I believe in competition.
We need competition in regulation. Creating competition in the Self Regulatory Organization sector I believe should be part of the plan to restore customer confidence in our markets.
I started thinking about this as reports surfaced that the CME Group could be stripped of their Self Regulatory Organization status. There are some that believe, regardless of what happened or did not happen with the MF Global situation, that for-profit companies should not be SROs. I am not judging that belief or the CME’s performance with MF Global. But I am thinking of what the future might look like and changes that could improve the perception AND performance of the industry.
A question I posted to FuturesCrowd.com was “Should the CME Group Spin-off their SRO?”
Instead of should the exchange be stripped of this, what if the CME Group had a proactive plan to restore customer confidence that included spinning off its SRO?
It is widely assumed that if the CME were stripped of its SRO status, those responsibilities would be shifted to the National Futures Association. The NFA is the industry SRO, but under the Commodity Exchange Act there is room for more than one industry SRO. I don’t think giving the NFA a bunch of new business from the CME SRO would improve the state of regulation in the industry. But some regulatory competition would.
So, the first part of my idea is for the CME to spin-off their SRO business into an independent Self Regulatory Organization and register as an industry SRO to compete directly against the NFA. I would also like to see the CME reach out to the other exchanges and their SROs inviting them to be part of this new organization.
The exchanges would still have their own regulatory staffs monitoring their markets with unique perspectives on the tape and the players behind it. But, this new organization would handle the regulatory functions of the member firms, brokers and exchange members that the exchange SROs currently handle.
This new SRO could be creative with their fees to accommodate the high frequency firms and other active traders. This new SRO would charge fees that are now part of the exchange fees aimed at supporting regulatory services. Because they can be more creative with fee structures, they could attract more business than just the current client list.
A new industry SRO, competing with the NFA, would be good for both organizations and for the markets’ participants as a result. Competition only makes you better as it forces you to work smarter.
I don’t believe the CME SRO business is a profit center. Instead, it is a cost to the company that is hidden in their myriad of exchange fee formulas. Stripping that cost out would not change the CME’s profitability, or so I am supposing.
The second part of my proposal is the fronting insurance idea. The for-profit public company CME could not take part in a fronting insurance plan, but a not-for-profit independent industry SRO could.
This newly combined exchange SRO company could sell some bonds backed by its ability to charge clients fees going forward. It could raise the money to make the MF Global customers whole, step in their place in the bankruptcy proceeding and pay off any eventual un-recovered funds with its fee structure. It could sell long dated bonds at these historically low interest rate levels to minimize the impact.
Of course, this solution does not solve the issues I mentioned yesterday in my column of complaints about the forwarding insurance idea. But then, I believe that this industry has a problem to solve and they can either pay for the problem proactively now or pay a much higher price in the future in the form of lower volumes, profits and overall opportunity.
The moral hazard is not having the foresight, the wisdom and the fortitude to do what is necessary to restore customer confidence in our markets. Our markets were built and developed for the economic purposes of price discovery and risk transfer. If we chase away the people who come to our markets to utilize their economic purposes, then it becomes little more than a casino. The CME took a good step today with their $100 million fund aimed at family farmers and ranchers.
There is a wrong expectation in this industry that exchange volumes go up every year. I can remember only one year during my career when CBOT volumes were lower. But this expectation, driven by years of experience seeing volume only go up, is wrong. Just like housing prices, exchange volumes can go down.
I don’t want a government solution to our problems. I want an industry solution. And if there is one thing this this industry stands for, it is competition. So lets enhance the self regulatory aspects of this industry and bring some competition on in this sector. Regulatory competition is a good story and the results could be even better. It could bring us even more options in how to respond to this great challenge we face.