Quality Data and the Power of Prevention: Remarks at Meet the Market, North America
Commissioner Kara M. Stein
New York, NY
June 10, 2015
Thank you, David [Strongin, Executive Director, Global Financial Markets Association] for that kind introduction. It is an absolute pleasure to be with you today at the Meet the Market Symposium.
Before I begin my remarks, I need to remind you that the views I express this afternoon are my own, and do not necessarily reflect the views of my fellow Commissioners or the staff of the Commission.
As many of you know, I care passionately about the success of the Legal Entity Identifier (or LEI).
With the financial crisis in the rear view mirror, it is sometimes easy to forget the forces that converged in 2007 and harmed both our financial markets and our economy. The events of 2008 are indelibly etched into my memory. I remember when many of our country’s economic leaders began closed-door briefings with members of Congress. Concerned about the unfolding financial crisis, the Chair of the Federal Reserve and the Secretary of Treasury plead for help and for an unprecedented financial intervention to stave off another Great Depression. They wanted tools to protect our nation from powerful forces that were pulling the financial system deeper and deeper into distress and potential chaos. At the edge of the abyss, our economic and policy leaders developed a strategy to stabilize our financial system and unlock the halting credit markets.
Those were scary days, with millions of American jobs, and billions of dollars, on the line. Huge policy choices had to be made quickly and with imperfect information. And the consequences of those decisions continue to affect the world economy.
There was a sentiment that the financial storm that began in the U.S. and engulfed economies around the globe was unforeseen — that the storm had seemingly come from nowhere. That simply is not true. There were signs. But, the signs went unseen and didn’t seem to be connected. And, as a result, even when the storm was upon us, no one knew exactly what action to take.
Despite living in the age of “big data”, what became abundantly clear during the financial crisis was that we were unable to interpret the information we did have. Certainly, there were data gaps. But, more importantly, we couldn’t use the information that was there. Neither regulators nor market participants could fully evaluate risk exposures or interconnectedness. Opacity fueled uncertainty, and that uncertainty sparked fears that ultimately froze the credit markets and shook the financial system.
As I mentioned, the U.S. was at the epicenter of the financial crisis, but it grew and enveloped economies around the world, requiring extraordinary market interventions from the United States to Europe to Asia.
Globalization and digitalization had begun their transformation of our securities markets long before the first symptoms of the looming financial crisis. Some believe this transformation can be contained by regulatory walls or geographic borders. But, changes in technology and communications cannot be turned back.
There is perhaps no greater lesson from the financial crisis than the fundamental lesson of how technology connects everyone in the global marketplace. Risks are no longer contained by borders or walls, and they now can travel at light speed around the globe.
As globalization and digitalization increased in our securities markets, private industry was working to develop standardized identifiers for both financial instruments and firms. The paperwork crisis of the late 1960s spurred private firms and associations to seek out identification standards that could be used to identify and aggregate data. The CUSIP numbers emerged from the work of the Committee on Uniform Securities Identification Procedures. Other identifiers emerged and gained acceptance, such as SWIFT codes or Dun and Bradstreet numbers. However, a single standard for entity identification that could be consistently applied for universal coverage remained elusive.
As a result of the vulnerabilities revealed by the financial crisis, Congress stepped in and decided that financial data quality needed to be improved. Accordingly, Congress created the Office of Financial Research (OFR) to improve the quality of financial data for all regulators. In 2010, OFR issued a policy directive announcing its intention to adopt a universal standard to identify legal entities. Other regulators around the globe discussed and announced similar initiatives.
Shortly after OFR’s announcement, regulators, industry, private firms, and others began working together hand-in-hand in a global coalition to hammer out a global standard. And that private-public partnership has been a resounding success — a model that demonstrates the power of teamwork between regulators and industry. I hope that this cooperative approach can be a harbinger of things to come. This model can benefit both intermediaries and investors as our securities markets continue to evolve rapidly and in response to continuous waves of disruption and innovation. For example, I believe this model of teamwork and cooperation can be emulated as efforts continue to reduce the settlement cycle for securities transactions.
So why do I care so passionately about a 20-digit alphanumeric character, similar to a bar code that appears on grocery and other consumer products? This small but mighty tool has the power to help us prevent another financial crisis. It serves as a Rosetta Stone to clearly and uniquely identify firms and entities participating in the global financial markets.
Simply put, there has been no single pre-existing globally accepted standard for identifying market participants. Consequently, no one can readily begin to compile the most basic information necessary to comprehend the connections, exposures, and distribution of risks across the financial system.
But the global LEI system will help change this paradigm. While concerns have been raised about the system being monopolistic, I believe this private-public partnership has worked hard to implement appropriate safeguards, such as the creation of an oversight foundation that has a fiduciary duty to the public. Moreover, competition has been built into the system through the LEI governance structure. The local operating units that issue the LEIs are subject to controls and standards but have incentives to be fiercely competitive. The local operating units need to adhere to the high standards promulgated by the Regulatory Oversight Committee (ROC), but the LEI is portable from one local operating unit to another. So, in effect, the units that administer the LEIs can compete on cost and service, but they can’t compromise on quality.
This strikes the right balance between developing a common standard that can be broadly implemented, while learning from the issues and problems that have arisen when other standards have emerged without appropriate checks and balances.
All financial regulators could learn a few lessons from the success of this partnership. Four years after OFR had issued its policy mandate, LEIs were being issued. The rules had been worked out. The governance and oversight of the issuance of LEIs had been resolved. In four short years, legal entity identifiers went from an idea to a reality.
Now, over 360,000 LEIs have been issued in 191 countries, and it is time for industry to help accelerate the growth of the standard and take up of LEIs. The regulators have provided the initial momentum and have mandated LEI in a number of rules; however, it’s now time to pass the baton to the industry to accelerate the incorporation and acceptance of LEI in financial transactions around the world. You must not rest on your laurels, which are indeed laudable achievements, but instead, work to invest in the future and integrate LEIs into standard industry practice — including risk systems and reporting systems.
Greater usage of LEI has the potential to reduce both costs and burdens for participants, including reducing compliance costs and targeting risk management activities as a result of widespread usage of LEI. Essentially, greater use of LEI could increase profits while mitigating market risks. Everybody wins.
Just for the record, I’m not just challenging you; I will be doing my part throughout my tenure at the Commission. I will work to ensure that LEI is appropriately included in every SEC rule where a legal entity needs to be identified.
Recently, the Commission released rules that mandate the use of LEI when associated with security-based swap transactions. The LEI is now a component of mandatory swaps transaction reporting in the U.S., Europe and Canada. Europe has mandated future LEI usage widely, including in payment and settlement activities as well as structured finance.
Just a few weeks ago, the Commission proposed rules that would modernize reporting for registered investment companies, such as mutual funds and exchange traded funds (ETFs) and bring them into the 21st century. LEI was part of this proposal as well.
The full benefits of LEI have yet to be realized. As some companies may have hundreds or thousands of subsidiaries or affiliates operating around the world, more benefits lie ahead as the LEI becomes increasingly used. While the first phase, or “Level 1” data, serves as a corporate business card, greater incorporation of so-called “Level 2” data will allow more transparency regarding hierarchies and relationship mapping. This will support better analysis of risks as they aggregate and potentially become systemic.
The Commission needs your help in other areas. The next financial crisis will come from a new direction. We will likely have access to more data than ever before. However, the failure in 2008 also was a failure to properly interpret the data we did have. Developing a comprehensive approach to standardizing and interpreting data is critical to prevention and remediation in advance of other financial headwinds.
As a result of the crisis, the Commission is taking on more and more data projects, such as the Swap Data Repositories. The Commission also now has access to new, rich data sets through filings on Form PF and Form N-MFP that need to be analyzed.
Over the last five to ten years, data management and analysis have become more complex and require a strategic approach. I have been advocating for the creation of an Office of Data Strategy at the SEC overseen by a Chief Data Officer. This new office would ensure a thoughtful and holistic approach to data collection, business analysis, data governance, and data standards.
Other regulators have proactively moved forward on forming similar offices. I believe that the Commission needs to act now to develop a group of employees solely focused on data, including building an in-house infrastructure to facilitate the use of data throughout the agency.
One of the most important focuses of this new office would be promoting data standards and taxonomies. Data standards and taxonomies play a vital role in both the quality and utility of data. It is critical that we approach data standards as a community and not in isolation and an Office of Data Strategy could help facilitate and lead such efforts.
A key role of such an office would be identifying data gaps and refining existing data collections. This should be an evergreen process whereby the Commission — through the Office of Data Strategy — is constantly seeking to improve upon its data quality and filling gaps. We should be testing our forms and data sets continuously, and searching for better ways to obtain clear, usable data. As we analyze data and receive feedback from market participants, we can tweak and refine how we collect and ask for data to produce better, more reliable results.
It is also important for the Commission to think globally about standards and data. For example, the International Organization of Securities Commissions (IOSCO), in conjunction with the Committee on Payments and Settlement Systems (CPSS), has been working to develop a framework for derivatives data reporting and aggregation requirements. This work parallels and supports the important work already being done at the Commission in our efforts to establish a taxonomy for swaps reporting.
The next challenge is to bring to life additional coding schema that will enable a new depth of data aggregation. The development and use of a unique product identifier (UPI) and a unique trade identifier (UTI) will empower global risk analysis across all market participants and the products they trade. These are challenging initiatives, and we will need a private-public partnership to get them done. In fact, you may be in the best position to do the heavy lifting. I hope that we can all build on our relationships and past work to advance UPI and UTI
Again, as I’ve stressed throughout my remarks, it is critical that we work together as a community, rather than independently.
In conclusion, I’m proud of the work that regulators and industry have done together on LEI. I think it’s a model for how we can improve data aggregation and usability, and help prevent and respond to future financial system issues and problems.
Thank you for inviting me to join you today, and I hope you enjoy the rest of this Meet the Market event.
 See, e.g., the Term Auction Facility (TAF), Primary Dealer Credit Facility (PDCF), and the Term Securities Lending Facility (TSLF). For descriptions of these programs, see, http://www.federalreserve.gov/newsevents/reform_taf.htm (reflecting $3.8 trillion in TAF loans), http://www.federalreserve.gov/newsevents/reform_pdcf.htm (for PDCF, reflecting $8.951 trillion in PDCF loans), and http://www.federalreserve.gov/newsevents/reform_tslf.htm (reflecting $2.319 trillion in TSLF loans, market value).; the Commercial Paper Funding Facility (CPFF), Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (AMLF), Money Market Investor Funding Facility, and the Term Asset-Backed Securities Loan Facility (TALF). For descriptions of these programs, see http://www.federalreserve.gov/newsevents/reform_cpff.htm (reflecting $739 billion in CPFF loans and $738 billion in purchases of commercial paper), http://www.federalreserve.gov/newsevents/reform_amlf.htm (reflecting $217 billion in AMLF loans), http://www.federalreserve.gov/newsevents/reform_mmiff.htm (reflecting $0 in total loans as the MMIF facility was never used), and http://www.federalreserve.gov/newsevents/reform_talf.htm (reflecting $71.1 billion in TALF loans).
 “In July 1964, the ABA’s Committee on Uniform Security Identification Procedures (CUSIP) was created under the Chairmanship of John L. Gibbons, Chairman of the Trust Committee of Chemical Bank New York Trust Company. The main goals of the CUSIP Committee were to develop specifications for a uniform security identification system, for devising a format for imprinting the identification number on the certificate in man/machine readable type font, and to establish an agency to administer the identification system according to specifications.”, Inside the CGS Identification System, available at https://www.cusip.com/pdf/CUSIP_Intro_03.14.11.pdf
 See Section 152 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203
 Office of Financial Research Statement of Policy with Request for Comment Regarding the Statement on Legal Entity Identification for Financial Contracts. See 75 Fed. Reg. 74146 (November 30, 2010).
 Source: openleis.com
 The use of the LEI has been mandated by the European Securities and Markets Authority (ESMA) for the reporting of derivative transactions to Trade Repositories under European Market Infrastructure Regulation (EMIR).
 See Report on OTC derivatives data reporting and aggregation requirements, available at http://www.iosco.org/library/pubdocs/pdf/IOSCOPD366.pdf