Senator Ted Kaufman's Final Remarks On Market Structure And Integrity
One of the last true defenders of a long lost honest and efficient market is riding away into the sunset. Today, at 2:15 PM Delaware Senator Ted Kaufman will deliver his farewell address on the Senate Floor. The full speech will be broadcast here. He will be sorely missed by everyone who laments the days when good news meant to buy stuff, while bad news did not mean to buy ten times more stuff. Alas, in the great race for technological supriority, the market broke some time ago, and the retail investing class, which accounts for a vast majority of the stock market's capitalization via its trillions in ever diminishing investments, has now lost all faith that stocks reflect anything but the Fed's desire to reflate the troubles of a few massively underwater bankers away. It is sad, but it is a fact. There is no more fair and efficient market. Which is why we know that those corrupt and captured cronies of the status quo at the SEC will be applauding Kaufman's departure - after all he was the last voice in Washington who dared to put up a fight for the little investor. Soon, everything will be back to normal, where the only guaranteed outcome of any stock trade is a loss. In the meantime, we present to you Senator Kaufman's last speech (of seven) on market structure issues and the unending scourge that is high frequency trading. We also present Carl "Shitty Deal" Levin's follow up comments to Kaufman's speech.
Senator Kaufman’s full remarks, as prepared for delivery:
Today I come to the floor one final time to talk about the integrity of our equity markets, a subject that I have made a central focus of my relatively short Senate tenure. It is an issue that has gained increasing attention — especially since the May 6 flash crash — yet still lacks fundamental transparency, regulation, or oversight.
A year ago I wrote to Mary Schapiro, the Chairman of the Securities and Exchange Commission, to outline my concerns. Seven times since then I have come to the Senate floor to talk about the dramatic changes taking place in our equity markets, discussing obscure practices like co-location, “naked” access, flash orders, and the proliferation of dark pools.
But the most striking change has been the rise in high frequency trading, which has come to dominate the equity markets and now accounts for well over half of all daily trading volume.
My message about high frequency trading has been straightforward: the technological advances and mathematical algorithms that have allowed computers to trade stocks in millionths of a second in and of themselves are neither good nor bad. Indeed, as an engineer, I have a deep appreciation for the importance of technological progress.
But technology cannot operate in a vacuum nor should it dictate how our markets function. Simply put, technological developments must operate within a framework that ensures integrity and fairness.
That is why our regulatory agencies are so critically important. Because while technology often produces benefits, it might also introduce conflicts that pit long-term retail and institutional investors against professional traders who are in and out of the market many times a day. As Chairman Schapiro has consistently asserted, including in a letter to me over a year ago, and I quote: "If . . . the interests of long-term investors and professional traders conflict ... the Commission's focus must be on the protection of long-term investors."
Many people have asked me why I have focused so intently on the arcane details of how stocks are traded during my short time as a Member of the Senate. There are several reasons, Mr. President.
First, it is Congress' job not just to look backwards and analyze the factors that brought about the last financial crisis. It is also our job to be pro-active and identify brewing problems before they put us into a new financial crisis.
Second, we simply must protect the credibility of our markets. I’ve said time and again that the two great pillars on which America rests are democracy and our capital markets. But there is more at stake than a structural risk that could bring our markets once again to their knees, as occurred on May 6; there is a real perceptual risk that retail investors will no longer believe that the markets are operating fairly, that there is simply not a level playing field. If investors don't believe the markets are fair, they won't invest in them. And if that happens, Mr. President, we can all agree our economy will be in serious trouble.
Third, we should have learned the lesson from derivatives trading that when we have opaque markets, disaster is often not far behind. It is hardly surprising that high frequency trading should deserve a watchful, and possibly critical, government eye. It is simply a truism that whenever there is a lot of money surging into a risky area, where change in the market is dramatic, where there is no transparency and therefore no effective regulation, we have a prescription for disaster. We had a disaster in the fall of 2008, when the credit markets suddenly dried up and our markets collapsed. We had a near-disaster on May 6, 2010.
Soon, the SEC will issue a second report on the causes of the flash crash. I hope the SEC has moved much closer to truly understanding the dramatic changes in market structure that have taken place in the past few years, the potential ramifications of high frequency trading, and its impact on retail and institutional investors.
But this is about more than investor confidence. The primary function of our capital markets is to permit companies to raise capital, innovate and grow in order to create jobs. Publicly-traded companies employ millions of Americans and are at the heart of our economy. Their stock symbols should not be used simply as the raw material for high frequency traders and exchanges and other market centers more concerned with churning out trade volume than serving long-term investors and supporting fundamental company value.
Perhaps it is not surprising, Mr. President, that our IPO markets have deteriorated dramatically and only seem to work for the largest public offerings worth several hundred million dollars. Indeed, the IPO situation today is so dire that had it been the case two decades ago, many of our most famous U.S. corporations, including Dell, Yahoo, Computer Associates and Oracle, might never have been nurtured — or perhaps even born. Many people, including the consulting firm Grant Thornton, link this phenomenon directly to the rise of high frequency trading under a one-size-fits-all set of market rules that favors efficiency of trading above all else.
As for the Securities and Exchange Commission, I believe the SEC is still in the early stages of what I hope will be an extraordinary turnaround. After years and years of deregulatory fervor, which sapped morale and led to an egregious case of regulatory capture, we now have an emboldened agency, with a beefed up enforcement division, a serious chairman, and an invigorated staff. That was evident in last week's hearing on the Fraud Enforcement and Recovery Act.
The Commission must still reform the way it gathers the facts it needs to study market issues and particularly high frequency trading. Evidence-based rulemaking should not be a one-way street in which all the 'evidence' is provided by those whom the SEC is charged with regulating. We need the SEC to require tagging and disclosure of high-frequency trades and quickly implement a consolidated audit trail so that objective and independent analysts — in academia, private analytic firms, the media and elsewhere — are given the opportunity to study and discern what effects high-frequency trading strategies have on long-term investors. They can also help determine which strategies should be considered manipulative. The recent “layering” case brought by FINRA against a high frequency trading firm was a good start, but much more needs to be done to end the “wild west” trading environment that today is eroding market integrity.
We cannot afford regulatory capture nor can we afford consensus regulation, not in any government agency, but especially at the SEC, which oversees such a systemic, and fundamental, aspect of our entire economy. Co-location, flash orders, and naked access are just a few practices that were fairly widespread before ever being subjected to any regulatory scrutiny. For our markets to remain credible — and it is essential that they do so — it is vital that regulators be proactive, rather than reactive, when future developments arise.
After a year of intense study by me and my staff, I sent a letter to the SEC on August 5, 2010 with my best summary of the market structure problems and potential solutions the Commission faces. I will now wait for the SEC report and findings, before I add or detract from my views as expressed in that letter.
Though this work must be completed in my absence, I will continue to speak out on market structure issues long after I leave the Senate. Because if we fail, if we do not act boldly, if the status quo prevails, I genuinely fear we will be passing on to my grandchildren a substantially diminished America – one where saving and investing for retirement is no longer widely practiced by a generation of Americans and where companies no longer spring forth from the well of capital flows that our markets used to provide.
Wall Street is a business, like any other business in America. But it is also different in an important way; it is Wall Street that gathers up the hard-earned cash of millions of Americans and allows them to invest in capital markets that have been the envy of the world.
These markets, like all markets, will ebb and flow. But they should never be brought down by inherent structural problems, by trading inequities, or by opaque operations that shun transparency.
Wall Street holds a piece of American capital, our collective capital, and it has a real and profound responsibility to handle it fairly. But that entails another obligation as well: to come to the table and play a constructive role with Congress and the SEC in resolving its current issues — especially the possibility of high frequency trading manipulation and systemic risk. For too long, many on Wall Street have urged Washington to look the other way, to accept the view that all is fine. If Wall Street does not engage honestly and constructively, then these issues must be resolved without their input.
And resolve them we will. The credibility of our capital markets is too precious a resource to squander; as I say every time I have the chance, it is a fundamental pillar of our nation. And if it is now threatened, Congress and the regulatory agencies will surely act. We can fashion a better solution with industry input, not a biased solution, but a better solution, one that should benefit Wall Street in the long term; one that must benefit all Americans now.
The American people deserve no less.
And Carl Levin's follow up remarks:
Mr. President, I come to the floor today simply to thank my friend, the Senator from Delaware, for his extraordinary work here in the senate and make a comment on some of the things that he's been working on.
Since coming to this body, Senator Kaufman has proven to be a tireless advocate for the state of Delaware and for the country. The remarks that he just provided are further evidence that.
Senator Kaufman joined us here and joined me on the Permanent Subcommittee on Investigations when he and his staff dug deeply into the weeds of financial statements and e-mails and information that help ferret out some of the findings of our hearings into the causes of the financial crisis. Senator Kaufman’s dedication during those hearings helped expose conflicts of interests that brought the crisis to its knees. I want to point out Senator Kaufman’s work on trading issues where those with powerful computers are able to use them to their own financial advantage while hurting long-term investors and hurting the real economy.
Senator Kaufman cares deeply about these issues and he has voiced his concerns about them in this chamber for over a year. Last year he called for a ban on flash trading, a practice in which some firms pay for a sneak peek only a few thousandths of a second long at trade. With their computers, those firms can take advantage of that split-second head start on market-moving trades. The Securities and Exchange Commission is working on rules to ban the practice, and I join Senator Kaufman in urging that this practice be stopped.
Senator Kaufman has studied the trading markets in great detail, communicating with regulators and industry participants. He has learned that our regulatory system for monitoring trade is outdated and that the technology and capabilities for those who seek to exploit loopholes in the rules is too often outpaced those tasked with their oversight. Senator Kaufman has come to this floor many times over the past several months to warn us of the risks of our current trading market structure and of his concerns with the inadequate regulatory process that we have to police them.
On August 5, he sent a letter to the Securities and Exchange Commission Chairman Schapiro, outlining proposals to address some of those concerns. His thoughtful proposals make a significant contribution to the debate over how to make our financial system safer. On May 6 of this year, we all watched helplessly as the stock market plunged nearly 1,000 points in a few minutes.
While the regulators have committed to studying it and are expected to release their report soon on the root causes of that flash crash, I cannot help but think that we in congress owe it to the families and businesses around this country to better understand what happened to make sure that we do what we can to stop it from happening again. Although Senator Kaufman will soon be departing this body, we must continue his work so that those who seek to exploit our markets to the detriment of long-term investors and the real economy will not be able to do so without a battle from the Senate. Senator Jack Reed is committed to do just that. He held a hearing in May shortly after the flash crash in which he looked into the causes of the crash.
I will join him and others and do all we can to respond to these high-tech threats to market fairness and transparency. The world of trading stocks, bonds, commodities and other financial instruments today occurs on two levels. There are those who invest for the long haul, investing in companies and products that they expect to do well for some time. They drive our economy. But then there are those who seek to invest for thousandsths of a second or just long enough to profit on split-second price swing. These traders argue that they provide liquidity to the markets. But in many cases they are actually hurting the market by promoting volatility and undermining the integrity of those markets.
As Senator Kaufman said, we owe it to the millions of families who have their savings in the markets and to the businesses that rely on the markets for the capital that they need to survive and grow to make sure that our markets function properly.
I applaud senator Kaufman for his extraordinary work on these issues and other issues in the senate. I thank him for his service. One way for us to recognize that service is to continue his quest for more fair and transparent markets.