 why would we not put in other protections, such as

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 1 who has access or that perhaps it might be kept

 offline and not accessible in an online basis.

 Why couldn't we build in some new protections?

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 could consider whether additional affirmative

 protections should be available for this type of

 trade secret. I would indicate that for market

 participants who view their information as

 confidential, there is an expectation that all

 information that the Commission receives are

 treated confidentially. But to the extent that

 there are additional restrictions or obligations

 for the manner in which staff access the

 information to assure compliance with the

 confidentiality provisions, that certainly makes

 sense.

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 COMMISSIONER GIANCARLO: Okay, thank

 you. And then my last series of questions has to

 do with more of a broader theme. And that is for

 the past few years American tech firms have been

 supported by the U.S. government, the State

 Department, in fighting a Chinese law that would
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force them to hand over source code to agencies of

 the PRC government. Do you think that what we are

 trying to do here is at odds with our government's

 efforts against the Chinese effort to obtain

 source code of tech firms?

 MR. MCGONAGLE: So I wouldn't propose to

 be an expert with respect to global intellectual

 and privacy requirements. I can say within the

 context of the jurisdiction that we have in the

 agency to ensure that our markets operate in an

 orderly and safe fashion that the requirements

 that we propose here are consistent with those

 obligations.

 COMMISSIONER GIANCARLO: Okay. I have no

further questions. I would like to give a

statement.

 

COMMISSIONER GIANCARLO: Thank you,

 Chairman. And I thank the staff for those answers

 to those questions and for your very comprehensive

 presentation. I've previously said that proposed

 Reg AT is a reasonable first step in catching up

CHAIRMAN MASSAD: Please go ahead.
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 to the transformation of modern financial markets

 by algorithmic trading and other new exponential

 digital technologies. There are practical and

 useful elements in the proposal that could serve

 as the basis for an effective rule. And some of

 the changes to the supplemental are quite

 sensible, and I commend the staff for that.

 But there are also some problematic and

 inconsistent provisions ranging from prescriptive

 compliance burdens to a disproportionate impact on

 small market participants. A number of these

 concerns are described in my written statement.

 But more importantly, I've warned that any public

 good achieved by the rule is, in my mind, undone

 by this provision that proprietary source code

 used in trading algorithms be accessible at any

 time, anywhere to the CFTC and to the Justice

 Department without a subpoena. And in these

 remarks I want to drill down into that a little

 bit.

 Let me make clear at the outset the

CFTC, as Vince said, can today obtain the computer
 47

 1 source code of market participants, pursuant to a

 subpoena. Therefore, the issue raised by the

 proposed rule is not whether the CFTC can examine

 the source code of automated traders where

 appropriate, to investigate market misbehavior.

 The CFTC can and does today.

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 7 The issue raised by this proposal is

 whether the owners of source code have any say in

 the matter. The subpoena process provides

 property owners with due process of law before the

 government can seize their property. It protects

 owners of property. The subpoena protects the

 owners of property. It doesn't protect the

 government.

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 to challenge the scope, the timing and the manner

 of delivery and whether any legal privileges apply

 to the process of handing over property. The

 subpoena process therefore, provides a fair

 compromise between the rights of property owners

 and the government's rights to seize their

 property. Without the subpoena process, there is

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 no balance between the civil liberties of the

 governed and the unlimited power of the

 government. Without it, civil liberties can be

 abrogated to smooth the way for government

 searches in the name of state security.

As a foundation of civil liberties, the

 subpoena process precedes the American Republic

 going back to English Common Law. As a legal

 principal, it is woven into our Bill of Rights.

 And as a bulwark of modern civil society, it

 protects the liberty of the governed from the

 potential tyranny of the government.

 The supplemental notice before us today,

 however, would strip owners of intellectual

 property of due process of law. This abridgement

 of rights is justified with the condition that

 before the CFTC can take source code, it will

 abide by two procedural hurdles -- a majority vote

 of the Commission and the operation of the special

 call process by the Division of Market Oversight.

 Well, that justification entirely misses the

 point. Abrogating the legal rights of property
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 owners is not assuaged by imposing a few

 additional procedural burdens on the government.

 Owners will still have lost any say in the matter.

 The proposal still gives unchecked power to the

 CFTC to decide if, when, and how property owners

 must turn over their property.

 Moreover, utilizing DMO's special call

 procedures to seize source code provides an

 end-run around the subpoena process. There is

 nothing in the supplemental notice that I can see

 to limit DMO's sharing of gathered source code

 with the staff of the Division of Enforcement.

The proposal would allow Enforcement to

view source code without having to bother, as they

do today, to get a subpoena.

Now commentators have rightly questioned

 what level of security the CFTC will deploy to

 safeguard seized source code. The supplemental

 notice lists the various statutes and regulations

 that require confidentiality. The proposed rule

 text also includes a reference to a specific

 Commodity Exchange Act provision that prohibits
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 the release of trade secrets and other

 information. That is all well and good. Yet

 these are not new protections. They are in place

 today. Simply citing them in the preamble in the

 rule text gives little assurance that this

 information will be safeguarded.

If the agency is determined to protect

 confidentiality, then it should include specific

 protections in the proposed rule.

 As I said, it could provide that it will

 only review source code at the property owner's

 premises or on computers not connected to the

 internet. The CFTC could also state that it will

 return all source code to the property owner once

 its review is finished. Today's proposal doesn't

 provide any of those protections.

 Absent specific measures, I have to say

 it's absurd to suggest that source code will be

 kept secure. Just look at the area of government

 cyber security. In the six months after the CFTC

 proposed Reg AT, hackers breached the computer

 networks of the FDIC and the Federal Reserve.
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 1 Incredibly, the U.S. Office of Personnel

 Management that gave up 21.5 million personnel

 records, including mine, my children and my wife's

 in a yearlong cyber penetration, failed the

 security audit last November, six months after the

 breach was discovered.

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 13 Last Friday we learned that a former

 employee of the Office of the Comptroller of the

 Currency downloaded thousands of files from the

 agency servers onto two removable thumb drives

 prior to retiring from the agency. The OCC said

 that when it contacted the former employee about

 those files he was, "Unable to locate or return

 the thumb drives to the Agency." News of that

 security breach surely sent shivers up the spines

 of automated traders who received notice the same

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 The CFTC itself, I'm sad to say, has an

 imperfect record as a guardian of confidential

 proprietary information. If this rule proposal

 goes forward, it will make itself a target for a

 broader group of cyber criminals, including now

 those engaged in cyber espionage.
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 1 day of the CFTC's intention to move forward with

 2 this proposal.

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And they must have been doubly spooked a

 few hours later when the CFTC's own servers were

 crashed by a denial of service attack. If the

 CFTC adopts the source code provisions of the

 supplemental notice, the SEC will likely copy it,

 and so will other U.S. and overseas regulators.

 And not just regulators of financial markets,

 regulators like the Federal Communications

 Commission may demand Apple's iPhone source code.

 The Federal Trade Commission may seek the source

 code used in the matching engines of Google,

 Facebook and Snapchat. The National Security

 Agency may demand to see the source code of

 Cisco's switches, Lucent's routers and Oracle's

 servers. The Department of Transportation may

 demand Uber's auction technology and Tesla's

 driverless technology source code. All of this in

 the name of state security.

 Where does it end? Well it certainly

won't end on American shores. Overseas regulators
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 will also mimic the rule. The German Chancellor

 said last week that she wants her government to

 examine the source code used in the matching

 engines of Google and Facebook because she does

 not like their political coverage of her

 administration.

 Now as I mentioned, the Chinese

 government has already tried to put in place a

 rule to obtain the source code of U.S. technology

 firms. If the CFTC adopts this rule, I hate to

 say it, but it will make a mockery of the U.S.

 government's past attempts to oppose China's

 desire to view proprietary commercial source code

 and will confirm that the CFTC is not on the same

 page as its own government counterparts.

Unfortunately, this proposed rule is a

reckless step onto a slippery slope. Today the

Federal government is coming for the source code

of seemingly faceless algo trading firms.

Tomorrow, however, governments worldwide may come

for the source code underlying the storing and

matching of American's most personal information
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 1 -- their Snapchats, their tweets, their

 Instagrams, their online purchases, their choice

 of reading materials and their political and

 social preferences. Seriously, where does it end?

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 5 Fortunately, our country's founders

 protected Americans against such unreasonable

 searches and seizures and guaranteed them due

 process of law in our U.S. Constitution. The

 Supreme Court has routinely and recently upheld

 these fundamental civil rights. If the Commission

 adopts today's proposal, its source code seizure

 provisions will likely be challenged in Federal

 court. The litigation will consume the agency's

 precious and very limited resources and will erode

 its credibility in defending such a dubiously

 constitutional rule. That will be a sad waste of

 our resources and of taxpayer money.

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 Now it's been my general practice as a

 CFTC Commissioner to vote to put out proposed

 rules for public comment, even when I have

 substantial concerns and issues. That's because

 on most proposals there are reasonable difference
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 of opinion, and I want to hear a broad range of

sensible views before making a final decision.

I've taken this approach also because of

the enormous respect I have for my two fellow

Commissioners. We were sworn in together 28

months ago, and it remains an honor and a

privilege to serve alongside them. So it's a

disappointment that on this rule I must depart

from my preferred practice of voting in favor of

proposed rulemakings. But Reg AT is really unlike

any other rule proposal that I've seen in my time

on the Commission.

 What should be a step forward by the

 agency, in its mission to oversee 21st century

 digital markets, is being squandered by this giant

 lurch backwards in undoing Americans' legal and

 civil and constitutional rights. The staff

 recommends that we adopt Reg AT in order to

 address the growing incidence of algorithmic

 trading and to determine if algorithms are

 disrupting financial markets. And yes, that is an

 important goal. Automated trading does indeed
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 present a number of critical challenges to our

 markets. My many meetings with America's farmers

 and ranchers and other end-users have convinced me

 that the CFTC must quickly catch up to the digital

 transformation of our financial markets. Yet

 jettisoning the subpoena process does not address

 the challenge of automated trading. It just

 strips the firms we regulate of their

 constitutional rights. Other than that it really

 does nothing to enhance market health, durability

 and safety.

In closing, I note that Benjamin

 Franklin is said to have warned that a people that

 are willing to give up their liberty for apparent

 security deserve neither and will lose both.

 Franklin was right. Reg AT is a threat to our

 people's liberty and their security. After 12

 score years of ordered freedom in America, Reg AT

 is a degree turn in the direction of unchecked

 state authority. If adopted in its present form

 it will put out of balance century-old rights of

 the governed against the creeping power of central
 

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 government. Thank you.

 CHAIRMAN MASSAD: Thank you. Let me

 just start with a question. We have a

 surveillance function. We monitor the markets.

 If we see a disruption or abnormal trading, and

 let's say we, you know, based on the transaction

 data we get we think, gee, that abnormal activity

 was perhaps caused by this particular trader

 because we have very good insight into who is

 trading. We know the participants. So let's say

that's a trader who, I don't know, it's a floor

 trader. They're registered with us. But it's

 kind of the traditional old days right?

 And so let's say they were engaged in a

 strategy to manipulate the markets. In fact,

 there are trading logs, there are emails, there

 are phone calls that evidence that because they

 kind of communicate -- you do this then, and then

 I'll do this in this other market, and whatever.

 How would we go about getting that

 information? And let's say -- actually, let's say

 it's not clear they were engaged in it, right.
 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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 Let's say there is a question, maybe what they did

 was fully compliant, maybe it wasn't. So

 Enforcement is not in the picture yet. We're just

 engaged in surveillance. How would we go about

 getting that today?

MR. MCGONAGLE: Yes. Thank you,

 Chairman. The division staff, Division of Market 

 Oversight, as well as CFTC staff to the extent

 that records are required to be maintained. And

 so records relating to the transactions executed

 on designated contract markets, for example, are

 open to inspection and access by staff and also by

 the Department of Justice.

 CHAIRMAN MASSAD: So today you would

 just call up the participant. You wouldn't even 

 come to the Commission. There wouldn't even be a

 Commission vote?

 MR. MCGONAGLE: That's correct,

Chairman. We would utilize our staff to reach

out, to speak to the market participants, to work

to get an understanding about what their position

in the market is. And what's their intentions
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 concerning the positions that they have.

 CHAIRMAN MASSAD: And they would have to

 turn over those records to us. I suppose they

 could refuse, and you know, then we take them to 

 court. But basically given our jurisdiction,

 given our responsibilities, they would have to

 turn that over to let us inspect it.

 MR. MCGONAGLE: In most instances market

 participants are very forthcoming to talk about

 how and why they are trading in the markets.

 CHAIRMAN MASSAD: And we've probably

done that a few times.

 

 CHAIRMAN MASSAD: Maybe a few hundred,

 maybe a few thousand, maybe tens of thousands.

 Whatever, okay. So instead, let's say the trader

 is an algo-trader. So the strategy, and again

 it's not clear whether this is a strategy that is

 compliant with the law or not. Strategy is, you

 know, in an algo. And of course first there might

 be several things we would do. We might just call

 them up and talk to them. "What were you doing?"

MR. MCGONAGLE: That's right, Chairman.
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 We might look at message data. You know, we might

 address our concerns through any number of ways.

 But if it came to it, "You know what, you've told

 us certain things. We're still not so sure. We

 want to see the source code," then what we're

 really saying here is because now the strategy

 isn't in emails. It isn't in phone calls. It

 isn't in these other old world records, we might

even call them today, it's in ones and zeros in a

 computer code. Sorry, we can't have that.

 That's where we are. Unless we decide

 to bring an enforcement action, obviously which,

 you know, the investigation itself implies --

 making the appearance of wrongdoing. A lot of

 firms don't like to get subpoenas because, you

 know, of that. But if we went that route,

 Enforcement could seek a subpoena. Of course,

 Enforcement might not even want subpoenas.

 Sometimes Enforcement calls rather than DMO calls

 and people say, "Oh gee, I better, you know, give

 it." So a lot of times Enforcement gets things

 even without subpoenas. Have I got it basically
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 right?

MR. MCGONAGLE: Yes, Chairman.

CHAIRMAN MASSAD: Okay. So in other

 words if you trade in our markets under the old

 world ways, you are subject to surveillance. But

 if you trade in our markets under the new world

 ways of algos, "Oh no, that's a violation of the

 Constitution," if we ask to see something that

 evidenced your trading strategy.

 MR. MCGONAGLE: So again with the point

 that I had made with Commissioner Giancarlo

 earlier, to the extent that staff were interested

 in evaluating currently today under our existing

 rules, we would issue a special call and whether

--

 CHAIRMAN MASSAD: I get it.

MR. MCGONAGLE: We could, yeah, that's

 right.

 CHAIRMAN MASSAD: In other words, today

 you haven't done it. DMO hasn't done it.

 Enforcement has done it. But if you haven't done

 it, that doesn't mean you couldn't --
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 MR. MCGONAGLE: Right.

CHAIRMAN MASSAD: -- for what we're

seeking today. Let's remember, the first thing we

are trying to do today is preserve the source

code. Is that right? Because we want to make

sure it's preserved, again for a very small group

of participants.

 MR. MCGONAGLE: That's right. The

proposal seeks to clarify for recordkeeping

purposes for those category registrants which we

expect based on the volume measures would capture

a small subset of the market. But those market

participants who have a substantial impact in the

market by the volume of their trading that their

source code and associated records be maintained

in the event of a need by special call or

separately for Division of Enforcement under a

subpoena.

 CHAIRMAN MASSAD: Okay, all right. So I

guess to my mind what we're trying to do here is,

we are not changing our process. We're updating

our rules for the fact that the way trading is
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 conducted has changed. All right, so let me maybe

 make a few more comments in response. And I have

 great respect for both of my fellow Commissioners.

 I agree with Commissioner Giancarlo's statements

 that we have worked very constructively together.

 And I think including on this rule. I had hoped

 that, and I still hope, that what we have proposed

 today actually was a compromise. There are those

 who didn't even feel we should require a

 Commission authorization, given that we, again,

 don't -- to get trading strategy if you write it

 down. But we thought that this would be a good

 compromise.

 So let me address a few points. First,

 just because, you know, we get into this and there

 is lots of things mentioned. And I hear talk

 about, you know, deprivation of property or

 takings or so forth. I mean, we're talking about

 looking at records. We're not talking about

 taking property. The notion of a "taking" to me

 means you can't use that property. The government

 takes it away from you. If we go look at source
 

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 code, the trader can still trade. We're not

 telling him to stop. The real concern, I think

 here, and I recognize it as one we should address,

 is the confidentiality, making sure it's

 confidential and kept confidential so that the

value of that code is not diminished. And we do

 take that seriously. But I just want to first get

 on the table that I don't think we're talking

 about, you know, a taking in a constitutional

 sense.

 Second, there was a mention of cyber

 security in the recent DDOS, Distributed Denial of

 Service Attack on our website. Of course, you

 know, the entire East coast was hit by this --

 Netflix, Twitter, lots of organizations were hit

 by this. But all we're talking about here is so

 much traffic that it overwhelms your website for a

 brief period of time. And in our case that did

 happen for parts of the website. Parts of the

 website were still fine. People could access it.

 But let's be clear, no one hacked into our system.

There was no breach of confidential information.
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 And we're not proposing today to put anyone's

 source code on our website.

 So to suggest that because, you know,

 our website was overloaded by traffic we shouldn't

 be allowed to conduct our responsibilities, you

 know, sort of like saying, "Well, let's all not

 subscribe to Netflix or maybe even any other movie

 service or Twitter or use JP Morgan or Bank of

 America because lots of organizations have had

 DDOS attacks." It's simply the nature of the

 world today.

 Again, that's not to say that we don't

 take confidentiality extremely seriously. And you

 know, on that point, to Commissioner Giancarlo's

 point, we've outlined in the preamble a number of

 the things that we could do, including viewing

 source code on a computer that is not connected to

 the internet or any other website. The specifics

 I think are going to depend on the case.

And again, first of all, the fact that

 we would have the ability under the rule to look

 at it, doesn't mean that we would even need to in
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 a lot of cases. We might just call up the

 participant and get our questions answered. But

 if we needed to look at it, you know, perhaps we

 could go to their office and look at it. Of

 course, if we went to their office and look at it,

 we'd have to be concerned about, you know, the

 fact that they could probably tell exactly what

 we're looking at and maybe even reverse engineer

 what we're doing, and that could compromise our

 ability. So, you know, you have to decide these

 things on a case by case basis. You can't say,

 "Oh, in every single case we will look at it at

 their office."

 But again, I think as the preamble says,

 we take the confidentiality thing very seriously.

 As far as employees -- our employees are subject

 to statutory prohibitions on the use of

 information that they gain by working here. It's

 not just statutory, it's criminal, criminal

 penalties. So you know, unless we're suggesting

 they should be drawn and quartered, I think the

 penalties today are pretty severe. So, you know,
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So what we're proposing today, I think,

is a level of review that addresses what you get

by virtue of the subpoena. It would go to the

Commission. As far as the rights of the

individual, truth is, you know, we have the

jurisdiction. That's our job. It's our job to

survey the markets to enforce the laws. And, you

know, that's simply kind of the fact, if you are

going to trade in these markets.

finally, why not just a subpoena then. I'm sure

some would say, if you're going to go to the

Commission why not just make it a subpoena? Well

again, that's not the way we have operated in the

past. The Division of Enforcement uses subpoenas

often when the person is not a registrant or when

they are concerned that the person won't

cooperate, or maybe there is an emergency or

something like that. They often get a lot of

information without subpoenas. There are a lot of

agencies that issue subpoenas without it even

going to the Commission.

Also, as far as confidentiality, I would
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point out we have gotten the source code and many

times through enforcement actions. There haven't

 been breaches. So I think it might be helpful to

 think about the track record rather than, you

 know, what may have happened to OPM.

 Finally, let me just say on the slippery

 slope point, it strikes me as the wrong metaphor.

 This is not a slippery slope, this is an uphill

 climb. It's an uphill climb because our markets

 have evolved much faster than our regulatory

 framework. And we are trying to climb up a steep

 hill to catch up, to be able to see what is going

 on in our markets today and engage in adequate

 oversight. And this information could be

 critical. Again, I speak to, and I know both of

 you have as well, a number of participants in our

 markets, what I would call the more traditional

 participants in our markets, who have a lot of

 concerns, who feel these markets have changed

 dramatically.

 And so I think we have to recognize that

 we do need to modernize our markets. Part of that
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is the ability to update essentially the

surveillance function we've been engaged in for

decades, where we do look at all sorts of

information, confidential proprietary information

of great value. And the fact that today, similar

information is embodied in ones and zeros in code,

should not make a fundamental difference. You

should not be able to hide behind machines, as I

said earlier. Are there any other comments or

Commission business?

 COMMISSIONER GIANCARLO: Chairman, I'd

just like to make one point. And I have a lot of

respect for your points, but I just do want to say

for the record that comparing records of historic

trades to the most valuable algorithmic systems

that project a firm's business strategy going

forward, are comparing apples to oranges. Trades

of historic trades, that's books and records.

Firms' algorithms that show what they will do in

the future in the event of certain market factors

is an entirely different thing.

 CHAIRMAN MASSAD: Let me just say,
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 requiring the preservation of source code because

 source code is changed all the time. What we're

 looking at in any given instance is the past. It

 is what they did. And it is the same thing as a

 trade. From the standpoint of our mission, it's

 the same thing as if you wrote down exactly how

 you want to trade on a piece of paper.

 With that I will entertain a motion to

 vote. Is that right? Is that my next move? I've

 got my script mixed up.

 We already have the motion. Okay. I

 will now ask for a vote -- all in favor -- at

 least -- I'm sorry. You are going to do it.

 MR. KIRKPATRICK: Yeah.

 CHAIRMAN MASSAD: Thank you.

 MR. KIRKPATRICK: The motion now before

the Commission is on the approval and issuance of

the regulation automated trading supplemental

notice of proposed rulemaking. Commissioner

Giancarlo?

 COMMISSIONER GIANCARLO: No.

 MR. KIRKPATRICK: Commissioner
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 Giancarlo, no. Commission Bowen?

COMMISSIONER BOWEN: Aye.

 MR. MCGONAGLE: Commissioner Bowen, Aye.

 Chairman Massad?

 CHAIRMAN MASSAD: Aye.

 MR. KIRKPATRICK: Chairman Massad, aye.

Mr. Chairman, on this matter the ayes have two,

the nos have one.

 CHAIRMAN MASSAD: Okay, therefore the

motion is adopted. Is there any other Commission

business? Sorry, thank you, there it is. Okay,

there being no further business, I would entertain

a motion to adjourn the meeting.

 

 

 

 

 COMMISSIONER BOWEN: So moved.

 COMMISSIONER GIANCARLO: Second.

 CHAIRMAN MASSAD: Okay. The ayes have

 it. Again, I want to thank the staff. There has

 been a lot of work that has gone into this. And I

 also want to thank Commissioners Bowen and

 Giancarlo and their staffs for their

 consideration. The meeting is adjourned.

(Whereupon, at 11:48 a.m., the
 

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 PROCEEDINGS were adjourned.)

 * * * * *
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 CERTIFICATE OF NOTARY PUBLIC

 DISTRICT OF COLUMBIA

I, Carleton J. Anderson, III, notary

 public in and for the District of Columbia, do

 hereby certify that the forgoing PROCEEDING was

 duly recorded and thereafter reduced to print under

 my direction; that the witnesses were sworn to tell

 the truth under penalty of perjury; that said

 transcript is a true record of the testimony given

 by witnesses; that I am neither counsel for,

 related to, nor employed by any of the parties to

 the action in which this proceeding was called;

 and, furthermore, that I am not a relative or

 employee of any attorney or counsel employed by the

 parties hereto, nor financially or otherwise

 interested in the outcome of this action.

 (Signature and Seal on File)

 -----------------------------------

 Notary Public, in and for the District of Columbia

 My Commission Expires: March 31, 2017