The primary recent challenges for the futures and derivatives industry, of course, have risen from the pandemic, disrupting lives and markets in ways few people would have anticipated a year ago. It has been “the worst of times,” to borrow from Charles Dickens’ A Tale of Two Cities. The pandemic itself, however, has been in some ways the industry’s finest hour.
Notwithstanding the significant volatility and disruption caused by the pandemic, the futures and derivatives markets demonstrated impressive resilience, maintaining in large part the ability to trade, execute orders, and effectuate margin payments. The regulatory reforms and systems implemented over the past decade allowed for better price transparency, orderly trading, and for critical, timely information being available to regulators and industry participants.
In short, the industry passed its first post-Dodd-Frank stress test, and lessons learned from the pandemic will help make trading systems more resilient and more capable to handle whatever the next crisis will be. In that sense, it was the best of times. With a new administration in place and new leadership in the financial regulatory agencies, the industry can expect several developments.
More Enforcement, More Actions With Other Agencies
First, there is little doubt that the new administration will emphasize enforcement. The Commodity Futures Trading Commission had a record number of enforcement actions last year (including a record number of filings for retail fraud actions) and is expected to continue at a similar pace. It has explored theories of liability related to the Bank Secrecy Act and the Foreign Corrupt Practices Act.
The CFTC has also been filing an increasing number of actions in parallel with federal criminal authorities as well as joint enforcement actions with state regulators. These trends should continue as the CFTC continues to build relationships with these other authorities and they collectively become more knowledgeable about claims that can be brought in the futures and derivatives space.
More Clarity to Recent Rulemaking
On the regulatory front, several developments may occur. Last year the CFTC completed the major rulemakings required under the Dodd-Frank Act, so it is unlikely that the pace of regulatory activity will match that of the past year.
The agency will certainly seek to bring clarity to rulemakings it has recently adopted, such as position limits and capital, as the industry begins to implement the new rules. This may require additional interpretive guidance, advisories, or no-action relief. The agency will also revisit aspects of its rule set. This may include rules adopted shortly after Dodd-Frank or rules recently adopted rules on a divided vote.
Consistent with themes emphasized by the Biden administration, the agency will likely evaluate how concerns about climate change and social justice should impact the regulatory footprint, but it is unclear at this point what form these changes would take.
Furthermore, the agency will certainly examine the impact of social media trading recommendations from popular internet forums that have led to unexpected volatility in certain markets, such as silver.
More Attention to Cryptocurrency Market and DeFi
Finally, the industry will continue to evaluate the impact of the growing influence of the cryptocurrency market. Cryptocurrency-related derivatives continue to grow in popularity and diversify their types of offerings. It seems no longer to be a question of whether cryptocurrency will impact the futures and derivatives industry. Instead, the question is now where in the industry cryptocurrency will have an impact and how much of an impact it will have.
During the Biden administration, a host of forces are in play—from enforcement and regulatory actions to congressional activity—that should bring additional clarity to this growing market. These questions include fundamental jurisdictional questions such as which agency regulates which part of the cryptocurrency market, and how cryptocurrency products and their derivatives can be handled and traded by intermediaries. The growing space of decentralized finance, otherwise known as DeFi, should expect growing regulatory scrutiny as well.
The futures and derivatives industry has experienced a turbulent 2020. The industry can be cautiously optimistic that the coming months will start to resemble less the best of times and the worst of times, but more a return to normalcy.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Daniel J. Davis was the CFTC’s general counsel for nearly four years before joining Katten’s Financial Markets and Funds group in Washington, D.C., in January. He led and managed the CFTC’s 65-person legal division, handling all aspects of the agency’s legal operations, including litigation, rulemakings, enforcement actions, financial agency negotiations, and internal agency operations, among other areas.