Statement on the Notice of the Joint Industry Plan on the Consolidated Audit Trail (“CAT”)
Commissioner Kara M. Stein
April 27, 2016
I would like to thank the staff for all of their work on this notice. In particular, David Hsu, Amy Edwards, Christopher Meeks, Carl Emigholz, Mark Donohue, Steve Samson, Rebekah Liu, Jennifer Colihan, Leigh Duffy, John Lee, Ted Uliassi, Laura Tuttle, Claire O’Sullivan, and Adam Bloomfield.
It has been a long and winding road that has brought us to this point. Nearly four years ago, the Commission adopted a rule requiring the self-regulatory organizations (“SROs”) to submit a plan to create, implement, and maintain a consolidated audit trail (“CAT”). The CAT is supposed to capture customer and order information across all equity markets from order inception through routing, cancellation, modification, or execution into a single data repository. In adopting the rule, the Commission spelled out four key qualities of data that will impact the effectiveness of the CAT: accuracy, completeness, accessibility, and timeliness. The SROs have finally submitted their proposed plan, and today we will vote on whether to send it out for public comment.
Despite the delays, I am nevertheless pleased that the SROs have finally proposed a plan for the CAT. An effective CAT is critical to ensuring the integrity of our markets. When complete, the CAT should allow regulators to trace every order and trade made in the markets, across venues and systems. This will help us to fully understand the trading that is occurring in our markets within a matter of days, instead of months. The need for the CAT has unfortunately been proven over and over again.
On May 6, 2010, a day already filled with fears of a European debt crisis, one relatively small event triggered a cascade of steep price declines in interrelated products overseen by multiple regulators. One trader’s algorithm, combined with selling pressures by high frequency traders and others, pushed E-mini futures sharply down. This ultimately brought down the SPY, which in turn brought down individual stocks and exchange traded funds. When all was said and done, over the course of 20 minutes, 2 billion shares were traded for over $56 billion. Twenty thousand trades were executed at prices that were more than 60 percent away from their prices at the start of the twenty minutes. And then, almost as quickly as it started, it was over. However, it took the Commission four months, and thousands of employee hours, to reconstruct what happened during what has become known as the “Flash Crash”.
And then, it happened again. On August 24, 2015, many stocks opened extremely and unexpectedly low. Certain stocks dropped almost 50% and then quickly recovered, for no apparent reason. There were over 1,200 trading halts that day, of which over 75% were in exchange traded funds. And, as with the Flash Crash, it again took four months for the initial report on what happened to be issued.
These months long delays in analyzing important market events are unacceptable in this digital age. We need a clear and timely picture of what is going on in our markets to better minimize risk and increase resiliency. Today, the Commission considers a plan that will hopefully help to provide this clear and timely information about our markets.
The true value of the CAT lies in tracking market orders from start to finish across multiple venues. It will also allow us to see how an order interacts and affects other orders in our markets. Dislocations can be spotted and understood. Abuses can be revealed. Moreover, by peering into the flow of trading in our markets, we can develop policies and approaches that are based on real data. However, to accomplish these goals, the data we collect needs to be timely, complete, accessible, and accurate. Today, the Commission is seeking comment on whether the plan proposed by the SROs accomplishes these goals.
For instance, does the plan meet the goal of accuracy? Today’s trading is done at incredibly fast speeds. The industry has repeatedly argued in many contexts that microseconds matter. However, the current proposal to allow reporting entities’ clocks to be out of sync by up to 50 milliseconds is inconsistent with this reality. At the speed at which today’s trading is done, this is like requiring police officers to travel by foot while the rest of the world travels by supersonic jet.
Why is this important? It is important because if the various reporting entities have clocks that are up to 50 milliseconds off, it means that the time stamp on orders will not be reliable. Indeed, allowing clocks to be out of sync by up to 50 milliseconds would mean that regulators could only determine the correct sequencing of approximately 8% of unrelated equity trades. In other words, regulators would be unable to reconstruct what happens during market wide disruptions—one of the main reasons for the CAT’s existence.
In fact, many market participants themselves depend on clocks that have far lower tolerances for inaccuracy. For instance, NASDAQ states that all exchanges trading NASDAQ securities synchronize their matching engines and quotation systems to within 100 microseconds. This is a much, much stricter standard—500 times more stringent than the one in the proposal before us today.
Additionally, the plan proposes an initial error rate of 5 percent. The error rate is the percentage of reported orders or trades in which the data reported does not fully and accurately reflect the order or trade. This means that as an initial matter, an entity reporting to the CAT could report inaccurate or incomplete data up to 5 percent of the time and still be in compliance. Is this an acceptable error rate? Would it undermine the usefulness of the CAT? Should the Operating Committee, which is made up of a representative from each SRO, be allowed to determine what the maximum error rate should be? If not, how should the allowable error rate be determined?
Does the plan meet the other goals set for the CAT—timeliness, completeness, and accessibility? If not, what needs to be done? Is the governance structure sufficient? Does it offer the proper incentives? Does it limit adverse effects on competition? I am looking forward to hearing comments on these questions and other aspects of the proposed plan.
Today, the Commission is taking a big step forward in finally establishing a Consolidated Audit Trail for our securities markets. We need everyone’s best ideas and thoughts. We must plan and prepare for the CAT in a careful and thoughtful manner prior to engaging in development and implementation. This needs to be done right the first time, and public comment is vital to this effort. I encourage everyone to comment.
 Specifically, BATS Exchange, Inc., BATS-Y Exchange, Inc., BOX Options Exchange LLC, C2 Options Exchange, Incorporated, Chicago Board Options Exchange, Incorporated, Chicago Stock Exchange, Inc., EDGA Exchange, Inc., EDGX Exchange, Inc., Financial Industry Regulatory Authority, Inc., International Securities Exchange, LLC, ISE Gemini, LLC, Miami International Securities Exchange LLC, NASDAQ OMX BX, Inc., NASDAQ OMX PHLX LLC, The NASDAQ Stock Market LLC, National Stock Exchange, Inc., New York Stock Exchange LLC, NYSE MKT LLC, and NYSE Arca, Inc.
 Securities Exchange Act Release No. 67457 (July 18, 2012), 77 FR 45722 (August 1, 2012) (“Adopting Release”); see also Securities Exchange Act Release No. 62174 (May 26, 2010), 75 FR 32556 (June 8, 2010) (“Proposing Release”).
 17 CFR 242.613(a)(1), (c)(1), (c)(7).
 See Adopting Release, supra note 2, at 45727.
 Findings Regarding the Market Events of May 6, 2010: Report of the Staffs of the CFTC and SEC to the Joint Advisory Committee on Emerging Regulatory Issues (Sep. 30, 2010), available at https://www.sec.gov/news/studies/2010/marketevents-report.pdf.
 Staff of the Office of Analytics and Research, Division of Trading and Markets, Research Note: Equity Market Volatility on August 24, 2015 (Dec. 2015), available at https://www.sec.gov/marketstructure/research/equity_market_volatility.pdf; see also Austin Gerig and Keegan Murphy, The Determinants of ETF Trading Pauses on August 24th, 2015, White Paper (Feb. 2016), available at https://www.sec.gov/dera/staff-papers/white-papers/feb2016-white-paper-determinants-etf-trading-pauses.pdf.
 See, e.g., Comments on Investors’ Exchange LLC; Notice of Filing of Application, as Amended, for Registration as a National Securities Exchange under Section 6 of the Securities Exchange Act of 1934, Release No. 34-75925, File No. 10-222, available at https://www.sec.gov/comments/10-222/10-222.shtml.
 Joint Industry Plan; Notice of Filing of the National Market System Plan Governing the Consolidated Audit Trail (Apr. 27, 2016) at 612-13 (“The Commission estimates that approximately 7.84% of unrelated orders for listed equities and 18.83% of unrelated orders for listed options can be accurately sequenced using a clock offset tolerance of 50 milliseconds.”).
 Id. at 249-50.