SEC: How to Limit Systematic Risk in Financial Markets

Revamping ratings agencies, volatility “speed bumps,” and robust IT: Regulator head Mary Jo White testifies on mitigating risk, SEC-style.

(July 31, 2013) – The US Securities and Exchange Commission (SEC) is on top of the Dodd-Frank Act, and has a few ideas of its own to strengthen the financial system.

On July 30, SEC Chair Mary Jo White testified before the Senate committee on banking, housing, and urban affairs on mitigating systematic risk in financial markets.

“Among the Dodd-Frank Act’s goals was to decrease the likelihood that an entity’s failure will cause a cascading failure across the financial system as a whole,” White said. 

She informed the group that the SEC had proposed or adopted rules for more than 80% of the 90-plus Dodd-Frank Act provisions assigned to the regulator.

Among these actions, the regulator has proposed a raft of policies related to increasing the transparency and reducing counterparty risk surrounding over-the-counter derivatives. 

“In advancing its regulatory initiatives, the commission also takes into account the potential disruption and cost to the market,” White noted.  

Two financial-market agents were a specific focus of her testimony: clearing and ratings agencies. The SEC adopted new rules for the former in October 2012, according to White, which mandated certain margin and capital requirements, and methods for measuring credit exposures. 

“The requirements are designed to strengthen the commission’s oversight of securities clearing agencies and promote consistency in the regulation of clearing organizations generally,” thereby helping to ensure that regulation reduces systemic risk in the financial markets, White said.

The second agents in the SEC’s spotlight—credit rating firms such as Moody’s, Standard & Poor’s, and Fitch—have yet to undergo all of the promised regulatory changes.

Dodd-Frank required that the SEC study the credit rating process for overall soundness and conflict of interest, which it did, having submitted a report to Congress in December 2012. White said the regulator held a roundtable on rule changes in May, and “plans to take further action in the near term to complete implementation of these mandates.”

White also spoke of the risk mitigating tactics the SEC has been pursuing independent of Dodd-Frank.

In March, the regulator proposed a minimum standard for the technology by exchanges, clearing agencies, and some trading systems.

Furthermore, a plan has been approved to dampen market volatility through “speed bumps” and “circuit breakers” which would halt trading briefly across markets during sharp declines in listed securities prices. The first phase of this plan was implemented on April 8, 2013. 

White closed her testimony by noting that the SEC “is committed to taking appropriate steps to address systemic threats to our financial system in a balanced manner that preserves the strengths of the system and protects investors.”

Read SEC Chair Mary Jo White’s full testimony to the Senate Committee on Banking, Housing, and Urban Affairs here.

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