New rules from the latest round of financial market regulations could dramatically change energy trading — yet many firms are moving slowly to adapt, according to a study by software provider NICE Actimize and law firm Fulbright & Jaworski.
Of the energy trading representatives polled, none thought enforcement actions were going to drop-off as new CFTC rules kicked in and the impact of the Dodd-Frank Act is felt.
But in the face of increased scrutiny from regulators, more than one-quarter of the respondents said their organizations don’t have enough staff and resources to comply with the new rules. Read the full survey here.
We asked the Actimize team (who just so happen to sell systems that do automated compliance) to talk more about what’s coming for energy traders. Excerpts are below.
When the new CFTC rules kick in, what will a trader (say, gas futures trader) find different about his or her job?
Traders may be surprised to learn that regulators may already have better compliance surveillance systems than they have now. In addition:
- The CFTC is looking to install hard position limits, rather than the limits currently managed by the regulators such as the CME and ICE
- The CME and CFTC currently monitor intraday position limit violations
- The remaining CFTC impacts are generally Dodd-Frank related
How will Dodd-Frank change things?
Firms must begin to prepare now or they will not be able to keep up with the ever0increasing regulatory requirements that are the reality of the post Dodd-Frank era. Some examples:
- Swap transactions will need to be reported to a central public data manager
- Swap transactions will need to be reported within 15 minutes of execution
- Public power, state, local and federal counterparties may have a “duty of care” attached to them — meaning a trader has the obligation to give them a “fair price”
- There is a new whistleblower program in energy trading with a “bounty” for employees who turn their company in – and they can go to the feds first
- The CFTC may implement “cross market” positions – accumulating futures and look-alike swaps in one position limit
- The CFTC has new market oversight powers that allows for expanded enforcement actions
- Each trade will be required to have a hedging purpose for hedge exemptions from position limits
Why do so few of the companies monitor intraday activity and why does that matter?
Many firms are not aware of the intraday monitoring responsibilities that they have today. Although most have invested resources on risk management systems (which monitor the impact of trading activity on the company’s bottom line) on an intraday basis, they have not yet made the same investment on compliance monitoring systems (which are more suited to measuring the impact of trading activity on the external market).
At the same time, regulators have superior monitoring capabilities that enable them to identify intraday issues and have stated that penalties will be more severe if they identify issues that the companies are unable to proactively identify and remediate.
How do firms do this manual monitoring?
Today, much of the manual monitoring is done by first generating static reports that take an extract from risk management systems and then generating an “overview” report (often tens or hundreds of pages long).
The analyst must then review these voluminous reports hoping to “spot” potential issues. Once a potential issue is identified, the analyst must then examine all the applicable trades for the day to discover which trades caused the potential issue.
If the issue appears valid, more research (accessing additional reports and systems) will be required to bring the issue to resolution.
Given the level of sophistication of systems, why such backwards methods?
Our survey indicated that there are three major reasons manual systems are still in place: Cost, resource priorities and changing regulatory requirements.
What’s the elevator pitch for NICE Actimize’s products?
The NICE Actimize Energy Trading Surveillance Solution provides a complete platform for an effective energy trading compliance program with key functionality such as monitoring and surveillance using rule-based analytics as well as historical, trend, and behavior profiles; alert and case management with complete audit trail, record retention, and documentation; oversight across affiliates, products, and instrument types; and effective controls for new regulation implementation, inventory of obligations, reporting, and new trading strategy approvals.
What do you mean by “intent-based” solutions?
Intent-based analysis is a specific detection algorithm that identifies a specific issue, such as wash trading, market manipulation, or banging the close. Actimize not only analyzes the exchange-based activity, but also activity within the physical markets such as directional changes in inventory positions, swap activity, or prompt trades. When we connect both the exchange-based and the physical activity together, a clearer picture of intent is available.
For example, consider a trader who engages in a series of transactions that appear to drive the market price of a specific futures contract upwards. This activity alone could be interesting and may or may not be indicative of inappropriate conduct. When intent-based analysis is introduced, we discover that the same trader at the same firm is also selling physical inventory and swap activity that benefits from the directional change in the price of the same futures contract. This collective information confirms inappropriate conduct.