One of many MAR requirements, which expand on the original Market Abuse Directive requirements, is to uncover sophisticated market manipulation schemes across all trading venues and OTC, rather than just on one standalone venue. This article explores MAR’s ‘inter-trading venues manipulation’ requirements, often also referred to as cross-market manipulation.
MAR requires FIs to monitor same or related-product trading across all venues and OTC, which is a step up from MAD’s narrow product and exchange scope. MAR covers all asset classes and introduces the concept of related products into regulation.
The $2.3M CFTC penalty for a cross-market spoofing scheme is a vivid example of the additional abusive behaviour covered under MAR’s ‘inter-trading venues manipulation’.
CFTC uncovered a
“scheme that involved cross-market spoofing, in which Franko [the trader] placed his Spoof Orders and Genuine Orders in different, but correlated, markets (i.e., copper futures on COMEX and LME). For example, Franko placed one or more Spoof Orders in copper futures on COMEX to benefit a Genuine Order that he placed in copper futures on LME, taking advantage of the correlation in price between these markets.”
MAR describes this behaviour as
“Undertaking trading or entering orders to trade in one trading venue with a view to improperly influencing the price of the same financial instrument in another trading venue or outside a trading venue, related spot commodity contract – usually known as ‘inter-trading venues manipulation’.”
Previous spoofing and layering models that were written for MAD type single product/venue manipulation behaviour are now inadequate. Newer, sophisticated models capable of identifying related products trading on global venues need to be employed. In order to cover ‘inter-trading venues manipulation’, new MAR-compliant (spoofing or other market manipulation) models need to be capable of performing the following steps:
- Identify sets of related products traded by FIs on all venues;
- Group related products’ orders and executions for threshold time period, per aggregation unit (trader/account/trading desk
- Scan a set of orders and executions identified in the step above for manipulative behavior (for spoofing/layering, that would be entering orders on one side of the market while executing on the opposite side of the market and subsequently cancelling or changing the original spoofing order. Other MAR compliant models should analyse the same set of cross market orders and executions for abuse patterns that are applicable to those models).
FIs compliance officers need to be able to determine if vendor models are sophisticated enough to identify same and related products and their orders and executions across global markets.
In the CFTC example, copper futures on COMEX and LME, while different products, are related and will exhibit similar price behaviour when having similar expiration. Unless the model can identify and group transactions in the same or related products traded on different venues, manipulation similar to the type identified in the CFTC ruling would go undetected and would be subject FIs to fines and reputational risks.
In addition to the fact that copper futures traded on COMEX and LME are related, options on those futures and copper swaps are also related and would exhibit price behaviour based on copper’s underlying futures prices. You can read more on this in my article on MAR ‘cross-product manipulation’ market abuse behavior.
This is a complex matter where it is vital to seek objective advice.
- We can validate your company’s individual (vendor and/or custom) model’s ability to address the MAR risk behavior that it was intended to address.
- We can analyse whether your installed spoofing and layering models address MAR’s ‘inter-trading venues manipulation’ described above. If existing model gaps are found, we document those gaps with use cases that went undetected, identify reasons for use case failures, and propose alternate models to rectify the situation.
- We can also examine your trading businesses and identify risks (missing models) from inventory that are needed to bring your firm into full compliance with MAR. And we will tune all existing and new models for best performance to minimise false positives and missing alerts.
It is paramount that your institution does not blindly rely on your vendor’s claim that their models are MAR compliant, but rather has independent and experienced advisors verify those statements. The price of reputational damage and regulatory fines far exceeds the small and imperative investment needed for this independent review.
This article is written by Senior Business Analyst Boris Sherman. Read more from the same author: