FINRA Podcast: Regulatory and Examination Priorities - Part 4 (with Lofchie Comment)

FINRA released its podcast for April 17, 2013, focusing on market regulation priorities. See the outline below.

Algorithmic and High-Frequency Trading

• Examiners are focused on how firms are supervising the development of algorithms and trading systems.
• FINRA will continue to assess whether firms have adequate testing and controls for their systems consistent with the market access rule and other supervisory obligations.
• FINRA will also focus on whether firms have a firm-wide disconnect, or "kill switches," as well as procedures for responding to widespread systems malfunctions.
• FINRA is concerned with "momentum ignition strategies" that are meant to induce other market participants to trade artificially at high or low prices, such as "wash sales" and "layering strategies."
• Firms must adapt their surveillance and control obligations to SEC's market access rule criteria.

Adequacy of Alternative Trading Systems ("ATS")

• FINRA is concerned with the adequacy and accuracy of the disclosures these operations provide to subscribers; it is conducting a series of examinations of firms that operate these systems, as well as their affiliates.
• Examiners are looking into finding out whether these firms are consistently and accurately representing and disclosing various aspects of their ATS's to subscribers.
• FINRA is also examining whether these systems are operating consistently within Regulation ATS.

Proper Use of Options

• Examiners are focusing on situations in which firms are improperly coding firm or broker-dealer orders as customer orders, and looking into whether firms are deliberately trying to circumvent the customer designation to maintain order priority status and the reduced exchange fee.
• FINRA is also concerned with large options position reporting in situations where firms are mis-reporting positions or not reporting them even though firms are required to do so by exchange rules.

Fixed Income

• FINRA continues to have concerns about firms charging fair and reasonable markups.
• FINRA's expansion of TRACE has led to the inclusion of asset-backed and mortgage-backed securities where they are conducting surveillance on these products.

Lofchie Comment: Consistent with our comments in yesterday's news, note how many of these areas of focus involve the use of technology. See FINRA Fines Firm for System Deficiencies That Resulted in Customer Failures to Receive Best Execution (with Lofchie Comment).As to the last item on the expansion of TRACE, it is a fact of regulatory life that where TRACE goes, enforcement actions on markups follow. Accordingly, firms are well advised to review markup policies in those areas where TRACE reporting has been recently expanded, and to create a process of memorializing the justification for exceptions from those policies.

Listen to Podcast in full here (links externally to FINRA website).